SHARI’AH COMPLIANCE IN ISLAMIC BANKS AND THE ROLE OF THE SHARI’AH BOARDS
THE ORIGIN OF RELIGIOUS SUPERVISORY BOARDS IN ISLAMIC BANKS
The late King Faisal bin Abdul Aziz al-Saud of Saudi Arabia, (1324-1395 AH) (19061975), created a new awareness of the idea of an Islamic economic society. The roots of this idea took hold and his initiative culminated in the creation of the Organisation of the Islamic Conference, out of which came the Association of Islamic Banks. Eventually, the late King Faisal’s son, His Royal Highness Prince Mohammed al-Faisal al-Saud, carried his father’s idea to fruition and, under his Chairmanship; the International Association of Islamic Banks (IAIB) was created in 1977.
With the creation of the IAIB came the establishment of a Higher Supervisory Religious Board composed of religious scholars and Grand ‘Ulama (scholars) of Islamic jurisprudence. The Board’s responsibility was to ensure that Islamic banks adhered strictly to the requirements of the Shari’ah in their policies and day-to-day operations. To do this, it was given the authority to make decisions and issue decrees/rulings (fatwas, singular fatwa) which would be binding on IAIB member banks and to hold seminars and conferences concerning Islamic jurisprudence in relation to the new and evolving financial and economic issues being faced by Islamic banks today. The Higher Supervisory Religious Board thus in principle became the supervisory, central authority for all IAIB member banks.
The first step the Board took was to ask all Islamic Banks and financial institutions to appoint for themselves a Religious Board of not less than thirteen Islamic scholars to make decisions within their own organisations as to the conformity of their operations to the Shari’ah. Any bank that did not adhere to these decisions would not be able to claim to be operating within the Shari’ah. The Religious Board is now commonly referred to as the Shari’ah Board or the Shari’ah Supervisory Board.
It is their agreement to operate according to the principles of the Shari’ah, as set forth in The Holy Qur’an and the Sunnah (the body of the Prophet’s teachings and sayings, resorted to whenever a situation arises which is not mentioned in The Holy Qur’an) that distinguishes Islamic banks from traditional, conventional interest-based banks.
ROLE OF SHARI’AH BOARDS AND SHARI’AH COMPLIANCE
Shari’ah compliance of the business of Islamic financial institutions is of crucial importance for integrity and credibility of Islamic banking industry. Therefore, existence of religious scholars and of the Shari’ah (Supervisory) Boards in Islamic financial institutions has been of great importance for the successful evolution of Islamic banking as well as Islamic insurance in modern times.
It is necessary to establish the credibility not only at international level but also at the national levels. Many stakeholders in countries where Islamic banking has visible existence are of the view that Islamic banks have deviated to a great extent from their philosophical basis and the concept of Islamic banking and finance has changed visibly from the concept envisaged in 1970s. Islamic financial institutions come in all shapes and forms: banks and non-banks including takaful operators, large and small, specialised and diversified, traditional and innovative, national and multinational, prudent and reckless, strictly regulated and unregulated, etc. Some appear virtually identical to their conventional counterparts, while others are markedly different. Some are driven by the Shari’ah considerations; others may be using religion simply as a way of attracting customers. In this perspective, they cannot escape criticism on Shari’ah matters because as per Shari’ah principles they are required to involve in real sector business while the common man understands that Islamic banks normally do not actually carry out businesses like trading, leasing or construction activities and hence they end up doing only financial operations. This necessitates the launching of public awareness programs with active participation of the Shari’ah scholars.
The difference between the theory, as we find in the relevant literature and the practical approaches taken by the practitioners and financial experts poses a major challenge and it would determine the level of credibility of the alternative approach in the overall financial system. As there appears to be no marked difference in some of the present practices of Islamic banking and conventional banking, the conventional banks with larger resources and investments in research and development, are dominating sectors like capital markets, fund investment and financing for projects. Conventional banks have established Shari’ah Boards staffed by reputable scholars for ensuring Shari’ah compliance, and are in direct competition with Islamic banks. There is a risk that Islamic banking may get diluted with the co-mingling of business in the conventional banking unless Islamic banks are able to establish their distinct identity “Islamic Banks”. Islamic banks need to ensure that they move to profit-andloss modes and that all future financing involve some underlying goods and services to be the objects of modes of financing.
Shari’ah Board’s should be of a facilitator for developing products for banking business on the basis of selected Islamic business modes. The Board must always be in position to provide a clear answer whether or not the new/proposed products conform to Shari’ah. It should also offer constructive advice and give recommendations as to how to amend the proposed structure in order to make it feasible as also Shari’ah compliant without compromising the Shari’ah essentials. The Shari’ah has provided flexibility for Ijtihad (the process of making a legal decision by independent interpretation of the legal sources,) to respond to changes and diversity in day to day life. But it has its own limitations. It is neither a source of anarchy nor a means of transforming the Shari’ah from Divine to a man-made law. The concepts of Custom, General Good, Utility or Necessity are taken into consideration in the process of Ijtihad but they are relevant only when basic principles given as Nass (Clear and unambiguous texts of The Holy Qur’an and Sunnah) are taken care of and are based on proper analogy. It is, therefore, believed that remaining within the Shari’ah boundaries, a great deal of Ijtihad is possible and very much is needed to infer from the original sources the appropriate rules relating to transactions of business and finance. In only that way can any Shari’ah Board play an innovative role along with Shari’ah compliance of the system.
Philipe Moore, in ‘Islamic Finance’ a Euromoney publication (1997) contends that Shari’ah Board will typically ask four questions in relation to any given transaction. These will generally be:
Do the terms of the transaction comply with Shari’ah law?
Is this the best investment for the client?
Does the investment produce value for the client and for the community or society in which the client is active?
As an asset manager, is this a transaction in which the banker as an individual would be prepared to invest his own money?
If the answer to any of these four questions is no, the proposed transaction will usually be rejected, although the committees only have the power to reject the transaction on the grounds that it does not comply with Shari’ah law.
It is in this perspective that an active role of Shari’ah Board and Shari’ah scholars carries importance in terms of developing Shari’ah-compliant Islamic banking products. In addition to Islamic Fiqh Academy of the OIC, Shari’ah Boards / Committees of IDB, and IIFM, there are central Shari’ah boards in Malaysia, Bangladesh, Pakistan, Sudan, etc. All individual Islamic banks operating in various countries also have Shari’ah committees/board. Pakistan has recently allowed Islamic banking institutions to have a Shari’ah Advisors and the constitution of a Shari’ah Committee or Board is not necessary.
In order to ensure the Shari’ah compliance in all respects, the Shari’ah Boards should supervise the activities of Islamic banks. To this end, they should finalise the model agreements for the modes of financing and try to ensure that banks follow them in all their transactions in letter and spirit. Whenever a case arises where there are difficulties in applying any of these forms, the management of the bank should bring the problem to the notice of its Board, who will look into it, come to a decision and issue a decree (fatwa), which the management must obey. A large number of these fatwas now exist, covering many of the current practical problems of Islamic banks.