OTHMAN: Evolution of Islamic term deposit in Malaysia

The company I work for started getting involved in providing IT system for Islamic banking and finance in Malaysia in 1994. When it comes to system requirements, the Mudharabah general investment account (Islamic term deposit) or fondly known as GIA, demands significant work.



GIA’s conventional counterpart is the fixed deposit (FD). The most distinct feature of GIA when compared to its conventional counterpart is on profit processing.



Here are some key features of GIA profit processing during early days of Islamic banking in Malaysia which was operating undercash basis accounting:



1) Unlike conventional FD, where the amount of interest for the whole tenure of deposit with the bank would be fixed upfront, for the Mudharabah GIA, system had to support recalculation of profit, based on the latest announced rate for the product, on the maturity of GIA. (The process of calculating the latest announced rate is based on GP2-i, the Bank NegaraMalaysia (BNM) framework of rate of return). During the investment placement, only the indicative rate will be printed on the GIA certificate. Upon maturity of the GIA, the system had to recalculate the actual profit to be paid to customer.

2)  Interim rate concept had to be introduced for the Mudharabah GIA. Since the actual profit to be paid to customer would only be known on maturity of the GIA, interim profit processing is required to cater for a periodic profit payment depositors during the interim period.

For GIA greater than 12 months, interim profit will be paid on a six-monthly basis based on the latest six months GIA profit rate announced by the bank. The final profit payment will be the total actual profit (recalculated on maturity) minus total interim profit paid.



3) For premature GIA closure (withdrawal before maturity), profit will be paid based on the latest announced rate on the product closest to the number of completed months of the account.

For example, six months GIA that was prematurely withdrawn on the 4.5th month will be paid with the latest rate of four months GIA for the completed four months that the customer maintained the GIA account with the bank.



When Islamic banking and finance in Malaysia moved towards accrual accounting, additional requirement for GIA profit processing was introduced for the system to cater for “variable rate GIA”.

 Upon declaration of the latest rates of the GIA products on monthly basis, on the effective date of the new rates, the system had to accrue profit due to customers using the latest rate. This means, by the time the GIA matures, the system would have accrued the actual amount of profit due to GIA depositors. Therefore, upon maturity, the system would just have to credit the accrued profit to depositors’ accounts.



A few years later, another investment account product based on wakalah bi al-istithmar (investment agency) was introduced. The profit processing of Wakalah investment account was also different from conventional FD.

The following excerpt from BNM Shariah resolution highlights the differences:



1) If the Islamic financial institution has breached any terms of agreement or has negligently invested in an instrument which has no potential to generate profit at the minimum rate (for example 5% per annum), the Islamic financial institution will have to pay compensation as much as the principal sum of investment plus the actual profit (if any); and



2) If the Islamic financial institution invested in an instrument that is expected to generate profit at the rate of at least 5% per annum but failed to reach the targeted rate due to problems which are not attributable to the negligent conduct of the Islamic financial institution, such loss shall be borne fully by the customer.



The above conditions mean that upon GIA placement, depositors will be given an indicative rate of 5%. Upon maturity, if the actual rate declared by bank is lower than 5%, let’s say 3%, profit based on 3% will be paid to customer. The 2% loss will be borne by the depositor unless depositor could prove that the loss was due to the banks’ negligence in managing his or her investment.



However, Islamic banking in Malaysia still treats GIA as liability and it is covered under the Perbadanan Insuran Deposits Malaysia or the Malaysia Deposit Insurance Corp. This coverage will soon end when the new framework of investment account takes effect.



BNM has issued a concept paper on the Framework of Investment Account targeted to be effective on June 1, 2015. Among its objectives are “to facilitate the orderly development and operationalisation of investment that is consistent” with Islamic Financial Services Act 2013 (IFSA) and and “to promote compliance with standards on Shariah matters”. 

IFSA has redefined investment accounts where the return of customer deposit cannot be guaranteed.

During the transition period prior to the commencing of the new framework, Islamic Financial institutions are given options to implement alternative structures of Islamic term deposit products.



As an IT solution provider in the local market, we are now getting requirements to support Murabahah term deposit from almost all banks that we are supporting. Murabahah term deposit is based on the concept of Tawarruq or Commodity Murabahah.



My observation tells me that some Islamic banks in Malaysia are slowly phasing out Mudharabah GIA. It seems there is a trend that Mudharabah and Wakalah investment accounts will be slowly replaced by Murabahah term deposit.

[Othman Abdullah is the Silverlake Group of Companies MD for Islamic banking, responsible for Silverlake Axis Integrated Islamic Banking Solution product development, marketing support and implementation services. This column appeared in THE MALAYSIAN RESERVE, 10 Feb 2014]

BNM sets end-June deadline for new Shariah framework

By Habhajan Singh & Farah Saad
Some Islamic banks and takaful operators may not meet the end-June deadline to comply with the requirements of the Shariah Governance Framework for the Islamic Financial Institutions, issued by Bank Negara Malaysia (BNM), which took effect on Jan 1.

It is understood that some Islamic financial institutions (IFIs) coming under the ambit of the framework issued in October 2010 are still behind the curve with the full implementation of the framework which includes establishing an "end-to-end Shariahcompliant control mechanism" for all aspects of their business operations to ensure that "all activities are Shariah-compliant".

"The central bank has paid a visit to some local IFIs to check on their preparedness for the framework," one industry source told The Malaysian Reserve.

BNM deputy director for Islamic banking and takaful department Rustam Mohd Idris told a forum discussing the framework in Kuala Lumpur on Monday that "our deadline is our deadline".

The document marks another key milestone in the development of Islamic finance in Malaysia and also another first for Malaysia in the global Islamic finance arena.

In the 50-page document, the central bank said it has developed the framework with "the primary objective of enhancing the role of the board, the Shariah Committee and the management in relation to Shariah matters, including enhancing the relevant key organs having the responsibility to execute the Shariah compliance and research functions aimed at the attainment of a Shariah-based operating environment".

The framework is applicable to all Islamic bank licensed under Islamic Banking Act 1983 (IBA), takaful and retakaful operators registered under the Takaful Act 1984 (TA), financial institutions licenced under the Banking and Financial Institutions Act 1989 (BAFIA) that participates in the Islamic banking scheme, and development financial institutions prescribed under the Development Financial Institutions Act 2002 (DFIA) that participates in the Islamic banking scheme.

"The new framework is more comprehensive and provide guidance on Shariah audit, Shariah review, Shariah risk management and Shariah research function," said Mohammad Faiz Azmi, who leads the PricewaterhouseCoopers Global Islamic Finance Team and is also the chairman of the Malaysian Accounting Standards Board.

Speaking at the forum on Monday, organised by ZI Shariah Advisory Sdn Bhd which is the Shariah arm of legal firm Zaid Ibrahim & Co, he said the framework also has "stricter requirements" in terms of qualification.

He said paper qualification was not mandatory in the old framework but the new framework requires that the majority of members in the Shariah Committee shall at least hold a bachelor's degree in Shariah from a recognised university.

The new framework replaces Guidelines on the Governance of Shariah Committee for IFIs issued in 2004.

At the same forum, International Shariah Research Academy for Islamic Finance (ISRA) senior researcher Prof Dr Ashraf Md Hashim pointed out that one of the special features of the new framework is the inclusion of a clause for succession planning for Shariah Committee members.

In section four of the framework, it states: "The IFI should develop a succession planning programme for the Shariah Committee members by identifying, hiring and nurturing new members with the view to entrusting them with greater responsibilities as and when appropriate."

The first objective of the new framework is to set out the expectations of BNM on IFIs' Shariah governance structures, processes and arrangements to ensure that all its operations and business activities are in accordance with Shariah.

It also intends to provide a "comprehensive guidance" to the board, Shariah Committee and management of IFIs in discharging its duties in matters relating to Shariah, and outlines the functions relating to Shariah review, Shariah audit, Shariah risk management and Shariah research istitutions are still behind the curve on full implementation of the framework which includes establishing an 'end-to-end Shariah-compliant control mechanism' for all aspects of their business operations.

(This story appeared in The Malaysian Reserve on 16 February 2010. The Malaysian Reserve is a daily business/finance newspaper published out of Kuala Lumpur, with a sectoral page on Islamic finance on Mondays, edited by Habhajan Singh)

‘No necessity for Islamic accounting standards’

By Bhupinder Singh
The Malaysian Accounting Standard Board (MASB) is expected to issue a statement of principle later this year stating that it does not think there is a need to have Islamic accounting standards.
"We feel that we can use the International Financial Reporting Standards (IFRS) unless someone can show us that there is a clear prohibition in the Shariah, then we will amend it accordingly. Until such a time, we'll use the IFRS," the new chairman of MASB Mohammad Faiz Azmi told The Malaysian Reserve.
The MASB is adopting this stance as there have not been many significant issues between Islamic and conventional accounting, which required a different set of accounting standards for the former. Even countries like Saudi Arabia have adopted the IFRS, Mohammad Faiz added. The main accounting issues in Islamic finance centre around disclosure and transparency in terms of how money is utilised. There has, however, been some confusion on the behaviour of products and how they are accounted for.
MASB will seek to use Malaysia's role as a pioneer in Islamic finance to share its experience in this field with other countries, as well as to raise concerns and issues about implementing the I FRS with the International Accounting Standards Board (IASB). According to Mohammad Faiz, the country's staggered approach to a convergence with the IFRS by January 2012 is progressing smoothly.
"We are 95% there in terms of convergence with the IFRS. We have left the two major standards because of their impact — the FRS 139 that is due for implementation in January 2010 along with the agricultural standard FRS 1431," he said.
The FRS 139 (financial instruments — recognition and measurement), an omnibus standard that covers a whole range of things, is set to impact corporate earnings reporting as this standard requires companies to record/recognise their derivative contract exposures and not just disclose them as potential claims.
The standard will also act as an anti-abuse mechanism requiring the management to state clearly their investment decisions. MASB's main challenge now is to educate the market on the need to converge and the benefits of converging, as well as to explain what and how these changes will impact the market.
"The reality is accounting does not just reflect on what you do, it may actually change the way you do business," Mohammad Faiz said. The new standards may require companies to rethink their human resource, remuneration or bonus policies, he added.
Meanwhile, the new chairman of MASB, whose tenure will run for three years, has a busy schedule ahead of him. In November, MASB will host the Asian-Oceanian Standards Setters Group's (AOSSG) first meeting in Kuala Lumpur. Set up last April, the AOSSG will be a forum for Asian countries to formulate viewpoints that will be forwarded to the IASB. The AOSSG comprises representatives from China, Japan, South Korea, Singapore, New Zealand, Australia, Hong Kong, Macau, Brunei and Indonesia.

(This story appeared in The Malaysian Reserve on Aug 17, 2009. The Malaysian Reserve is a daily business/finance newspaper published out of Kuala Lumpur, with a sectoral page on Islamic finance on Mondays, edited by Habhajan Singh)

Absence of Shariah audit a ‘serious loophole’

By Habhajan Singh
Shariah audit, one of the key missing links in the current operations of Islamic financial institutions (IFIs), is expected to gain prominence in a few years time.
A local academic, who has been studying the matter from the Islamic perspective, has said that the absence of Shariah audit is a "serious loophole" in the Islamic finance system that is now fast expanding, with Malaysia alone having 17 stand-alone Islamic banks.
A cursory examination of the Islamic financial services industry, especially in Malaysia, shows an apparent gap in the Shariah supervisory practices, said International Islamic University Malaysia's (IIUM) Dr Abdul Rahim Abdul Rahman.
He noted that even though the Shariah Supervisory Committee (SSC) — an Islamic bank's inhouse Shariah body that ensures compliance on the Shariah front — express their opinions on Shariah compliance, the thorough audit or review processes of the Shariah legal contracts, documentations and operations were rarely conducted properly.
"Without such an audit and review process will result in a functional gap of Shariah compliance processes. This gap is a serious loophole in the Islamic financial system that is founded on Shariah precepts," said Abdul Rahim who is an associate professor at IIUM's Kulliyah of Economics and Management Sciences and also a former director of IIUM's Institute of Islamic Banking and Finance (IIiBF).
Menwhile, Daud Vicary Abdullah, who has held key positions in several Islamic banks in Malaysia and is now with Delloitte Consulting Malaysia, said that Shariah audit is still at the design stage.
"There is a growing awareness of it. I sense that in the future, at some point in time, the professional services firms will be expected to conduct a review from the outside, to validate what's happening (at Islamic banks)," he said.
In a paper presented at a local Islamic finance conference late last year, Abdul Rahim highlighted Section 5(b) of the Islamic Banking Act 1983 which specifies the need for the establishment of a Shariah Advisory Council (SAC).
"That there is, in the articles of association of the bank concerned, provision for the establishment of a Shariah advisory body to advise the bank on the operation of its banking business," he said.
Here, he noted, there are two types of Shariah compliance — ex-ante compliance and ex-post compliance. The ex-ante Shariah compliance is basically the Shariah Advisory Council's (SAC) supervision, monitoring and control tasks that take place upon and during implementation of the bank's dealings.
These activities include making sure that banks and financial institutions comply with the Shariah rules and guidelines during the designing of the contracts and agreements, during the process of transactions, during the conclusion of the contract, and the execution of the contract up to the implementation of the terms of contract until liquidation, he wrote.
"So far, very few institutions undertake ex-post Shariah compliance process. Ex-post Shariah compliance process requires a thorough and comprehensive Shariah audit to review and check the transactions that took place after the execution of the contracts.
"The ex-post Shariah compliance is basically to perform the random samples of completed transactions to ensure that these transactions conform to Shariah rules and guidelines.
"An internal audit or external audit may be required to perform this where the result of the audit needs to be reported to the management," he said.
On the processes, Vicary agreed that the Shariah audit is a lot wider than just accounting as it includes areas like procesess, people and governance. Abdul Rahim noted that Shariah advisors are rarely carrying out thorough internal Shariah review or audit on the operations of Islamic banks due to their restricted scope of work.

(This story appeared in The Malaysian Reserve on June 29, 2009. The Malaysian Reserve is a daily business/finance newspaper published out of Kuala Lumpur, with a sectoral page on Islamic finance on Mondays, edited by Habhajan Singh)

MASB forum on Islamic accounting

The Malaysian Accounting Standards Board (MASB) last Thursday [25 June 2009] conducted a forum to gain feedback on the ‘Financial Reporting from an Islamic Perspective’ exposure draft. The panel session was chaired by Mohammad Faiz Azmi (3rd left) from PricewaterhouseCoopers, who has been recently appointed as the board's chairman. With him were (from left) MSB technical manager Mas Sukmawati Abu Bakar, Islamic banking veteran Mustapha Hamat and Amanie Business Solutions principal consultant Dr Syed Musa Al Habshi.