Wednesday, October 15, 2008

‘BBA not meant for long-term’


By Habhajan Singh
Islamic financing under the concept of Al-Bai' Bithaman Ajil (BBA) was never intended to be for long-term contracts like home financing as is prevalent in Malaysia, an industry observer said. However, legal experts involved in Islamic finance say the banking industry, which has been forced to reevaluate the BBA following strong wording in a July judgement by High Court judge Justice Datuk Abdul Wahab Patail, should not adopt changes in a haphazard manner.
"The learned judge's decisions are, as yet, the most severe judicial indictment of the bona fides and propriety of the practice of Islamic banking in Malaysia. "The judge's comments in the judgments call into question the very integrity of Islamic banking practitioners here, including Shariah advisers.
"Not surprisingly, the affected banks are reported to be appealing the decisions," said lawyer Mohamad Illiayas Seyed Ibrahim who has been involved in structuring Islamic finance legal documents for years.
It is understood that Mohamed Ismail Mohamed Shariff, a lawyer with considerable experience in Islamic finance who recently joined one of the nation's largest law firm Skrine, has been entrusted with the task of taking the lead in the appeal to the Court of Appeal.
Managing director of Fajr Capital Bhd Rafe Haneef, who formerly oversaw Citibank's Islamic finance business in Asia, said the BBA has been significantly extended beyond its initial scope of facilitating short-term supplier's credit.
"It has now become apparent that the long-term BBA home financing products have caused some side effects to the users," he said in response to Abdul Wahab's judgement.
In a 54-page judgement dated July 18, in the Arab-Malaysian Finance Bhd vs Taman Ihsan Jaya Sdn Bhd and 12 other cases, Justice Abdul Wahab ruled that the application of the BBA contracts before the court were contrary to the Islamic Banking Act 1983 (IBA).
He noted that the sale element in the BBA is "not a bona fide sale", bringing into question the profit portion of the facility. In the written judgement, the judge ruled that since some BBA contracts were structurally faulty, defaulters need not pay more than the original financing amount that they received, depriving banks of the profit they would have otherwise booked from the transaction.
Bankers fear the judgement could mean that current BBA financing clients would only need to pay the facility amount and would escape from paying the profit portion. On the BBA contract, Rafe said the contemporary BBA is based on the classical murabaha contract (which is simply a supplier's credit sale, for example, when a customer buys a radio on credit terms).
"However, unlike the classical murabaha contract, the BBA combines a murabaha credit sale with a binding promise by the customer to buy the goods ordered by the bank.
"The BBA facilitates financial intermediaries like banks to buy assets 'ordered' by the customer who has given the 'binding promise' and to immediately sell the assets to the customer on a murabaha basis," he said.
Post-judgement, it is understood that some banks are considering including a novation agreement for future BBA contracts, cleared under Justice Abdul Wahab's ruling.
However, Mohamad Illiayas warned against rushing into a novation, an act of substituting an existing party or debt in a contract.
"Banks were to a great extent pushed to migrate from novation agreements to property purchase agreements (PPA) in the mid 1990s by the reluctance of vendors and developers to become parties to novation agreements.
"For people used to only the conventional financing model, requiring the vendors and developers to execute tripartite agreements with purchasers and their bankers was certainly an unusual and questionable condition.
"Despite the Taman Ihsan Jaya judgment, banks should be cautioned from rushing to re-embrace the novation setup. The novation agreement structure as adopted in BBA transactions in Malaysia is, arguably, beset with conceptual difficulties," he said.
Mohamad Illiayas' full arguments appear in a two-part series beginning in the Oct 13 (Monday) issue of The Malaysian Reserve and concluding today.
(The Malaysian Reserve, Oct 14, 2008, Page 1)

1 comment:

Legal Cat said...

I have just followed this blog for a while but I find your articles are at least informative. As a young legal practitioner who is not bound to any big financier (although I do their work in the retail scheme of things) and as a student of INCEIF, I think banks are still not trying hard to shake the boat in their quest to make more profit. Some foreign Islamic bank from middle east are meeting land office and tax department trying to change the Islamic banking concept and local bank are still trying to defend a questionable practice....