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Legal Framework and Cross Border Transactions for Islamic Financing Megat Hizaini Hassan Partner, Islamic Banking & Finance Zaid Ibrahim & Co. 22 May 2007, Istana Hotel Kuala Lumpur
©2007 Zaid Ibrahim & Co. All rights reserved INTRODUCTION Overview of presentation: (i) Legal and Regulatory Issues; (ii) Litigation and Arbitration in IBF; (iii) Legal and Shariah Standards; (iv) Shariah Compliance Issues; and (v) Recommendations
©2007 Zaid Ibrahim & Co. All rights reserved Legal and Regulatory Issues 1)Banking Regulations Issues – Malaysia Islamic banks are licensed under the Islamic Banking Act 1983 (“IBA”). IBA requires the Articles of Association of the Islamic banks not to contain any elements prohibited by Islam. A Shariah Advisory Board (“SAB”) must also be established to advice the Islamic banks on their operation The rationale of having the SAB – to minimize the risks to be faced by the customers and investors especially on Shariah compliance issues. The conventional banks licensed under the Banking & Financial Institutions Act 1989 (“BAFIA”) are also allowed to carry out IBF in addition to the conventional banking operation. However, prior approval from Bank Negara Malaysia (“BNM”) must be obtained by the conventional banks before operating the IBF.
©2007 Zaid Ibrahim & Co. All rights reserved 2)Jurisdiction of the Court and Application of Civil Procedure Issues Jurisdiction over IBF in Malaysia lies with the civil courts by virtue of Article 121 & the Ninth Schedule, List I of the Federal Constitution. Application - In the cases of Bank Islam Malaysia Bhd v Adnan bin Omar, Bank Islam Malaysia Bhd v Tinta Press Sdn. Bhd. & Ors and Bank Kerjasama Rakyat Malaysia Bhd v Emcee Corporation Sdn Bhd, the court has used the civil law and procedures in reaching its decisions. Affin Bank’s case (Malaysia) – attempt to decide case based on Malaysian law and principles relating to Bai’ Bithaman Ajil. Cf. English law - Shamil Bank’s case – English courts would decide based on principles of English law. Legal and Regulatory Issues… 2
©2007 Zaid Ibrahim & Co. All rights reserved Legal and Regulatory Issues… 3 1)The Legal Framework In Malaysia, IBF disputes adjudicated based on civil law framework and falls within the jurisdiction of the civil courts Combination of Islamic finance into civil law framework Cross border implications – possible issues arising from different legal system, e.g. use of the trust concept 2)Qualification of Lawyers No specific requirements that lawyers dealing with IBF should have the relevant qualification before they can be involved in IBF transactions. Effect - could lead to mistakes in drafting and risks on the legality of the documents especially for not complying with the Shariah principles.
©2007 Zaid Ibrahim & Co. All rights reserved 3)Attitude of the Courts Reported cases on Islamic banking show that the court always based its decision on the current banking laws regime. No reference was made to the underlying Shariah principles that apply to the facility in dispute. The attitude of the English Court of Appeal in the case of Shamil Bank of Bahrain v Beximco Pharmaceuticals Ltd and others . See also attitude of Malaysian Courts in the recent case of Affin Bank Bhd v Zulkifli Abdullah , Malayan Banking Bhd v Marilyn Ho Siok Lin , Bank Muamalat Malaysia Bhd v Suhaimi Hashim . Legal and Regulatory Issues… 4
©2007 Zaid Ibrahim & Co. All rights reserved 1)Litigation - Malaysia Reported cases showed that the civil courts were inclined to decide IBF disputes strictly based on civil laws and procedures without considering the Islamic dimension of IBF documents. Developments in recent years: i)dedicated High Court judges to preside on matters relating to IBF, e.g. Kuala Lumpur High Court; ii)Law Review Committee under BNM to review common law-based domestic legislation to assimilate the Shariah principles; iii)the amendment to the Central Bank of Malaysia Act 1958 (“CBA”) which provide for the establishment of a Syariah Advisory Council (“SAC”) at the Central Bank as the sole authority and reference on all Shariah matters pertaining to IBF; SAC’s role extends to the provision of Shariah rulings in IBF court disputes Litigation and Arbitration in IBF
©2007 Zaid Ibrahim & Co. All rights reserved 2)Arbitration Has not really taken off as a dispute resolution method for IBF. May be due to the general views of Shariah scholars that voluntary arbitration or tahkim is recognised only with restrictions under the Shariah. Also considered as an inferior system for the settlement of disputes in substitute for the officially-organised judiciary or qada'. The increase of cross-border IBF transactions may push for greater demands of arbitration. Arbitration centres can facilitate IBF arbitration in Muslim countries such as KL, Abu Dhabi, Dubai, Rabat, Cairo and Manama. KL – KLRCA on 27 March 2007 issued its Rules for Arbitration (Islamic Banking and Financial Services) (2007) Shariah ruling may be given by SAC of BNM or SAC of SC in such arbitration proceedings Litigation and Arbitration in IBF.. 2
©2007 Zaid Ibrahim & Co. All rights reserved 1)Malaysia i)Generally determined at the regulatory level by the Syariah Advisory Council of Bank Negara Malaysia (in relation to banking products) and the Syariah Advisory Council of the Securities Commission (in relation to capital market products) ii)Shariah Advisory Board of the respective Banks would also determine Shariah compliance issues in relation to their respective Islamic banking products iii)Shariah Adviser/Committee appointed for a particular Islamic securities/fund/REIT are responsible for Shariah compliance issues in relation to the particular Islamic securities/funds/REITs Legal and Shariah Standards
©2007 Zaid Ibrahim & Co. All rights reserved 2)International – Islamic Institutions - Islamic Financial Services Board (IFSB) - The Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) Sharia Standards - Islamic Fiqh Academy, Organisation of Islamic Conference (OIC) - International Islamic Financial Market (IIFM) – Shariah Endorsement by the IIFM Shariah Board 3)Implications of Standards - Universal acceptance of certain structures: e.g. Murabahah, Ijarah, Istisna’, Musharakah, Mudarabah - Acceptability of certain structures, e.g. Bai’ Bithaman Ajil, Bai’ ’Inah, Bai’ Dayn Legal and Shariah Standards…2
©2007 Zaid Ibrahim & Co. All rights reserved 1)General Rule on Shariah Compliance The general but fundamental rule to be observed in IBF – legal practitioners have to ensure that the clauses used in drafting any IBF documents do not contravene any Shariah principles. Must be free from the elements of usury (riba), uncertainty (gharar) and gambling (maisir). Since the Shariah emphasises substance rather than form, broadly speaking the clauses used will be acceptable as long as this general rule is observed. Shariah Compliance Issues
©2007 Zaid Ibrahim & Co. All rights reserved 2)Understand the Shariah Principles A lawyer who is drafting IBF documentation need to have sound understanding of the Shariah principles used in IBF. Reason - to meet the expectation of the Shariah advisers. Apart from interest, IBF transactions must also be free from uncertainty/ dubiousness (gharar) and gambling (maisir) A lawyer should also understand the concepts of permissible (halal), prohibited (haram), recommended (mandub) & discouraged (makruh). Shariah Compliance Issues.. 2
©2007 Zaid Ibrahim & Co. All rights reserved 3)Power of the SAC of the BNM over IBF disputes The SAC of BNM has supervisory and advisory powers over Islamic banks in their respective country. Rationale: to monitor and to have control over Shariah compliance issues. Shariah rulings of SAC of BNM to be complied with in relation to IBF products In Malaysia, Section 13A of IBA provides for advisory powers of the SAC of BNM over the Islamic banks. By virtue of Section 16B(1) of CBA, it is mandatory for the Islamic banks to comply with the advice given by the SAC of BNM pursuant to such request by the Islamic banks. The above ensures that Shariah compliance issues will always be strictly observed and adhered by the Islamic banks, under the advice of the SAC of BNM. Shariah Compliance Issues.. 3
©2007 Zaid Ibrahim & Co. All rights reserved RECOMMENDATION Proper training be given by designing a special course in Islamic Commercial Transactions to train judicial officers as well as lawyers, e.g. via Institut Latihan Kehakiman dan Perundangan (“ILKAP”) or BNM’s International Centre for Education in Islamic Finance (“INCEIF”). Identify and appoint Shariah experts and jurists as well as qualified legal practitioners to sit as judges. Formulate procedure vis-à-vis the Rules of The High Court that complies with the Shariah, for eg, the exclusion of interests in awarding costs. To fully utilize the expertise of the SAC of the BNM by giving the authority and pre-eminence in settling issues pertaining to IBF. To give full effect to SAC of BNM’s formal role with respect to any legal dispute concerning IBF, apart from its advisory and supervisory function at the regulatory level.
©2007 Zaid Ibrahim & Co. All rights reserved Megat Hizaini Hassan Partner, Islamic Banking & Finance Tel: Fax: / Zaid Ibrahim & Co Level 19 Menara Milenium Pusat Bandar Damansara Kuala Lumpur, Malaysia Contact Details
©2007 Zaid Ibrahim & Co. All rights reserved
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