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Ch4

corporate finance (‫)جامعة الشارقة‬

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Chapter – 4
FINANCIAL ACCOUNTING OF ISLAMIC
BANKING PRODUCTS

True / False Questions

1. Accounting is a process whereby business operations and activities are measured,

and the measurements are processed into information that is made available to de-
cision-makers.
Answer: True
Diff: 2
Page Ref: 129
LO: 1

2. The internal decision-makers include the company management and creditors

while the external decision-makers are mainly investors and board of directors.
Answer: False
Diff: 1
Page Ref: 129
LO: 1

The American Accounting Association defines accounting to be “the process of .3

identifying, measuring and communicating economic information to permit
."informed judgements and decisions by users of that information
Answer: True
Diff: 2
Page Ref: 129
LO: 1

The general definition of financial accounting remains unacceptable within the .4

.Islamic finance framework
Answer: False
Diff: 3
Page Ref: 129
LO: 1

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5. What differentiates between financial accounting in both traditional and Islamic

frameworks is the non-compliance of the former with Sharī‘ah rules and
regulations.

Answer: True
Diff: 1
Page Ref: 129
LO: 1

6. The significance of financial accounting in both traditional and Islamic

frameworks is to enable the stakeholders to make informed decisions among
various options in the conduct of business transactions.
Answer: True
Diff: 1
Page Ref: 130
LO: 1

7. Financial accounting is directed at the needs of the internal as well as the external
decision makers.
Answer: False
Diff: 2
Page Ref: 130
LO: 1

8. The concept of inheritance (mawarith) in Islam typifies the duty of mankind

towards his God.
Answer: False
Diff: 1
Page Ref: 130
LO: 1

9. Muslim accountants share with their non-Muslim counterparts the same

responsibilities in carrying out their duties.
Answer: False
Diff: 1
Page Ref: 130
LO: 1

10. Muslim accountants are expected to understand the fundamental religious

principles underlying their chosen profession in addition to understanding the
theoretical and practical aspects of their profession.

Answer: True
Diff: 2
Page Ref: 130
LO: 1

11. International Financial Reporting Standards (IFRS) are a set of accounting

standards developed by an independent, non-for-profit organisation called the
International Financial Reporting Committee (IFRC).
Answer: False

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Diff: 2
Page Ref: 131
LO: 2

12. International Financial Reporting Standards (IFRS) which has replaced the Inter-
national Accounting Standards (IAS) is more relevant to multinational corpora-
tions with subsidiaries spread across different countries.
Answer: True
Diff: 2
Page Ref: 131
LO: 2

13. The IFRS are specifically meant for conventional and Islamic forms of business.
Answer: False
Diff: 2
Page Ref: 131
LO: 2
14. International Accounting Standards (IAS) are the standards issued after 2001.
Answer: False
Diff: 1
Page Ref: 132
LO: 2

15. The Islamic finance industry requires its own set of accounting and financial re-
porting standards.
Answer:
True Diff: 1
Page Ref: 132
LO: 2

16. Being focused on accountability and Sharī'ah compliance framework, the

Islamic accounting standards have neglected the important objective of
financial accounting: to provide useful information to the users of such
Answer: False reports.
Diff: 2
Page Ref: 134
LO: 2

17. Unlike the conventional banks which aim at mobilising deposits and
advancing loans on interest, the Islamic banks focus on investment financing
and social services.
Answer: True
Diff: 1
Page Ref: 134
LO: 2

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18. Debit is the increase in asset and expenses while there is a decrease in liability,
revenue and capital.
Answer: True
Diff: 2
Page Ref: 136
LO: 3

19. Credit is an increase in assets, revenue and capital and a decrease in liabilities
and expenses.
Answer: False
Diff: 2
Page Ref: 136
LO: 3

20. For every debit, there must be a corresponding credit of larger amount and for
every credit, there must be a corresponding debit of less amount.
Answer: False
Diff: 3
Page Ref: 136
LO: 3

21. The accounting equation states that assets = liabilities + owner’s equity.
Answer: True
Diff: 1
Page Ref: 136
LO: 3
22. To have a balanced account, total credits must exceed total debits.
Answer: False
Diff: 1
Page Ref: 136
LO: 3

23. The information generated in cost and management accounting is useful in

planning, controlling and the measurement of performance.
Answer: True
Diff: 2
Page Ref: 138
LO: 3

24. Auditing is the branch of accounting that determines the authenticity, validity and
reliability of the financial information recorded or disclosed during a financial
period.
Answer: True
Diff: 2
Page Ref: 138

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LO: 3

25. External auditing is when the business engages the services of an outside
company, usually a law firm, to conduct the auditing.
Answer: False
Diff: 2
Page Ref: 138
LO: 3

26. It is a modern practice to combine both internal auditing and external auditing for
a particular financial year.
Answer: True
Diff: 2
Page Ref: 138
LO: 3

27. The most popular method of communicating financial information to consumers

or users is through the use of financial reports.
Answer: False
Diff: 2
Page Ref: 139
LO: 4

28. Islamic accounting emphasises the importance of the religio-spiritual element in

financial transactions while neglecting the element of profitability.
Answer: False
Diff: 1
Page Ref: 140
LO: 4

29. The Accounting and Auditing Organization for Islamic Financial Institutions
(AAOIFI) which was established in 1990 issued the first accounting
auditing, governance and Sharī'ah standards in 1993.
Answer: False
Diff: 1
Page Ref: 141
LO: 4

30. While some Muslim countries have required Islamic financial institutions in
their respective jurisdictions to abide by the AAOIFI reporting standards, others
allow such Islamic financial institutions to adopt the standards voluntarily.
Answer: True
Diff: 2
Page Ref: 141

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LO: 4
31. While the first Statement of Financial Accounting (SFA No. 1) in the AAOIFI
Standards is on the objectives of financial accounting, SFA No. 2 focuses on the
instruments of financial accounting for Islamic banks and financial institutions.
Answer: False
Diff: 2
Page Ref: 138
LO: 4
32. There are 25 AAOIFI standards that are relevant to Islamic accounting.
Answer: True
Diff: 1
Page Ref: 143
LO: 4

One of the objectives of financial accounting standards for Islamic banks and .33
financial institutions as identified by AAOIFI is to assist the Islamic banks, in the
absence of accepted accounting standards, in making choices among alternative
accounting treatments
Answer: True
Diff: 1
Page Ref: 143
LO: 4

The cash flow accounting method is based on the occurrence of a transaction .34
.regardless of the fact whether there is exchange of cash or not
Answer: False
Diff: 3
Page Ref: 146
LO: 5

35. The accrual method of accounting is based on the occurrence of a transaction

given that there is exchange of cash.
Answer: False
Diff: 3
Page Ref: 146
LO: 5

The end product of all financial transactions is the financial statement .36
Answer: True
Diff: 2
Page Ref: 146
LO: 6

Financial statements analysis is also called Horizontal analysis .37

Answer: False
Diff: 2
Page Ref: 146
LO: 5

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Islamic banks and financial institutions are not required to publish comparative .38
.financial statements
Answer: False
Diff: 3
Page Ref: 148
LO: 6

The cash flow statement (also known as the Statement of Financial Position) is .39
a summary of financial balances of a corporate entity
Answer: False
Diff: 2
Page Ref: 156
LO: 6

A balance sheet can be defined as the summary of the assets, liabilities, and .40
.ownership equities of a company listed as of the end of a specific financial year
Answer: True
Diff: 1
Page Ref: 148
LO: 6

The income statement (may also be called statement of cash flow or funds flow .41
statement) is a financial statement that measures the financial performance of a
company over a specific period of time indicating how the revenue is transformed into
.net income
Answer: False
Diff: 2
Page Ref: 151
LO: 6

The purpose of the cash flow statement is the identification of the sources and .42
uses of cash during the financial year in question
Answer: True
Diff: 1
Page Ref: 156
LO: 6

FAS 1, para 54 provides that the statement of income should differentiate .43
between cash flows from operations, cash flows from investing activities and
cash flows from financing activates
Answer: False
Diff: 3
Page Ref: 156
LO: 6

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It is the responsibility of the management of the business entity to choose the .44
.period of time that the income statement covers
Answer: True
Diff: 2
Page Ref: 152
LO: 6

The period of time covered by the income statement is defined to be one fiscal .45
:year for all business entities as per the following example

Income Statement for the Fiscal Year Ended January 31, 2012 (The period of January
.1, 2011 through January 31, 2012)
Answer: False
Diff: 2
Page Ref: 152
LO: 6

46. General and administrative expenses must be disclosed in the statement of

financial position according to para 44.
Answer: False
Diff: 3
Page Ref: 152
LO: 6

The cash flow statement may also be called the statement of cash flow or the .47
.funds flow statement
Answer: True
Diff: 1
Page Ref: 156
LO: 6

The cash flow statement is a financial statement that indicates how changes in .48
the balance sheet accounts and income statements affect the profitability of the
.business
Answer: False
Diff: 1
Page Ref: 156
LO: 6

The statement of retained earnings is a financial statement that explains the .49
.changes in the retained earnings of a company over a period of time being reported
Answer: True
Diff: 1
Page Ref: 156
LO: 6

For corporations, the statement of retained earnings is called the statement of .50
.partners’ equity
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Answer: False
Diff: 2
Page Ref: 156
LO: 6

The owners’ equity and retained earnings may be calculated using the following .51
formulae: Owners’ equity = Assets – Liability
Answer: True
Diff: 1
Page Ref: 156
LO: 6

Para 58 of FAS 1 - states that capital contribution by owners during the .52
accounting period is a specific disclosure required in the statement of changes in
.owners’ equity
Answer: True
Diff: 2
Page Ref: 158
LO: 6

Multiple Choice Questions

1. Which of the following main issues are included in the definition of accounting?
a) recognizing, recording, classifying, and summarizing business
transac-tions
b) measuring, analyzing, processing, and interpreting operating results
c) reporting and presenting the financial position
d) all of the above

Diff: 2
Page Ref: 129
LO: 1

2. The American Accounting Association defines accounting to be:

a) the process of measuring, analyzing, processing, interpreting result
of operation, reporting and presenting financial
Position b) the process of identifying,
measuring and communicating economic information to permit
informed judgements and decisions by users of that information
c) the process of recognizing, recording, classifying and
summarizing business transaction
d) all of the above

Diff: 2
Page Ref: 129
LO: 1

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3. Internal decision makers include:

a) the management of the company
b) the investors and customers
c) the creditors
d) all of the above
Diff: 1
Page Ref: 130
LO: 1

4. Islamic concepts underscore the significance of accountability in Islam with

particular reference to financial transactions including:
a) Islamic law of inheritance (mawarith) and the calculation of obligatory
alms (zakat)
b) khilafah (vicegerency) and taklif (responsibility)
c) the underlying concept of tawhid (unity of God)
d) all of the above
Diff: 2
Page Ref: 130
LO: 1

5. The standard-setting body of the International Financial Reporting

Standards (IFRS) Foundation is the:
a) International Accounting Standards Board (IASB)
b) International Accounting Standards (IAS)
c) Standing Interpretations Committee (SIC)
d) Accounting & Auditing Organization for Islamic Financial
Institutions (AAOIFI)
Diff: 3
Page Ref: 131
LO: 2

6. The following statements about IFRS are correct except:

a) The IFRS are a set of accounting standards developed by an
independent, non-for-profit organisation called the International
Accounting Standards Board (IASB)
b) The main goal of the IFRS is to provide globally acceptable
standards for private companies to enhance their reporting systems
c) The IFRS contains general guidelines for financial reporting
d) The IFRS has replaced the International Accounting Standards (IAS)
Diff: 3
Page Ref: 131
LO: 2

7. The main goal of the IFRS is to:

a) promote reconciliation and settle financial and commercial
disputes between financial or commercial institutions

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b) ensure best practices and help member countries with

regulating Islamic financial institutions
c) set the standards for minimum qualifications needed to gain entry into the
IFSI (technical financial skills and adequate knowledge of Shariah and
Islamic financial principles)
d) provide globally acceptable standards for public companies in
the preparation and disclosure of their financial statements
Diff: 2
Page Ref: 131
LO: 2

?Which of the following is not an aspect of the structure of IFRS .8

a) International Financial Reporting Standards (IFRS)
b) Islamic International Rating Agency (IIRA)
c) Standing Interpretations Committee (SIC)—issued before 2001
d) Conceptual Framework for the Preparation and Presentation
of Financial Statements (2010)
Diff: 3
Page Ref: 132
LO: 2

9. The applicability of the IFRS to Islamic banks and financial institutions has
shown that:
a) its standards are intended for conventional forms of business
b) there are issues in Islamic finance for which there are no IFRS
c) a number of the existing IFRS are not applicable to Islamic
banks institutions.
d) all of the above
Diff: 3
Page Ref: 132
LO: 2

10. Accounting comprises of the following two main businesses:

a) bookkeeping and financial analysis
b) financial analysis and the preparation of the financial statements
c) bookkeeping and the preparation of the financial statements
d) none of the above
Diff: 1
Page Ref: 135
LO: 3

11. Which one of the following statements is correct regarding the basic principle
of the double entry system?
a) for every debit there must be a corresponding credit of larger amount
and for every credit, there must be a corresponding debit of less amount
b) for every debit there must be a corresponding credit of less amount and

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for every credit, there must be a corresponding debit of larger amount

c) for every debit there must be a corresponding credit of equal amount
and for every credit, there must be a corresponding debit of less amount
d) for every debit, there must be a corresponding credit of equal
amount and for every credit, there must be a corresponding debit of
equal amount
Diff: 2
Page Ref: 136
LO: 3

12. ___________ is not a branch of accounting.

a) Cost and management accounting
b) Financial accounting
c) Tax accounting
d) Auditing
Diff: 1
Page Ref: 137
LO: 3

13. The information generated in cost and management accounting:

a) provides relevant information to help mangers make informed
decisions in the management of the business
b) provides basic information to help customers make informed decisions
regarding their investments
c) provides important information to help accountants choose the
most appropriate reporting method
d) all of the above

Diff: 3
Page Ref: 138
LO: 3

14. Financial accounting deals with the provision of relevant information

to interested parties (stakeholders) such as:
a) investors and banks
b) future partners and prospective buyers
c) regulatory bodies and government agencies
d) all of the above
Diff: 3
Page Ref: 138
LO: 3

15. ___________ is a situation where the business itself carries out the auditing.
a) external auditing
b) internal auditing

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c) the combination of both internal and external auditing

d) public auditing
Diff: 1
Page Ref: 138
LO: 3

?Which one of the following items is not a purpose of Islamic accounting .16
a) reporting accurate income determination
b) promoting efficiency and leadership
c) maximizing returns on invested capital
d) adapting to positive social change through corporate
social responsibilities
Diff: 2
Page Ref: 138
LO: 4
17. AAOIFI Statement of Financial Accounting (SFA) No. 1, lists the main
category(ies) of users of external financial reports for Islamic banks as:
a) equity holders
b) current and saving account holders
c) regulatory agencies
d) all of the above
Diff: 3
Page Ref: 139
LO: 4

18. Which of the following types of information is required in SFA No. 1?

a) information about the Islamic bank’s compliance with the Sharī'ah and
its objectives and to establish such compliance
b) information about the Islamic bank’s economic resources and
related obligations and the effect of transactions
c) information to assist the concerned party in the determination of zakah
on the Islamic bank’s funds
d) all of the above
Diff: 2
Page Ref: 139
LO: 4

19. An Islamic perspective of accounting concepts encompasses:

a) accounting concepts relates to the requirement of full disclosure, social and
financial accountability b) numerous verses of the Qur’an and prophetic
precedents that emphasise on accountability in commercial transactions

c) trustworthiness and objectivity in bookkeeping and accounting

d) all of the above
Diff: 2
Page Ref: 140

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LO: 4

20. In the _______ practice of accounting, the accounting concepts are required
to guide the existing practice of accounting, prescribe future directions in
accounting, and identify certain fundamental accounting issues.
a) Islamic
b) conventional
c) contemporary
d) all of the above
Diff: 3
Page Ref: 140
LO: 4

21. Which one of the following countries does not require Islamic financial
institutions in their respective jurisdictions to abide by the AAOIFI
reporting standards?
a) Bahrain
b) Jordan
c) United Arab Emiratis
d) Sudan
Diff: 1
Page Ref: 141
LO: 4

The ____________ is based on the occurrence of a transaction regardless of the .22

fact whether there is exchange of cash or not.
a) cash flow accounting method
b) accrual accounting method
c) statement of financial position
d) comparative financial statement

Diff: 2
Page Ref: 145
LO: 5

The concept that indicates that life of the Islamic bank should be broken into .23
reporting periods to prepare financial reports that provide interested parties
with information or directions by which they can evaluate the performance of
the :accounting unit is known as
a) product life cycle
b) periodicity
c) quarterly reporting
d) first in first out
Diff: 2
Page Ref: 145
LO: 5

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is the formal record of the financial activities (transactions) of a _______ .24

.business entity
a) bookkeeping
b) Statement of profit and loss
c) Financial statement
d) comparative Financial statement
Diff: 1
Page Ref: 146
LO: 6

According to the AAOIFI, FAS 1 paragraph 2, financial statements of an entity .25

:of Islamic banks consists of

a) a statement of financial position (balance sheet)

b) an income statement
c) a statement of cash flows
d) all of the above

Diff: 2
Page Ref: 147
LO: 6

The following statements about comparative financial statements of Islamic .26

financial products are true EXCEPT for:
a) comparative financial statements of a corporate entity give the direction of change
in the business in at least two financial periods b) comparative financial statements
analysis involves the comparison of the figures of the current year with those of the
previous year(s) to determine the performance of the
business c)
comparative financial statements as the tool for analysis provide necessary
information about the sustained performance or poor performance of the entity
d) Islamic banks and financial institutions are not required to
publish comparative financial statements
Diff: 2
Page Ref: 148
LO: 6

The four basic financial statements are: .27

a) balance sheets, income statements, cash flow statements, and
adjustment statements
b) balance sheets, income statements, statement of retained earnings, and
statements of current assets
c) income statements, cash flow statements, statement of retained earnings, and
statements of financial position
d) income statements, cash flow statements, statements of current liabilities and
balance sheet
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Diff: 1
Page Ref: 148
LO: 6

28. _________ is also known as the Statement of Financial Position

a) statement of retained earnings
b) balance sheet
c) cash flow statement
d) none of the above
Diff: 1
Page Ref: 148
LO: 6

?Which of the following liabilities must be disclosed according to FAS 1 para 41 .29
a) deposits of other banks
b) declared but undisturbed profits
c) zakah, salam payables and taxes payable
d) all of the above

Diff: 3
Page Ref: 150
LO: 6

According to per para 44, the following items must be disclosed in the statement .30
:of financial position EXCEPT
a) authorized, subscribed and paid-in capital
b) other changes in owners’ equity during the period
c) profit and losses from investment
d) any restrictions imposed on the distribution of retained earnings to owners

Diff: 2
Page Ref: 150
LO: 6

:The Income Statement may also be referred to as .31

a) The Profit and Loss Statement
b) Statement of Operations
c) Statement of Income
d) All of the above

Diff: 2
Page Ref: 151
LO: 6

The following item(s) must be disclosed in the income statement according to .32
:FAS 1 para 50

a) current accounts, savings accounts, and other accounts

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b) deposits of other banks’ revenues

c) expenses and losses from investments
d) gains from investments

Diff: 3
Page Ref: 152
LO: 6

In a single proprietorship, the statement of retained earnings may also be called: .33
a) equity statement or statement of owner’s equity
b) statement of partners’ equity
c) statement of retained earnings and stockholders' equity
d) none of the above

Diff: 1
Page Ref: 156
LO: 6

Which of the following is a specific disclosure required in the statement of .34

?changes in owners’ equity according to para 58 of FAS 1
a) net income (loss) for the period
b) transfers to legal and discretionary reserves during the period
c) capital contribution by owners during the period
d) distribution to owners during the period

Diff: 3
Page Ref: 158
LO: 6

35. The Islamic bank’s share in income (loss) from investments must be dis-
closed in the:
a) cash flow statement
b) income statement
c) statement of retained earnings
d) statement of changes in owners’ equity

Diff: 2
Page Ref: 155
LO: 6

:AAOIFI proposed set of financial statements for Islamic banks include .36
a) financial statements that reflect the Islamic bank’s function as an in-
vestor and its rights and obligations
b) a financial statement reflecting changes in restricted investments
managed by the Islamic bank for the benefit of others whether based
on a Mudaraba contract or an agency contract.
c) financial statements reflecting the Islamic bank’s role as a fiduciary
of funds made available for social services when such services are
provided through separate funds

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d) all of the above

Diff: 3
Page Ref: 160
LO: 6

Short answer questions

Question 1
What is Islamic financial accounting?

Islamic financial accounting can be defined as “the accounting process that provides
appropriate information to stakeholders of an entity that will enable them to ensure
that the entity is continuously operating within the bounds of the Islamic Sharī‘ah
and delivering on its socioeconomic objectives.” The general definition of financial
ac-counting remains acceptable within the Islamic financial framework provided that
the underlying objective of Islamic financial accounting is an Islamic worldview in
com-pliance with the Sharī‘ah prescriptions.
LO: 1 Page Ref: 129

Question 2
What is IFRS? List its principle objectives.

The international financial reporting standards (IFRS) foundation is an independent,

not-for-profit, private sector organization working in the public interest. Its principal
objectives are:
to develop a single set of high quality, understandable, enforceable and glob-
ally accepted international financial reporting standards (IFRS) through its
standard setting body, the IASB
to promote the use and rigorous application of those standards
to take account of the financial reporting needs of emerging economies and
small and medium-sized entities (SMEs)
to bring about convergence of national accounting standards and IFRS
LO: 2 Page Ref: 131

Question 3
?What are the five different aspects that the structure of IFRS includes

The structure of IFRS comprises five different aspects:

• International Financial Reporting Standards (IFRS) — standards issued
after 2001
• International Accounting Standards (IAS) — standards issued before 2001
• Interpretations originated from the International Financial Reporting Inter-
pretations
Committee (IFRIC) — issued after 2001
• Standing Interpretations Committee (SIC) — issued before 2001
LO: 2 Page Ref: 132

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Question 4
Explain the second branch of accounting (financial accounting) in terms of its
.target audience and main objective

Financial accounting deals with the provision of relevant information to interested

parties outside the domain of the business who are not involved in the day-to-day
run-ning of the company. Stakeholders include prospective investors, banks, future
part-ners, regulatory bodies, government agencies, shareholders, and prospective
buyers who will one way or another, need financial information on the performance
of the business to help them make better decisions or policies.

Financial accounting allows the stakeholders in the business to make sound

economic decisions that could have an impact on the community at large.
LO: 3 Page Ref: 138

Question 5
.List the main purposes of Islamic accounting

The purposes of Islamic accounting include the:

accurate determination of income,
promotion of efficiency and leadership,
compliance with the Sharī‘ah,
commitment to justice,
reporting best practices, and
adapting to positive social change through corporate social responsibility
LO: 4 Page Ref: 138

Question 6
Describe the types of information that should be included when such
information is directed at Islamic financial institutions' external users.

The information that is directed at external users should provide the following
types of information as required in SFA No. 1, paragraphs 37–42:
Information about the Islamic bank’s compliance with the Sharī‘ah and its
objectives
Information about the Islamic bank’s economic resources and related
obligations
Information to assist the concerned party in determining zakat on the Islamic
bank’s funds and the purpose for which it will be disbursed
Information to assist in estimating cash flows that might be realized from
dealing with the Islamic bank, the timing of those flows, and the risks
associated with their realization
Information to assist in evaluating the Islamic bank’s discharge of its fiduciary
responsibility to safeguard funds and to invest them at reasonable rates of
return
Information about the Islamic bank’s discharge of its social responsibilities
LO: 4 Page Ref: 139 - 140

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Question 7
Discuss briefly the objectives of financial accounting standards for Islamic
banks and financial institutions as identified by the AAOIFI.

The objectives of financial accounting standards for Islamic banks and financial insti-
tutions as identified by AAOIFI are:
To serve as a guide for the financial accounting standards boards for Islamic
banks and financial institutions when developing financial accounting stan-
dards. This should ensure consistency in developing standards
To assist the Islamic banks, in the absence of accepted accounting
standards, in making choices among alternative accounting treatments
To make available a guide and a regulator of subjective judgment made by
management when preparing the financial statements and other financial re-
ports
To increase users’ confidence and understanding of accounting
information and, in turn, their confidence in Islamic banks
To develop accounting standards which are likely to be consistent with each
other. This should increase users’ confidence in the financial reports of
Islamic banks
LO: 4 Page Ref: 143

Question 8
.Differentiate between the cash flow and the accrual methods of accounting

The cash flow method of accounting is based on the frequency of cash flow. No
transaction is recorded until and unless there is an actual exchange of money,
whether the business receives it by cash, credit card or check. This method gives a
clear ac-count of the cash flow of the business.

On the other hand, the accrual method of accounting is based on the occurrence of a
transaction regardless of whether there is exchange of cash. Whenever there is a trans-
action involving the business, a financial record is made of it immediately, in spite of
whether money being changed hands. This method specifically requires the use of
double-entry bookkeeping in order for the business to keep track of its assets and lia-
bilities.
LO: 5 Page Ref: 146

Question 9
Name at least six items that the financial statements of an Islamic bank should
include according to AAOIFI FAS 1.

According to AAOIFI FAS 1, the financial statements of an Islamic bank should

con-sist of the following:
• a statement of financial position (balance sheet)
• an income statement
• a statement of cash flows

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• a statement of changes in owners’ equity or a statement of retained earnings

• a statement of changes in restricted investment
• a statement of sources and uses of funds in the zakat and charity fund (when the
bank assumes responsibility for the collection and distribution of zakat)
• a statement of sources and uses of funds in the qard fund
• notes to the financial statements
• any statements, reports and other data that assist in providing information required by
users of financial statements as specified in the Statement of Objectives
LO: 6 Page Ref: 147

Question 10
Define 'cash flow statement' and describe its purpose.

The cash flow statement is a financial statement that indicates how changes in the
balance sheet accounts and income statements affect cash and its equivalent; the anal-
ysis is broken down into operating, investing, and financing activities. The cash flow
statement may also be called a statement of cash flows or funds flow statement.

The purpose of the cash flow statement is to identify the sources and uses of cash
during the financial year in question. The cash flow statement derives its data from
the changes in all other balance sheet items: (i) cash flows from operations, (ii) cash
flows from investing activities, and (iii) cash flows from financing activities.
LO: 6 Page Ref: 156

Question 11
What should be disclosed in a 'cash flow statement'?

The cash flow statement should disclose:

the net increase (or decrease) in cash and cash equivalent during the period
the balance of cash and cash equivalent at the beginning and end of the period.
transactions and other transfers that do not require the payment of, or do not
result in the receipt of, cash and cash equivalent
LO: 6 Page Ref: 156

Question 12
Describe the set of financial statements for Islamic banks and financial
institu-tions - as proposed by AAOIFI.

The AAOIFI proposed set of financial statements for Islamic banks and financial
in-stitutions is split into three major categories:
The first category comprises of the financial statements such as the state-
ment of financial position, statement of income, statement of cash flows, and
statement of retained earnings or statement of changes in owners’ equity.
These are meant to reflect the position of the Islamic bank for an investor.
The second category focuses on the financial reporting of restricted invest-
ments, which are managed by the Islamic bank. In most cases, the restricted
investments are carried out through the facility of mudarabah (trust invest-
ment financing) or wakalah (agency) contracts, and they require a unique fi-

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nancial statement generally known as the statement of changes in restricted in-

vestments.
The third category emphasizes the original value proposition of Islamic fi-
nancial intermediation, which reflects the role of Islamic banks as a fiduciary
of funds in providing social services.
LO: 6 Page Ref: 160

Chapter – 5
CORPORATE GOVERNANCE FOR
ISLAMIC FINANCIAL INSTITUTIONS
_________________________________________
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True / False Questions

1. There is no difference between the conceptual understanding of the meaning
of corporate governance in Islamic law and the conventional conception of corporate
governance.
Answer: False
Diff: 2
Page Ref: 170
LO: 1
2. There is an inclusive and generally accepted definition for corporate
governance that can be applied to all contexts.
Answer: False
Diff: 1
Page Ref: 170
LO: 1
3. Corporate governance has been defined in different contexts and jurisdictions
according to the goal it is designed to achieve.
Answer: True
Diff: 2
Page Ref: 170
LO: 1
4. The board of directors lays down Sharī‘ah compliant rules and procedures for
the smooth-running of the company.
Answer: False
Diff: 2
Page Ref: 172
LO: 1
5. In contrast to the Anglo-American model of corporate governance, the FrancoGerman model
emphasises the interests of the shareholders.
Answer: False
Diff: 2
Page Ref: 172
LO: 2
6. The Franco-German model incorporates the interests of shareholders and nonshareholders but with
more emphasis on the non-shareholders who are considered as
the stakeholders.
Answer: True
Diff: 3
Page Ref: 172
LO: 2
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7. The Anglo-American model is closer and of more relevance for Islamic

finance as it aims to align management’s interests with shareholders’ interests.
Answer: True
Diff: 2
Page Ref: 172
LO: 2
8. Under the Islamic paradigm of corporate governance only selected
stakeholders such as executive management are able to serve on the Sharī‘ah
supervisory board to ensure transparency, accountability, fairness, and mutual
consultation.
Answer: False
Diff: 2
Page Ref: 173
LO: 2
8. Accountability in business transactions includes true and fair disclosure and
transparency so that the interests of all stakeholders, particularly management and
employees, will be protected.
Answer: False
Diff: 3
Page Ref: 174
LO: 2
9. IFSB and AAOIFI standards are intended to guide conventional, as well as
Islamic financial institutions across the world, to be more competitive.
Answer: False
Diff: 2
Page Ref: 174
LO: 2
10. The role of corporate governance in Islamic financial institutions includes
establishing a harmonious relationship among the shareholders, board of directors,
management, stakeholders, and, above all, with God.
Answer: True
Diff: 2
Page Ref: 174
LO: 3
11. Sharī‘ah governance and corporate governance are so close and cannot be
separated in an Islamic corporate entity.
Answer: True
Diff: 2
Page Ref: 174, 177
LO: 3
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12. The primary objective of Sharī‘ah audit in corporate governance is to ensure

the compliance of Islamic financial institutions with the Sharī‘ah board verdicts.
Answer: True
Diff: 2
Page Ref: 177
LO: 3
13. The Sharī‘ah system of governance was introduced to replace the corporate
governance of conventional financial institutions.
Answer: False
Diff: 2
Page Ref: 177
LO: 3
14. The Sharī‘ah system of governance was introduced to complement the
adaptable standards of corporate governance and streamline the non-compatible
standards according to the philosophical foundation of corporate governance in Islam.
Answer: True
Diff: 2
Page Ref: 177
LO: 3
15. The scope of the Sharī‘ah governance system of a jurisdiction is uniform
across the wide spectrum of Islamic countries.
Answer: False
Diff: 3
Page Ref: 179
LO: 3
16. The first Sharī‘ah board was established in 1976 by the Faisal Islamic Bank of
Saudi Arabia.
Answer: False
1 Diff: 3
Page Ref: 182
LO: 3
17. The institutionalisation of Sharī‘ah governance in Islamic financial institutions
is carried out through hisbah and collective ijtihad models.
Answer: True
Diff: 2
Page Ref: 182
LO: 3
18. The emphasis of the modern scholar’s model (collective ijtihad model)
utilized in the institutionalisation of Sharī‘ah governance in Islamic financial
institutions is on Sharī‘ah advisory and consultancy.
Answer: True
Diff: 2
Page Ref: 183
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LO: 3
19. The prominent Sharī‘ah board for the Organisation of Islamic Conference
(OIC) is the Council of the Islamic Fiqh Academy based in Jeddah, Saud Arabia.
Answer: True
Diff: 2
Page Ref: 183
LO: 3
20. The International Islamic Fiqh Academy, based in Jeddah issues resolutions
exclusively on Islamic banking and finance issues.
Answer: False
Diff: 2
Page Ref: 183
LO: 3
21. The function of the Sharī‘ah supervisory board is linked to its advisory role in
ensuring Sharī‘ah compliance of new products.
Answer: False
Diff: 2
Page Ref: 183
LO: 3
22. The establishment of Sharī‘ah board at the macro level must be in form of an
international set up.
Answer: False
Diff: 2
Page Ref: 184
LO: 3
23. In the event of any conflict between the decision of the Sharī‘ah board of an
Islamic financial institution and the Sharī‘ah Supervisory Council of the Central
Bank, the resolution of the latter prevails.
Answer: True
Diff: 2
Page Ref: 184
LO: 3
24. The Internal Sharī‘ah Compliance Unit (ISCU) is entrusted with the
responsibility of verification of processes, services and transactions to ensure the
compliance with the resolutions/pronouncements of the Sharī‘ah Board.
Answer: True
Diff: 2
Page Ref: 184
LO: 3
25. The power to appoint Sharī‘ah scholars to the Sharī‘ah board is vested in the
Sharī‘ah Supervisory Council of the Central Bank of the concerned country.
Answer: False
Diff: 3
Page Ref: 186
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LO: 3
26. Being well-versed in fiqh al-mu‘amalat and usul al-fiqh (principles of Islamic
jurisprudence) is a pre-requisite for scholars aspiring to be on the Sharī‘ah Boards of
Islamic financial institutions.
Answer: True
Diff: 3
Page Ref: 186
LO: 3
27. Non-experts in fiqh al-mu‘amalat and usul al-fiqh may be appointed as
members of the Sharī‘ah board with the purpose of strengthening the board in
complex banking and finance operations.
Answer: True
Diff: 2
Page Ref: 188
LO: 3
28. The composition of the Sharī‘ah board is determined by the Council of the
Islamic Fiqh Academy.
Answer: False
Diff: 2
Page Ref: 187
LO: 3
29. There is no standard practice in determining how many members a Sharī‘ah
board should have.
Answer: True
Diff: 1
Page Ref: 187
LO: 3
30. According to AAOIFI’s governance standards, the Sharī‘ah supervisory board
shall be composed of at least five members
Answer: False
Diff: 2
Page Ref: 187
LO: 3
31. A clear differentiation between the roles of the Sharī‘ah compliance officer
and the Sharī‘ah coordinator in all Islamic financial institutions is always observed.
Answer: False
Diff: 3
Page Ref: 188
LO: 3
32. It is common in modern practice for the secretary of the Sharī‘ah board or the
Sharī‘ah compliance officer to perform the task of Sharī‘ah coordination.
Answer: True
Diff: 2
Page Ref: 188
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LO: 3
33. The main purpose of Sharī‘ah review is to ensure total compliance with the
resolutions and specific instructions, where applicable, of the Sharī‘ah board.
Answer: True
Diff:1
Page Ref: 188
LO: 3
34. A standard Sharī‘ah review that includes external Sharī‘ah audit is sufficient
to carry out the compliance with the Sharī‘ah resolutions and other rules concerning
products and services of the Islamic financial institutions.
Answer: False
Diff: 3
Page Ref: 189
LO: 3
35. The major difference between the functions of the internal audit department
of IFIs and the internal Sharī‘ah audit department is that the former reports to the
Shari‘ah board while the latter reports to the audit committee.
Answer: False
Diff: 3
Page Ref: 189
LO: 3
36. According to AAOIFI Governance Standards, the Sharī‘ah compliance
process is always carried out by an independent division regardless of the
organisational structure adopted by individual Islamic financial institutions.
Answer: False
Diff: 3
Page Ref: 189
LO: 3
37. IFSB-10 requires any internal Sharī‘ah review/audit/ unit/department to
undertake the important task of effectively verifying the extent of Sharī‘ah
compliance
Answer: True
Diff: 2
Page Ref: 189
LO: 3
38. While the internal audit department of IFIs reports to the audit committee, the
internal Sharī‘ah audit reports to the Sharī‘ah board.
Answer: True
Diff: 2
Page Ref:189
LO: 3
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39. A report must be produced indicating whether the IFI has complied with the
Sharī‘ah requirements in the financial year under review.
Answer: True
Diff: 1
Page Ref: 189
LO: 3
40. Diverse approaches for corporate governance in IFIs are adopted in different
jurisdictions.
Answer: True
Diff: 2
Page Ref: 190
LO: 4
41. The existing international standard-setting bodies that have issued guidelines
on corporate governance and risk management for financial institutions which have
addressed the specifics of the Islamic finance industry.
Answer: False
Diff: 1
Page Ref: 190
LO: 4
42. IFSB and AAOIFI Standards are specifically meant for the IFIs.
Answer: True
Diff: 2
Page Ref: 190
LO: 4
43. The IFSB issued its guidelines with regards to the takaful industry under the
assumption that there is a single model of corporate governance that can work well for
every country and in all types of business.
Answer: False
Diff: 1
Page Ref: 205
LO: 5
44. The major two stakeholders in the takaful business managed by the takaful
operator are the shareholders and the management.
Answer: False
Diff: 2
Page Ref: 206 - 207
LO: 5
45. The challenge faced by the takaful operator is to apply a fairly balanced
approach where due attention is given to the participants while seeking to create value
for the shareholders.
Answer: True
Diff: 2
Page Ref: 206 - 207
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LO: 5
46. A governance committee is proposed by IFSB in order to resolve the conflict
between the interest of the shareholders and that of the takaful participants.
Answer: True
Diff: 3
Page Ref: 207
LO: 5
47. Although the takaful operator is appointed by the shareholders, the
participants' approval remains a condition for such an appointment to be of use.
True: False
Diff: 2
Page Ref: 206
LO: 5

Multiple Choice Questions

1. Major definitions of corporate governance are given by:
a) Organization for Economic Corporation and Development (OECD)
b) International Chamber of Commerce (ICC)
c) the Cadbury Report
d) all of the above
Diff: 2
Page Ref: 170-171
LO:1
2. The following are common features shared by the majority of corporate
governance' definitions EXCEPT:
a) a system of relationships defined by structures and processes
b) relationships with different and in some cases contrasting interests
c) stakeholders, by and large, play a passive role in the direction and
control of the company
d) rights and responsibilities are properly distributed among the
stakeholders
Diff: 2
Page Ref: 171
LO: 1
3. _________ defined Corporate Governance to be “a set of relationships
between a company’s management, its board, its shareholders and other
stakeholders. Corporate governance also provides the structure through which
the objectives of the company are set, and the means of attaining those
objectives and monitoring performance are determined”.
a) Organization for Economic Corporation and Development
(OECD)
b) International Chamber of Commerce (ICC)
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c) the Cadbury Report

d) none of the above
Diff: 3
Page Ref: 170
LO: 1
4. The two basic models of corporate governance from the conventional
viewpoint are based respectively on:
a) the Anglo-American model and the Turkish model
b) the Anglo-American model and the Franco-German model
c) the Franco-German model and Southeast Asian model
d) Southeast Asian model and the Eastern model
Diff: 2
Page Ref: 172
LO: 2
5. The Anglo-American model accomplishes its scheme though a number of
mechanisms such as:
a) shareholder representation on the Board of Directors
b) manager compensation scheme
c) external market discipline
d) all of the above
Diff: 2
Page Ref: 173
LO: 2
6. Which one of the following models tends to emphasise the stakeholder-value
system?
a) the Anglo-American model
b) the middle Eastern model
c) the Franco-German model
d) the Southeast Asian model
Diff: 1
Page Ref: 172
LO: 2
7. Which of the following statement regarding the role of corporate governance
in Islamic financial institutions is false?
a) to promote sound and stable conventional as well as Islamic
financial industry that can be globally competitive
b) to promote prudent and transparent practices in the management of
Islamic financial institutions
c) to protect the interest of all stakeholders including the investors,
depositors and workers and the general public
d) to ensure the proper discharge of the corporate social responsibility
role of the Islamic financial institutions
Diff: 2
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Page Ref: 174

LO: 2
8. The foundational dimension of corporate governance from the Islamic
perspective is based on the:
a) concept of tawhid (unity of God)
b) principle of shurah (mutual consultation)
c) Islamic legal rules on harmonious relationship and mutual benefits in
commercial transactions
d) all of the above
Diff: 2
Page Ref: 175
LO: 3
9. Setting the overall policy and strategy in corporate governance of Islamic
financial institutions is the responsibility of:
a) senior management
b) board of directors
c) Sharī‘ah boards
d) shareholders
Diff: 3
Page Ref: 176
LO: 3
10. The objective(s)/responsibility(ies) of the internal auditing in corporate
governance is to:
a) evaluate the accuracy of the quality and quantity of information
b) ensure that the policies set by the board are followed by the
management (compliance)
c) provide clear laws and regulations that cater for the needs of Islamic
financial institutions
d) all of the above
Diff: 2
Page Ref: 177
LO: 3
11. The primary objective/responsibility of Sharī‘ah board in corporate
governance of Islamic Financial Institutions (IFIs) is to:
a) oversee compliance with its verdict
b) set overall policy and strategy
c) elect Board Members
d) all of the above
Diff: 2
Page Ref: 177
LO: 3
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12. The IFSB-10 gives the following primary duties of the Sharī‘ah Board in an
Islamic financial institution EXCEPT:
a) advising the Board of Directors on Sharī`ah-related matters.
b) reviewing and endorsing Sharī`ah-related policies and guidelines
c) providing operational guidelines for financial institutions
d) overseeing the computation and distribution of zakah and any other
fund to be channelled to charity
Diff: 3
Page Ref: 180
LO: 3
13. The major areas covered by the Sharī`ah Governance System in financial
institutions offering Islamic services include:
a) issuance of relevant Sharī`ah pronouncements/resolutions
b) dissemination of the Sharī`ah resolution to the Sharī`ah Review Unit
c) preparation of an Annual Sharī`ah Compliance Review Report
d) all of the above
Diff: 3
Page Ref: 181
LO: 3
14. ___________ is the model used for the institutionalisation of Sharī‘ah
governance in Islamic financial institutions that places more emphasis on
Sharī‘ah-compliance.
a) shourah model
b) collective ijtihad model
c) hisbah model
d) takaful model
Diff: 3
Page Ref: 182 - 183
LO: 3
15. __________ is the model used for the institutionalisation of Sharī`ah
governance in Islamic financial institutions that focuses on Sharī`ah advisory
and consultancy.
a) hisbah model
b) collective ijtihad model
c) shourah model
d) takaful model
Diff: 2
Page Ref: 183
LO: 3
16. In modern Islamic financial institutions, the Sharī`ah Board is responsible for:
a) product development and certification
b) certification of products
c) issuance of resolutions on matters brought before it
d) all of the above
Diff: 2
Page Ref: 183
LO: 3
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17. All of following are organs of the sharī`ah governance system EXCEPT:
a) Islamic Banking Associations
b) Sharī`ah supervisory board at the micro level
c) Sharī`ah supervisory council of the central bank at the macro level
d) internal Sharī`ah compliance unit
Diff: 2
Page Ref: 183
LO: 3
18. __________ is the highest and most visible organ of an Islamic financial
institution
a) General Council of Islamic Banks and Financial Institutions
b) the Sharī‘ah supervisory board (“Sharī‘ah Board”)
c) corporate board of directors
d) Islamic Financial Services Board
Diff: 3
Page Ref: 183
LO: 3
19. It is a common practice to have __________ members in the Sharī‘ah Board
a) less than three
b) between three and six
c) between seven and ten
d) more than ten
Diff: 2
Page Ref: 187
LO: 3
20. Which of the following statements regarding the Sharī‘ah Board of AAOIFI is
False?
a) the Sharī`ah board is composed of not more than twenty members
b) board members are appointed by the board of trustees
c) board members are appointed for a five year term period
d) board members are appointed from sharī`ah boards of IFIs who are
members of AAOIFI and the Sharī‘ah Supervisory Boards of Central
Banks
Diff: 3
Page Ref: 187
LO: 3
21. The minimum qualification of the members of the Sharī‘ah board include:
a) being well-versed in fiqh al-mu‘amalat
b) having practical knowledge and considerable expertise in the
application of usul al-fiqh in modern financial transactions
c) some IFIs in some jurisdictions include some additional qualification
related to their business
d) all of the above
Diff: 2
Page Ref: 187 - 188
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LO: 3
22. ------------------ organizes the Sharī`ah governance process which mainly
consists of the corporate interaction between the Sharī`ah board and the
Internal Sharī`ah Compliance Unit (ISCU) or external Sharī`ah audit review
and other organs of the Islamic financial institutions
a) the Islamic Financial Services Board
b) the Sharī`ah coordinator
c) the Sharī`ah compliance officer
d) the regulator of the Islamic financial institution
Diff: 2
Page Ref: 188
LO: 3
23. The internal Sharī‘ah audit of Islamic financial institutions reports to the:
a) audit committee
b) Sharī‘ah board
c) board of directors
d) all of the above
Diff: 2
Page Ref: 189
LO: 3
24. The Sharī‘ah Board must produce a Sharī‘ah report periodically or annually to
explain its position on:
a) the overall business performance and profitability
b) fatwa on matters brought before it such as proposed products and
transactions.
c) the level of IFIs of Sharī‘ah compliance
d) all of the above
Diff: 3
Page Ref: 189
LO: 3
25. According to IFSB-10, the Sharī‘ah report may be in any of the following
forms except:
a) financial performance report
b) a fact-finding report
c) (an ex-ante) report in relation to product design and development;
d) an annual Sharī`ah compliance report
Diff: 2
Page Ref: 189
LO: 3
26. The fact-finding reports and product design and development reports are
submitted to the
a) board of directors
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b) audit committee
c) management of the IFI
d) all of the above
Diff: 2
Page Ref: 189
LO: 3
27. The internal Sharī‘ah audit/review report on the products offered to customers
is submitted to the
a) audit committee
b) shareholders
c) senior management of the IFI
d) all of the above
Diff: 1
Page Ref: 189
LO: 3
28. The annual Sharī‘ah compliance report is submitted to
a) the board of directors (BOD) who distributes same to the shareholders
at the AGM
b) members of the public including the investment account holders (IAH)
c) the supervisory authority in the jurisdiction may have access to the
report
d) all of the above
Diff: 2
Page Ref: 189
LO: 3
29. Major requirement(s) for good corporate governance within the context of
takaful (Islamic insurance) include:
a) a set of organisational arrangements whereby the actions of the
management of takaful operators are aligned with the interests of its
stakeholders
b) provision of proper incentives for the organs of governance to pursue
that are in the interests of the stakeholders and facilitate effective monitoring
c) compliance with the Sharī`ah rules and principle.
d) all of the above
Diff: 3
Page Ref: 203
LO: 5
30. Which of the following is not an objective of the IFSB guiding principles on
governance for takaful (Islamic insurance)?
a) To provide benchmarks for use by takaful supervisors in adapting and
improving regulatory regimes or establishing new ones;
b) To address regulatory issues, such as risk management and financial
stability, for the takaful industry;
c) To provide liquidity enhancement to the financial system
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d) To provide appropriate levels of consumer protection in terms of both

Short answers
Question 1:
Discuss the common features shared by the majority of corporate governance
definitions.
Most definitions of corporate governance have certain features in common. These
include:
• A system of relationships defined by structures and processes
• Relationships with different and, in some cases, conflicting interests
• All the stakeholders, one way or the other, are involved in the direction and control
of the company
• Rights and responsibilities are properly distributed among the stakeholders
Page Ref: 171 LO: 1
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Question 2
What are the differences (if any) between the conventional definition of
corporate governance and the definition of corporate governance in Islam?
The slight difference lies in the inclusion of Sharī‘ah governance in the corporate
governance structure of IFIs. The Sharī‘ah governance organ ensures strict
compliance with the Sharī‘ah in all the activities carried out by all other stakeholders
in the management of the company, and is usually represented by the Sharī‘ah
supervisory board in the governance structure of an IFI.
This key organ (the Sharī‘ah supervisory board) which is added to the stakeholders is
crucial in the business and the continued existence of the entity, since it lays down
Shari‘ah-compliant rules and procedures for the smooth running of the company. The
board is composed of Sharī‘ah scholars who are well-versed and competent in
Sharī‘ah matters, particularly aspects of economics and finance. The board supervises
and ensures the Sharī‘ah compliance of new products. They have both consultative
and supervisory functions.
Page Ref: 171-172 LO: 1
Question 3
Discuss briefly the two basic models of corporate governance from the conventional
perspective and their relevance for Islamic finance.
The two basic models of corporate governance from the conventional perspective are:
1- The Anglo-American model which emphasizes the interests of the
shareholders. This model accomplishes its aims through a number of
mechanisms, including shareholder representation on the board of directors,
management compensation schemes, and external market discipline.
2- The Franco-German model, which is a form of a stakeholder-value system,
emphasizes cooperative relations between stakeholders, and employee protection
and welfare. It incorporates the interests of shareholders and non-shareholders
alike with more emphasis on the latter, who are considered to be stakeholders.
Staff representatives serve on the board.
The Anglo-American model is of great relevance for Islamic finance as it aims to
align management’s interests with shareholders’ interests. By the nature of the modes
of Islamic finance, the shareholders are considered to be important stakeholders akin
to partners in a joint-venture company. Thus, a model that promotes the shareholder
value system by aligning the interests of shareholders with those of management
represents the underlying principle of most Islamic modes of finance, such as
mudarabah (trust financing) and musharakah (joint-venture contract).
Page Ref: 172-173 LO: 2
Question 4
Describe the roles of corporate governance in Islamic financial institutions
include:
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The roles of corporate governance in Islamic financial institutions include:

• Establishing a harmonious relationship among the shareholders, board of
directors, management, stakeholders, and, above all, God
• Promoting prudent and transparent practices in the management of Islamic
financial institutions
• Protecting the interest of all stakeholders including the investors, depositors,
staff, and the general public
• Ensuring the proper discharge of the corporate social responsibility role of
Islamic financial institutions
• Promoting a sound and stable Islamic financial industry that can compete
globally with conventional financial institutions in ensuring standard practices.
Page Ref: 174 LO: 2
Question 5
Describe the primary duties of the Sharī‘ah board in an IFI
The primary duties of the Sharī‘ah board in an IFI are:
 Advising the board of directors on Sharī‘ah -related matters.
 Reviewing and endorsing Shari‘ah-related policies and guidelines.
 Endorsing and validating relevant documentation for new products and
services, including contracts, agreements, or other legal documentation used in
an IFI’s business transactions.
 Overseeing the calculation and distribution of zakat and any other funds to be
channeled to charity.
 Assisting and advising relevant parties that serves the IFI, such as its legal
counsel, auditor or other consultants, upon request.
 Putting on record, in written form, any opinion that it gives on Shari‘ah-related
issues.
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Question 6
Identify the major areas covered by the Sharī‘ah Governance System in financial
institutions offering Islamic services (The Organs of the Sharī‘ah Governance
System).
The major areas covered by the Sharī‘ah Governance System in financial institutions
offering Islamic services include:
 Issuance of relevant Sharī‘ah pronouncements/resolutions.
 Dissemination of the Sharī‘ah resolution to the Sharī‘ah Review Unit
 Preparation of an Annual Sharī‘ah Compliance Review Report .
 Recording and reporting the findings of the internal Sharī‘ah
compliance unit (ISCU).
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Question 7
Describe the various forms of Sharī‘ah reports that the board must produce to
explain its position on the overall business and products of the IFI, and its legal
ruling, or fatwa, on matters brought before it.
According to IFSB-10, the Sharī‘ah reports could take any of the following forms:
• a fact-finding report
• (an ex-ante) report in relation to product design and development
• (an ex-post) internal Shari‘ah audit/review report on the products offered to
customers
• an annual Shari‘ah compliance report.
These reports have different purposes and are submitted to different bodies in the
governance of the IFIs:
• The fact-finding reports and product design and development reports are
submitted to the IFI’s management.
• The internal Shari‘ah audit/review report on the products offered to customers
is submitted to the audit committee.
• The annual Shari‘ah compliance report is submitted to the BoD, which
distributes it to the shareholders at the AGM. Members of the public,
including investment account holders_(IAH), and the supervisory authority in
the jurisdiction may also have access to this report
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Question 8
Is there a need to provide standards for Sharī‘ah governance for IFIs despite the
existence of various relevant international standard-setting bodies?
The existing international standard-setting bodies that have issued guidelines on
corporate governance and risk management for financial institutions include the
Organization for Economic Cooperation and Development (OECD), the International
Organization of Securities Commissions (IOSCO) and the Basel Committee on
Banking Supervision (BCBS). These standards do not address the specifics of the
Islamic finance industry, hence the need to provide standards for Shari‘ah governance
for IFIs.
As most IFIs operate under the regulatory regimes and banking laws of their
respective jurisdictions, the corporate standards of other countries are applicable to
them provided they do not contradict the Shari‘ah. The IFSB and AAOIFI standards
are fundamentally Sharī‘ah governance standards specifically meant for the IFIs
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Question 9
What are the three major requirements that good corporate governance within
the context of takaful should encompass?
According to the IFSB, good corporate governance within the context of takaful
should encompass the following three major requirements.
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• A set of organizational arrangements whereby the actions of the management

of takaful operators are aligned, as far as possible, with the interests of its
stakeholders.
• Provision of proper incentives for governance bodies such as the BoD, the
Shari‘ah supervisory board and management to pursue objectives that are in
the interests of their stakeholders and facilitate effective monitoring, thus
encouraging takaful operators to use resources more efficiently.
• Compliance with Sharī‘ah rules and principles.37
These three major requirements cover Sharī‘ah and corporate governance, which are
the two major aspects of corporate governance in Islamic financial services. Takaful
operators must implement policies that agree with the interests of all stakeholders in
the industry.
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Question 10
What are the objectives of the IFSB guiding principles on governance for takaful
(Islamic insurance)?
The objectives of the IFSB guiding principles are to:
 provide benchmarks for use by takaful supervisors in adapting and
improving regulatory regimes or establishing new ones;
 address regulatory issues, such as risk management and financial
stability, for the takaful industry;
 provide appropriate levels of consumer protection in terms of both risk
and disclosure
 support the orderly development of the takaful industry in terms of
acceptable business and operational models, and the design and
marketing of takaful products.
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Question 11
Discuss the IFSB proposal to resolve conflicts of interest among stakeholders in
takaful undertakings
The IFSB proposes a governance committee responsible for implementing the
governance framework through the induction of all stakeholders. According to the
IFSB guidelines, the objectives of the governance committee should be as follows:
 Developing and recommending to the board of directors a set of effective
corporate governance policies and procedures applicable to the takaful
undertaking, including the formulation of appropriate business conduct and
ethics codes for employees and agents.
 Developing and recommending to the board of directors the additional
governance structure and processes applicable to the takaful operator, and
reviewing and reassessing their effectiveness.
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 Overseeing and monitoring the implementation of the governance policy

framework by working with management, the audit committee, and the
Shari‘ah supervisory board.
 Monitoring the financial management of the takaful undertaking, particularly
with respect to reserving and distribution of underwriting and/or investment
profit.
 Providing the board of directors with reports and recommendations based on
its findings in exercising its functions.
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Question One: Mark the Following Questions ( T ) or ( X ) as Appropriate:

1. ( T ) The Umayyad and Abbasid Eras Issuance of the first Islamic dirham

2. ( T ) Experiments in Islamic finance in Egypt, Malaysia, and Pakistan: the basis of

modern Islamic banking and finance.

3. ( F ) Islamic financial institutions that play a facilitative role in Islamic society

ensuring economic development through bank financing

4. ( F ) The practice of Islamic banking and finance has now been unaccepted as an
alternative to conventional financial systems

5. ( T ) Takaful and retakaful significant in managing and mitigating risks in Islamic

banking and finance

6. ( F ) The Sharī‘ah does limit profit amount in business

 7. ( T ) Wa’ad is a binding unilateral contract where a party promises or undertakes
to carry out a unilateral contract

8. ( F ) The concept of wa’ad is based on fulfilment of promise in some dispositions

9. ( F ) The price of the contract is usually in the form of a consideration, which

always necessarily be money

10. ( T ) Forbidden contracts involve elements of riba, gharar and gambling

11. ( F ) A void contract is a legally binding contract

12. ( T ) ahliyyah is “the ability to acquire rights and exercise them and to accept
duties and perform them accordingly”

13. ( T ) Murabahah is derived from the root word ribh which means profit, gain or a
legal addition

14. ( F ) Bay al-salam does require the commodity to exist at the time of concluding
the contract

15. ( T ) Ijarah means lease Tamlik denotes ownership

Question Two: Choose the Correct Answer:

1. The Islamic Capital Market is free from

a) Riba b) gh c) maysir d) A, B & C

2. All the following are the fundamentals of Islamic banking and finance business
except

a) Interest b) Ethical c) profit

and loss sharing d) Asset-based and asset-backed

3. Which period consider the introduction of the first Muslim coins

a) Abu Bakr Assidique b) Umar ibn Al-Khattab

c) Uthman ibn Affan d) Ali ibn Abi Talib
4. Contracts can be classified into
a) Unilateral contracts
b) Bilateral contracts
c) Quasi contracts
d) all of the above

5. "Bank interest is not riba. It represents one’s dividends for depositing money in bank
accounts" this is view for .
a) Traditional View b) Liberal View
c) Most Convincing Position d) all

6. Al the following are the main channels for the outflow of the funds except

a) Lease b) manufacturing contract c) bai‘ al-Hisat d) bay salam

7. a payment for usufruct in the use of another person’s property or payment for service
in contract of ijarah

a) Ujrah b) ju’alah c) ijarah d) ijarah thumma al-bay

8. Partnership contracts which have been transformed into financial instruments

a) Mudarabah b) Musharakah
c) Mmharakah mutanaqisah d) all

9. which of the following NOT of the modern application of Mudarabah

a) Trade finance b) venture capital c) project financing d) unit trust

10. Is the gratuitous transfer of property from one person to another without any formal
material consideration

a) Sukuk b) Tabarru’ c) Hibah d) Rahn

No. T/F

1 Prophet Mohammed (PBUH) (before becoming a prophet) engaged T

practically in commercial transactions that involved financial among
parties of different nations and tribes.
2 Benevolent loan (qard el hassan) was not known during prophethood era. F
3 Sarf (exchange of money) was known during prophethood era. T
4 Bait al mal as centralized and permanent treasury house was found in F
the era of Abu Bakr Elsedeq.
5 The cardinal purpose of the institution of alms (zakat) is to create and T
maintain a sustainable society.
6 Any appropriation of property belonging to another is considered F
wholly lawful.
7 Contract of sale ‘aqd al-bay‘ is a Bilateral contract. T
8 It is lawful in Islamic commercial transactions to misappropriating F
public funds.
9 Contingent contract al-‘aqd al-ihtimali is a Bilateral contract. T
10 It is lawful in Islamic commercial transactions to hoarding to inflate F
prices at a later time .
11 Contract of arbitration ‘aqd al-tahkim is a Bilateral contract. T
12 Contract of commission ‘aqd al-ju‘alah is a Bilateral contract. F
13 Contract of bailment ‘aqd al-wadi‘ah is a Bilateral contract. T
14 Gift Contract ‘aqd al-hibah is a Bilateral contract. F
15 In essence, a quasi contract is an obligation, not a contract that T
riginates from the operation of law and not by an agreement
between parties.
16 Bay al-inah is essentially a hybrid sale contract, whereby a customer F
approaches a bank to purchase a commodity with payment arranged
in installments and in turn sells the commodity to a third party for
cash.
17 The initial purpose behind the design of Murabahah contracts was to T
protect customers from over-paying for commodities that they did
not have a good basis of knowledge in.
18 Tawarruq can be defined as a contract where a seller sells a F
commodity to a buyer on a cash basis and immediately repurchases
the same commodity on a deferred payment basis at a price
19 In restricted mudarabah transaction (the rab al-mal does not specify F
the type of business in which the mudarib can invest and no
 timeframe is specified).
20 Government should always be involved in pricing goods and services. F

No. T/F
1 In Islamic finance, profits are
T
associated with risks
2 All transactions in Islamic finance
(debt-based or equity-based) are T
associated with risk
3 Al-ghunm bi al-ghurm maxim links
entitlement to return with the T
liability of risk
4 Al-kharaj bi al-daman maxim ties
entitlement to the return of an
T
asset to the risk resulting from its
possession
5 Market risk is one of the non-financial
F
risks that the IFI faces
6 regulatory risk is one of the non-
T
financial risks that the IFI faces
7 The entrepreneur or a partner in
Musharakah arrangements is one of
F
the non-financial risks that the IFI
faces
8 General takaful is a long -term policy
F

9 General takaful fund is established

T
through participants' contributions
10 Family takaful is a short-term policy F

1. Family takaful is renewable periodically F

2. retirement plans is one type of General
F
takaful
3. Workmen Compensation Takaful is one
T
type of General takaful
4. Health Takaful is one type of General
T
takaful
5. Reinsurance is a mechanism of the T
 mitigation of such great risks
6. Reinsurance is transferring the risks to a
T
large insurer known as reinsurer
7. Reinsurance is not allowed in Islamic
F
takaful
8. Venture capital is defined as the money
and resources made available to F
promising large businesses
9. Venture capital encompasses managerial
T
and technical expertise
10.Venture capital is traded on exchanges
F
but engages in long term investments

1- Shari’ah is the basic Islamic law that

T
regulates the Islamic finance industry.

2- The practice of Islamic banking and finance

has now been accepted as an alternative to T
conventional financial systems.

3- Islamic finance set to discontinue significant

F
growth path.

4- The price, specification, description and

quality of the commodity to be
T
manufactured should be fixed with the
consent of the parties to the contract.

5- Bay al-Inah a foreign exchange contract

involving exchange of currencies either of the F (Bay al-sarf)
same or of different kinds.
6- Rahn is a debt settlement through a counter-
F (Muqasah)
transaction or offsetting.

7- Transparency and fair dealings involve a

great commitment towards accountability in T
financial transactions.

8- Internal auditing when the business engages

an outside company, usually an auditing firm, F
to conduct auditing.

9- The accrual accounting method - based on

the occurrence of a transaction regardless of T
whether there is exchange of cash.

10- The most popular method of communicating

financial information to consumers or users T
is through the use of financial statements.