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Legal Risks and Good Governance for the Growing Islamic Finance Industry
Karachi
December 2006
Hamid Yunis
Partner
1. Fundamentals of Islamic (Shariah Compliant) Finance Basic requirements and philosophy
2. Overview of Islamic Finance Market Types of Islamic Finance Products Basic Assumptions Additional Matters
3. Use of Islamic Finance in Different Market Sectors4. Governance
Background Products and processes Regulator/operator issues Specific issues International Guidance Basel IFSB Standards
5. General Principles Non executive functions
6. Conclusion
Contents
1
Fundamentals Islamic (Shariah) Finance: Quranic (Shariah Law) principles; Riba (“interest/unjustified rewards/unlawful gain”); Gharrar (“uncertainty, risk, speculation”); Halal (“religiously permissible”); Haram (“not religiously permissible”); Qard Hasan – (“good loan”); Al-Wadia – (“safekeeping”).
2
Basic Requirements and Philosophy true risk sharing; no exploitation of a weaker position; not socially unproductive; not economically wasteful; promotes economic and social development; and charitable (“zakat”).
3
Islamic and Dual Banking Systems Retail Islamic finance products offered for a number of
years, some low key e.g. Middle Eastern banks, others high profile e.g. HSBC
Islamic Windows in major Global Banks Islamic Bank of Britain Primary Market: initially basic finance products Compatibility with conventional products
Overview of Islamic Finance Market
4
Types of Islamic Finance Products: Equity; Trade Financing; Asset Financing Lending; Wholesale & Retail Products:
• loans;• partnership investments;• forex;• fund transfers;• letters of credit;• securities safe keeping;• investment management and device;
5
Al-Wadia (safekeeping): usually not remunerated; Takaful (Insurance); Funds Work; SUKUK/Securitisation (Capital & Secondary Markets); and Derivatives/Funds Management.
Islamic Finance (Cont’d):
6
Basic Assumptions Underlying asset must be acceptable
Different interpretations on what proportion of asset must not be “haraam”
Proposed structure of transaction has to be acceptable No prohibited activities (proportionate approach) Need to account for regulatory requirements and comply with two sets
of law (Shariah and law of country)
7
Additional Matters Zakat (specified amounts to be allocated from disposable income);
Shariah Boards – competition, pragmatic approaches;
Urf (custom);
Darura (overriding necessity);
Maslaha (general interest to justify);
Hiyal (ruse)
8
Real Estate Project Financing
Co-financings (Power, LNG, Oil & Gas) Retail Banking
Depositors Investment Account Holders
General Leasing Ijara
Asset Finance Bond (SUKUK) Issuance Private Equity Funds Insurance (Takaful) Capital Markets (Sukuk/Arboun/Salaam)
Use of Islamic Finance in Different Market Sectors
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Developing, structuring and marketing Shariah compliant financial products can be cumbersome and complex
IIFS needs to account for regulatory requirements and comply with two sets of jurisprudence/law (Shariah and the law and regulations of relevant jurisdiction)
Governance
Background
10
Products and Processes need to be effective from the following viewpoints: Understandable Competitively priced Tax effective Available and transparent Not administratively burdensome Not “alien” to regulatory requirements
Governance of institution offering Islamic financial services needs to be the same
Products and Processes
11
Regulator/Operator Issues
Scope for the continuing development of good corporate governance in the field of Islamic finance
No inconsistency with Shariah
12
Islamic finance industry needs to, in particular, focus on issues regulators will be concerned with
Remember that Shariah-compliance will not normally be an issue for non-Islamic countries or where Shariah is not part of a general legal framework
Shariah Supervisory Board presence and scrutiny therefore essential
Specific Issues
13
Islamic finance industry regulators need to consider regulation of Shariah Supervisory Board
Islamic financing industry need for a unified front to regulators
Standardisation of models used, terminology and treatment Dissemination of codes of best practice Practical Adaptability
Specific Issues (cont…)
14
Many forms of International and National Guidance available OECD principles UK Stock Exchange Combined Code
Cadbury Report Hempel Report Higgs Report
Guidance
15
France/Germany: different forms of governance models US: Sarbannes-Oxley Other/Corporate Governance Standards
Country Specific Accounting and Industry Specific
IFSB guidance Principles outlined “Comply or Explain”
Guidance (cont…)
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Basel Committee on Banking Supervision 1999 paper 2006 paper
Basel
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Establish Good Governance Policy as a principle of Shariah Monitoring and work of
Board Committees Executive Management Shariah Supervisory Board Internal and external auditors Different Stakeholders
Mechanisms of balancing the roles of different stakeholders i.e.) shareholders, management, IAHs
General Principles
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Role of non-executive directors/managers Guidance Oversight Compliance issues Future compliance policy
Non Executive Functions
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Contact:
HAMID YUNISTaylor Wessing
Carmelite50 Victoria Embankment
BlackfriarsLondon
EC4Y 0DX
Tel: 0207 300 7000Fax: 0207 300 7100
Direct: 0207 300 4088
E-mail: [email protected]: www.taylorwessing.com
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