FINANCIAL SECTOR TALENT ENRICHMENT PROGRAMME

FUNDAMENTALS OF ISLAMIC BANKING

presented by

Ahmad Sanusi Husain, Executive Director, AIBIM

Muhammad Faozie Shahari, AmIslamic Bank Berhad
Jamil Ramly, IBFIM

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CONTENTS

1. Introduction to Islamic Financial System

2. Introduction to Legal and Regulatory Framework of Islamic

Banking and Finance

3. Sources and Application of Funds

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INTRODUCTION

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 ISLAMIC VIEW OF LIFE OF A MUSLIM

ISLAM

AQIDAH SHARIAH AKHLAQ

(Faith & Belief) (Practices & Activities (Moralities & Ethics)

IBADAH MUAMALAT
(Man-to God Worship (Man-to Man Activities

ECONOMIC SOCIAL
POLITICAL
ACTIVITIES ACTIVITIES
ACTIVITIES

BANKING &
FINANCIAL
ACTIVITIES
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 SOURCES OF SHARIAH

X AL-QUR'AN

X AL-SUNNAH (THE TRADITIONS OF PROPHET

MUHAMMAD-PEACE BE UPON HIM)

X AL-IJMA' (CONSENSUS OF OPINION AMONG

JURISTS OF ISLAMIC LAW)

X AL-QIYAS (ANALOGICAL DEDUCTION)

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 PROHIBITION OF INTEREST

Allah has permitted trade and forbidden usury

Al-BAQARAH:275

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 OBLIGATION TO REPAY DEBT

HADITH :

PROPHET (PEACE BE UPON HIM) SAID :

IF A MAN BORROWS FROM PEOPLE WITH THE INTENTION OF REPAYING THEM, ALLAH WILL
HELP HIM TO REPAY,

WHILE IF HE BORROWS WITHOUT INTENDING TO REPAY THEM, ALLAH WILL BRING HIM TO
RUIN.

(REPORTED BY AL- BUKHARI)

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 OBLIGATION TO REPAY DEBT

HADITH :

PROPHET (PEACE BE UPON HIM) SAID :

EVERYTHING WILL BE FORGIVEN TO THE SHAHEED

(MARTYR IN THE CAUSE OF ALLAH) EXCEPT DEBT.

(REPORTED BY MUSLIM)

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 RIBA (INTEREST)

THERE ARE TWO TYPES OF RIBA :

1. RIBA DUYUN (ARISING FROM DEBTS)

1.1 RIBA QARDH (ARISING FROM LOAN)

1.2 RIBA JAHILLIYAH (ARISING FROM LOAN)

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 RIBA (INTEREST)

THERE ARE TWO TYPES OF RIBA :

2. RIBA BUYU' (ARISING FROM COMMERCIAL TRANSACTIONS)

2.1 RIBA FADHL (EXTRA)

2.2 RIBA NASIAH (DIFFERENCE OF TIME)

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PHILOSOPHY OF ISLAMIC BANKING

Avoid Unethical
Practices

No Interest

No Gharar

No Maisir

Participating actively to
achieve goals of Islamic
Economy

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 TYPES OF CONTRACTS

CONTRACTS

TRADING PARTICIPATING SUPPORTING

SALE LEASING

• BBA • OPERATONAL • KAFALAH

• MURABAHAH • FINANCIAL • RAHN
• SALAM • HIWALAH
• ISTISNA • MUSYARAKAH • JUALAH
• ….etc • MUDHARABAH • IBRA
• …etc

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TRADING CONTRACTS

(i) Bai Murabahah (cost plus)

(ii) Bai Tawliyah (novation)
(iii) Bai Bithaman Ajil (deferred payment sale)
(iv) Bai Salam (advance payment sale)
(v) Bai Istisna’a (sale by order)
(vi) Bai Istijrar (supply, wholesale financing)
(vii) Bai Inah
(viii) Ijarah (leasing)
(ix) Ijarah Thumma Bai (Islamic hire purchase,
AITAB)

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PARTICIPATING CONTRACTS

There are three types of participating contracts which are possible

in practice. Two are subdivisions of Musharakah as follows:

(i) Musharakah
- Shirkah A’amal
- Shirkah ‘Inan and

(iii) Mudharabah

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SUPPORTING CONTRACTS
(i) Rahnu (mortgage)
(ii) Kafalah (guarantee)
(iii) Wakalah (agency)
(iv) Wadiah (safe custody)
(v) Qardh (loan)
(vi) Hiwalah (transfer of debt)
(vii) Tabarru’ (donation)
(viii) Hibah (gift)
(ix) Wakaf (endowment)
(x) Ibraa’ (rebate)
(xi) Muqasah (set-off)

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FINANCIAL SYSTEM IN MALAYSIA

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 FINANCIAL SYSTEM IN MALAYSIA

1. BANKING SYSTEM

BNM

Islamic Commercial Investment/

Banks Banks
Merchant Banks

11 22
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 FINANCIAL SYSTEM IN MALAYSIA

2. NON-BANK FINANCIAL
INTERMEDIARIES

Provident & Savings Insurance Other NBFIs

Pension Institutions Companies /
Funds Takaful

Development
Financial
Institutions

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 FINANCIAL SYSTEM IN MALAYSIA

3. FINANCIAL MARKET

Money Market & Capital Market Derivative Market

Foreign Exchange

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 ISLAMIC FINANCIAL SERVICES

ISLAMIC
FINANCIAL
SERVICES

EQUITY
BANKING TAKAFUL
MARKET

DEPOSIT & EQUITY BOND

FINANCING TAKAFUL RETAKAFUL
INVESTMENT MARKET MARKET

BANK NEGARA MALAYSIA BANK NEGARA MALAYSIA SECURITIES COMMISSION

• Islamic Banking Act ’83 Takaful Act ‘ 84 • Securities Commission Act ’83
• Banking & Financial Institution Act ’89 • Contract Act ‘65

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List of Institutions Offering Islamic Banking Services and Takaful Operators

• Full-fledge Islamic Banks – 11

• Participating banks in the Islamic Banking Scheme

(i) Commercial Banks – 8
(ii) Investment Banks – 4
(iii) Development Financial Institutions – 5

• Registered Takaful Operators - 8

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ISLAMIC BANKING DEVELOPMENT

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 PHASES OF DEVELOPMENT – ISLAMIC BANKING

Second Phase Third Phase

Assets (1997): RM17.9 bil Assets (2006): RM133 bil

First Phase
Market share: 2.3% Market share: 12.1%
90
Assets (1988): RM1.4 bil
Market share: 1.1% Assets
FSMP
80
Islamic Banking
70 Scheme

Deposits
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Second Financial
50
Islamic Bank liberalisation

40 First Islamic Financing

Bank
30

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 Banking Sector: Performance as at 31 December 2006

Islamic Banking Conventional Banking

Size (RM) Annual Size (RM) Annual

Growth (%) Growth (%)
Assets 133.0 bil 20.5 1,090.2 bil 22.8

Financing / 78.5 bil 12.3 593.0 bil 6.3

Loans

Deposits 98.8 bil 18.2 810.0 bil 13.0

Profit before 1.7 bil 9.6 13.0 bil 4.7

Zakat/tax

Source: Bank Negara Malaysia Financial Stability and Payment Systems Report 2006

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ISLAMIC BANKING DEFINITION & LEGAL FRAMEWORK

The operation of Islamic banking and finance in Malaysia are

governed by the following acts:

Islamic Banking Act 1983 (IBA): Full-fledged Islamic banks i.e.

Bank Islam, Bank Muamalat, RHB Islamic, Hong Leong Islamic,
CIMB, AmIslamic, Affin Islamic, EONCAP Islamic & Kuwait Finance
House

Bank and Financial Institutions Act 1989 (BAFIA): Commercial

banks, Finance companies, Merchant banks, Discount houses.
e.g. Maybank, Public Merchant, HSBC

Development Financial Institutions (DFIA) Act 2002: e.g. Bank

Pembangunan, SME Bank, Bank Rakyat, BSN.

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 Islamic Banking Act 1983
“Islamic bank” means any company which carries on
Islamic banking business and holds a valid license; and
all the offices and branches of such a bank shall be
deemed to be a bank”

“Islamic banking business” means banking business

who aims and operations do not involve any element
which is not allowed by the Religion of Islam”

Required to establish Shariah Advisory Body

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 LEGAL FRAMEWORK OF AN ISLAMIC BANK

ISSUE/MATTER AUTHORITIES ACTS/RULES/

REGULATIONS
1. Incorporation/ Commissioner of Companies Act 1965
Establishment Companies Malaysia (SSM)

2. Management Shareholders, Board of Memorandum &

Directors, Management Articles of Association
Committee IBA 1983, BNM GP1-i
3. Licensing/ Ministry of Finance IBA 1983
Supervision Bank Negara Malaysia
4. Operations Relevant Authorities Rules of Shariah &
Relevant Laws, BNM
GPs
5. Shariah Bank’s Shariah Committee Rules of Shariah
Supervision BNM’s Shariah Advisory
Council (SAC)

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 BAFIA 1989
Under Section 124 of BAFIA, banks and FIs are allowed
to operate Islamic banking or Islamic financial business
and is not affected by provisions IBA.

“Islamic financial business” means any financial

business the aims and operations of which do not
involve any element which is not approved by the
Religion of Islam”

Required to establish Shariah Advisory Council

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 DFIA 2002
Under Section 129 of DFIA, prescribed institutions are
allowed to operate Islamic banking or Islamic financial
business and is not affected by provisions in IBA.

“Islamic financial business” means any financial

business the aims and operations of which do not
involve any element which is not approved by the
Religion of Islam”

Required to establish Shariah Advisory Council

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 GOVERNMENT INVESTMENT ACT 1983

To enable the Govt. to receive moneys from Islamic

banks for a fixed period of time.
It empowers the Govt. to issue Government Investment
Issues (GII)
with returns in the form of discretionary gifts (rather than
interest)

This is to comply with the prescribed liquidity

requirements

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 REAL PROPERTY GAIN TAX ACT 1976
The Islamic sale transaction such as the BBA, a financing
mode that involves “a purchase and sell transaction”
between bank and customer that tantamounts to
‘acquisition’ and disposal under the RPGT Act
The Finance Act 1986 provides amendment in RPGT to
accommodate this transaction so as not to burden the
bank’s customers by an additional incidence of tax.

The Stamp Act 1949 (as amended by Act A723 of 1989) by

Section 14A provides the Shariah sale transaction to be
taxed based on the principal (financing) amount.

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 JURISDICTION OF THE CIVIL COURTS
Granting of financing facilities by banks though based
on Shariah principles are commercial transactions,
therefore come within the jurisdiction of the civil courts

The Shariah Courts have no jurisdiction to hear

commercial cases. Furthermore, the courts can hear
cases involving Muslims only.

Among the earlier cases that were decided by the Civil

courts include Tinta Press (1987), Adnan Bin Omar
(1994) and Dato Hj Nik Mahmud Bin Daud (1996) all of
which involved Bank Islam Malaysia Berhad .

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ISLAMIC BANKING DEFINITION & LEGAL FRAMEWORK

All the Islamic banks and financial institutions that offer Islamic
banking and finance are regulated and supervised by the
Central Bank of Malaysia (BNM)

The Shariah Advisory Council at BNM is the supreme body that

govern the Shariah matters of all the banks and FIs after
amendments made to the Central Bank Act, IBA, BAFIA and
DFIA

The department responsible at BNM is Islamic Banking &

Takaful Department.

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 ISLAMIC BANKING SYSTEM
Banking
Practitioners BNM Shariah Muftis
Advisory
Advisory Council Shariah FATWA
BNM officials (Rulings)
Scholars
Bank Negara
Malaysia – Islamic
Banking & Takaful
Department Usul-Fiqh
Qawaid
Fiqhiyyah
PROPOSALS
Fiqh
Muamalat
Islamic banks
Commercial banks
Finance companies
Merchant banks
Development FIs

Islamic New Shariah Committee/

Banking Islamic
Experts
Consultants Instrument

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 COMPARISON :
ISLAMIC VS CONVENTIONAL BANKING

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COMPARISON-CONVENTIONAL & ISLAMIC BANKING

CONVENTIONAL ISLAMIC
BANKING BANKING

FUNCTION Lender & borrower - custodian of

goods
- entrepreneur
- financier

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COMPARISON-CONVENTIONAL & ISLAMIC BANKING

CONVENTIONAL ISLAMIC
BANKING BANKING

DEPOSIT Interest-based - safe custody

deposit - investment

Interest- based - Debt financing

LOAN/ loan - Equity financing
FINANCING

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 ISLAMIC VS CONVENTIONAL BANKING

ISLAMIC BANKING CONVENTIONAL BANKING

1. ISLAMIC/CIVIL LAW 1. CIVIL LAW

2. ISLAMIC BANKING ACT 83 2. BANKING & FINANCIAL

INSTITUTION ACT 92

3. FREE FROM PROHIBITED 3. N/A

ELEMENTS

4. INTEREST FREE. 4. INTEREST AS THE MAIN

PROFIT AS THE MAIN INCOME
INCOME

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 ISLAMIC VS CONVENTIONAL BANKING

ISLAMIC BANKING CONVENTIONAL BANKING

5. SHARIAH COUNCIL / 5. N/A
ADVISOR

6. SHARIAH COMPLIANT 6. N/A

PRODUCTS**

7. DEBT & EQUITY BASED 7. DEBT BASED PRODUCTS

PRODUCTS

8. CIVIL COURT 8. CIVIL COURT

( ISLAMIC/CIVIL LAW) ( CIVIL LAW )

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ISLAMIC BANKING PRODUCTS AND
CONTRACTS USED

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 DEPOSIT PRODUCTS

1. SAVINGS ACCOUNT

2. CURRENT ACCOU NT

3. INVESTMENT ACCOUNT

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 CONTRACT - DEPOSIT PRODUCTS

1. WADIAH (Safe custody)

Wadiah Yad Dhamanah (Guaranteed safe custody)

-applied in Savings & Current Accounts

2. MUDHARABAH (Trustee profit sharing)

-applied in Mudharabah Investment Account & Savings Account

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 AL-MUDHARABAH DEPOSITS

1. DEPOSITOR INVESTS A CERTAIN AMOUNT OF MONEY

E.G. RM100,000 FOR A SPECIFIC PERIOD E.G. 1 YEAR.
BOTH PARTIES ARGEE ON PROFIT SHARING RATIO
(E.G. 70:30) I.E. 70% OF GROSS PROFIT TO BE
DISTRIBUTED TO DEPOSITOR AND 30% TO BANK.

2. BANK UTILISES THE MONEY IN

VARIOUS FORMS OF INVESTMENT
OR FINANCING

3.PROFIT

LOSS 43
 FINANCING PRODUCTS

1. CONSUMER FINANCING
- Home financing
- Car financing
- Personal financing

2. COMMERCIAL FINANCING

3. CORPORATE FINANCING

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 CONTRACT- FINANCING PRODUCTS

1. AL-BAI BITHAMAN AJIL (Deferred Payment Sale)

-applied in Home financing, Land financing

2. MURABAHAH (Deferred Lump Sum Sale)

-applied in Murabahah Working Capital Financing

3. IJARAH (Leasing)
-applied in Vehicle Leasing, Equipment Leasing etc.

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 FINANCING PRODUCTS

4. MUDHARABAH (Trustee Profit Sharing)

-applied in project financing

5. MUSYARAKAH (Joint-venture profit sharing)

-applied in project financing

6. IJARAH THUMMA BAI ( Leasing ending with sale)

-applied in car financing

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 BBA FINANCING – House Financing

(2)
BANK PURCHASED THE
HOUSE AT RM100,000.00.
(3)
BANK SELLS THE HOUSE TO
CUSTOMER AT RM180,000.00

(4)
CUSTOMER REPAYS RM180,000.00 BY 180 EQUAL (1)
MONTHLY INSTALMENT OF RM1,000.00 CUSTOMER IDENTIFIES A
HOUSE TO BE
PURCHASED (SIGN S&P
AGREEMENT)

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 CURRENT DEVELOPMENT OF
ISLAMIC BANKING & FINANCE

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 Deputy Governor’s Remarks at IFSB Summit, Dubai, May 07

• Malaysian Islamic banking system – strong performance

in 2006, higher profitability and remained well
capitalised
• Islamic banking assets increased to about USD34 billion
( about 13% in terms of market share)
• Takaful sector stands at USD1.7 billion
• Malaysian Islamic capital market has been equally
encouraging. Islamic corporate bond now amounting to
USD36 billion or 48% of the total corporate bond
issuance in Malaysia
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 Deputy Governor Remarks at IFSB Summit, Dubai, May 07

• Malaysia has put in place a comprehensive Islamic

financial system that includes the legal, Shariah and
regulatory infrastructure, supported by diversity of
players and a wide range of products and services
• Malaysia launched the MIFC initiative last year in order to
provide a more conducive business environment
• Malaysia has liberalised the foreign equity to a maximum
of 49% in existing Islamic banks and takaful companies

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 Deputy Governor Remarks at IFSB Summit, Dubai, May 07

• New licenses for International Islamic Bank and

International Takaful Operator for the conduct of full
range of Islamic banking or takaful and retakaful
business in international currencies are being offerred

• Tax holiday, stamp duty exemption and witholding tax

exemption are also being offered

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Islamic Finance News Awards – Best Islamic Banks Polls 05

Best Central Bank in Promoting

Islamic Finance
1st Bank Negara Malaysia 58%
2nd Bahrain Monetary Agency 14%
3rd UAE - DIFX 6%

Best Overall Provider of Islamic Financial

Services
1st Dubai Islamic Bank 16%
2nd HSBC Amanah 15%

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 Islamic Finance News Awards – Best Islamic Banks Polls 05

Best Individual Islamic Banker

Iqbal Khan, HSBC Amanah

Most Innovative Islamic Bank

1st Dubai Islamic Bank 11%
Kuwait Finance House 11%
2nd Bank Islam Malaysia 9%
HSBC Amanah 9%

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 Islamic Finance News Awards – Best Islamic Banks Polls 05

Best Overall Retail Islamic Bank

1st Dubai Islamic Bank 24%
2nd Bank Islam Malaysia 13%
3rd HSBC Amanah 12%

Best New Islamic Bank

1st Islamic Bank of Britain 15%
2nd Emirates Islamic Bank 14%
3rd RHB Islamic Bank 7%

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 LARGEST ISLAMIC BANKS (ASIA PACIFIC) - Research Report (2006) - AB

• 40 Islamic banks (identified) hold nearly $40 billion

in assets

• Malaysia dominates with 17 institutions and 73%

of total assets

• Annual growth for 2005 of 20.9%

( compared to 6.6% annual growth )

• Islamic Banking assets account for 12% of total banking sector asset in
the country

• For other 19 institutions ( Islamic window) assets ranging from 2 to 13%

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 LARGEST ISLAMIC BANKS (ASIA PACIFIC) - Research Report (2006) - AB

RANK ISLAMIC BANK ASSET FINANCING DEPOSITS

2006 US$ US$ US$
1 Maybank, Malaysia 6,417.1 4,532.6 3,694.5

2 Bank Islam, 4,171.3 2,443.6 3,548.6

Malaysia
3 Bank Muamalat, 2,715.0 1,047.6 2,478.2
Malaysia
4 AMMB, Malaysia 2,552.0 1,764.9 1,210.4

5 Public Bank, 2,127.1 1,908.0 1,610.8

Malaysia

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 LARGEST ISLAMIC BANKS (ASIA PACIFIC) - Research Report (2006) - AB

RANK ISLAMIC BANK ASSET FINANCING DEPOSITS

2006 US$ US$ US$

6 RHB Islamic Bank, 2,015.5 899.0 1,457.1

Malaysia
7 Islami Bank 1,856.7 Na 1,628.5
Bangladesh
8 Faysal Bank, 1,845.0 1,042.7 1,250.3
Pakistan
9 Hong Leong Bank, 1,748.5 1,072.1 1,549.6
Malaysia
10 Islamic Bank of 1,620.1 953.3 1,433.7
Brunei, Brunei

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HUMAN CAPITAL DEVELOPMENT

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Governor’s Address @ 5th Annual Islamic Summit, London, Jan 06

• “ While Islamic banking has made significant strides,

there are challenges that needs to be addressed for
Islamic finance to sustain its development “

The fourth challenge

“ The development of a sufficient pool of appropriately
skilled Islamic finance practitioner needs to be
accorded the highest priority ”

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 MALAYSIA’S TOTAL TALENT MANAGEMENT SOLUTION IN ISLAMIC FINANCE

IBFIM ICLIF

• Skill-based training • Professional certification & • Industry leaders

PhD. program
• Short courses • Executive
development
• Consultancy
• Research in product
development

Other training
Institutions of providers :
higher learning MII, IBBM, SIDC

Meeting the education needs of all levels of Islamic finance practitioners

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MALAYSIA’S TOTAL TALENT MANAGEMENT SOLUTION IN ISLAMIC FINANCE

Was set up by BNM in 2001 as an industry-owned institute

dedicated to producing well-trained, high calibre individuals
and executives with the required expertise in Islamic finance
industry

Was set up by BNM in 2003 to help create a pool of top

management talent for the private sector in Malaysia, the
region and beyond

Was set up by BNM in 2005 to develop and enhance

human capital in Islamic finance in order to meet the growing
needs of the global Islamic finance industry

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MALAYSIA’S TOTAL TALENT MANAGEMENT SOLUTION IN ISLAMIC FINANCE

Associations for Islamic Banking and Takaful in Malaysia

(AIBIM) was established in 12 July 1995. The main objective of
AIBIM is to promote the establishment of sound Islamic banking
systems and practices in Malaysia in cooperation and consultation
with Bank Negara Malaysia or other regulatory bodies in Malaysia.

Malaysian Takaful Association (MTA) was formed in

November 2002 with the main function of improving industry
Malaysian Takaful Association self-regulation through uniformity in market practices and
promoting a higher level of cooperation among the players in
developing the industry.

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FINANCIAL SECTOR TALENT ENRICHMENT PROGRAMME

Thank you

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