1. ISLAMIC RETAIL BANKING: PROSPECT AND CHALLENGES FOR DEVELOPMENT
Dr. Aznan bin Hasan
Ahmad Ibrahim Kulliyyah of Laws,
International Islamic University Malaysia,

2. Presentation Outline Retail Banking? What are the products offered?
Prospect and Challenges for further development
Conclusion

3. Section 1: What is Retail Banking?

4. Retail Banking
Typical mass-market banking where individual customers use local branches of larger commercial bank.
Banking for individual customers
Common services include deposit accounts (demand or non demand) personal financing, house financing, car financing, cards facilities, etc
This very basic definition has evolve to also cover private banking in which a more holistic approach towards banking, asset and wealth management is provided especially to the HNWI
Beyond just providing financing, retail banking scope has evolved to address the entire financial situation of a client.
Including everything from protecting and growing the client’s asset in the present, to planning retirement andpassing wealth on to future generations

5. Cont’d
Potential for Islamic retail banking is enormous, especially in countries which have big Muslim population.
This presentation will only cover some Islamic retail products:
Deposits
Home finance
Car Finance
Cards facility
Instead of only focusing on the products, this presentation will try to explore on the future prospect in Islamic retail banking

6. Section 2: What are the products offered? - Deposit Taking Activities
- House Financing
- Car Financing
- Personal Financing
- Credit Cards

7. In The Nutshell PRODUCTS SHARIAH PRINCIPLES (LOCAL) (INTERNATIONAL)
LIABILITIES
Savings / Current Acc
Wadiah/mudharabah
Wadiah/qard/mudharabah
GIA / SIA
Mudharabah
Deposit
Tawarruq / wakalah
ASSETS
House Financing / Refinancing
BBA (Bay’ al-’Inah), Istisna’
Murabahah, AIMAT, MM, Istisna’
Vehicle Financing
BBA (Bay’ al-’Inah), AITAB
Murabahah, MM, AIMAT
Cash Line Facility / Personal financing / overdraft
BBA, Bay’ al-Inah
Murabahah, Ijarah, tawarruq
Credit Card
Bay’ al-Inah, Wadiah, al-Qard al-Hasan
Tawarruq, Ijarah

8. 1) DEPOSIT TAKING ACTIVITIES

9. 1) Deposit Taking Activities
In Savings and Current Accounts, the principles used are WYD (guaranteed safe custody), al-qard or mudharabah
Some banks employ both principles (qard, mudharabah) based on certain percentage.
In WYD and al-qard, no return (in whatever form, including the right to enter into contest) can be promised

10. Other Alternatives in Deposit Taking Activities
Tawarruq based Deposit
Wakalah based Deposit

11. ISLAMIC DEPOSIT BASED ON TAWARRUQ
BROKER A
BROKER B 6
Pays purchase price at Metal “X’ at cost price
Rm100 on spot 1
Sells Metal
“X” 2
Pays the purchase price at cost (RM100) on spot 5
Sells metal “X” at cost price(RM100) 4
Pays the purchase price at cost plus profit (deferred)
Depositors
Islamic Bank 3
Sells metal “X” at cost plus profit (deferred)

12. WAKALAH BASED DEPOSIT Invests Deposit
Fixed Income Securities
Commodities Murabahah
Etc
Deposit
BANK
DEPOSITORS
Leverage using:
1- Buying and selling share
2-Islamic Call Option
Bank works as an agent to invest the money in specified investment portfolio

13. 2) HOUSE FINANCING

14. House Financing Almost all banks employ BBA (bay’ al-Inah)
Several Shariah & Legal Issues surrounding the application

15. Modus Operandi Is this BBA or Bay’ al-’Inah? Customer Bank Developer
S & P
Developer
Customer
PPA
PSA
Bank
Is this BBA
or Bay’ al-’Inah?

16. Shariah & Legal Issues Issue of bay’ al-’Inah
What is the asset sold and bought? House to be completed? Right over the house to be completed?
Full right? Beneficial Ownership? NLC on beneficial & Legal rights?
Is this right saleable?
Gharar is excessive. The rate of non completion is high?

17. Suggestions:
Real Murabahah (BBA)
Istisna’
Extended AITAB MM

18. “Real” Murabahah 1 What about 10% S & P requirement?5
What about 10% S & P requirement?
Only suitable for completed house.
Are the banks and the developers wiling to do this?
CLIENT
BANK 4 1 2 3
DEVELOPER

19. Parallel Istisna’ 1 For House under construction2
For House under construction
Performance risk. The bank will be more selective?
Are the banks and the developers wiling to do this?
The practice of Bank Muamalat
CLIENT
BANK 5 1 4 3
DEVELOPER

20. AITAB / AIMAT 2
Suitable for both (house under construction and completed)
Forward lease is needed for house under construction
Performance risk. The bank will be more selective?
Are the banks and the developers wiling to do this?
CLIENT
BANK 5 1 4
3: Bay’ or Istisna’
DEVELOPER

21. MM Suitable for both (house under construction and completed house)6
CLIENT
CLIENT 5 10 90 1
4. Co 0r joint ownership 2
DEVELOPER
Suitable for both (house under construction and completed house)
Forward lease must be employed for house under construction
Performance risk in house under construction

22. ISLAMIC REFINANCING Sell and buy back (‘Inah Contract) Notes Client
The client will refinance his “asset” to get more money/cash for his other financial needs
Part of the amount proceeds (PP) will be used to redeem the outstanding balance of previous House financing (if there is any)
New facility will be created
Sale transaction has been used to avoid dealing in “money for money” (compare with conventional personal financing (refinancing)
sells asset “x” at RM 1000 on spot (PP)
Client
Financier
Resells asset “X” at RM 1200 on deferred payment basis (SP)

23. 3) CAR FINANCING

24. Car Financing: An Overview
To purchase car on credit. Two options:
1) Get a financing from the bank
2) Sometimes, dealers have their own package of car financing.
In conv., the main contact used is either loan given or hire purchase
And all in all, the repayment is based on IR (principal & interest).

25. The Islamic Alternatives
In general, the same effect of auto loan in conventional can be achieved in Islamic finance.
However, various Islamic contracts have been utilised by Islamic banks in their offering of car financing.
Among the most important contracts:
- Murabahah / BBA
- AITAB / AIMAT / Ijarah wa Iqtina’
- MM

26. BBA / Murabahah BBA in Malaysia is, in fact, bay al-’nah.
In Middle East, some banks use murabahah as a basis for auto financing, e.g KFH, Commercial bank’s al-Safa Islamic banking (vehicle murabaha)
Simply said, the bank will purchase the car from the developer on cash basis and then sell the car to the client on deferred term basis
The client is not allowed to pay a deposit to the car dealer at all

27. AITAB It is combination of various contracts.
The bank purchases the car from the car dealer
The bank then lease the car to the customer at agreed consideration (fixed or floating).
Undertaking to sell by the bank
Transfer of the asset to the client

28. 2. Client approaches the bank and obtain AITAB financing facility
Modus Operandi
2. Client approaches the bank and obtain AITAB financing facility
CLIENT
BANK
4. The bank leases the car to the client at certain rental price (pp + profit) with an option to purchase at the ned of the financing period
3. The Bank purchases the car and pay the remaining purchase price of the car (90%)
1. Client identifies the vehicle and pays deposit
CAR DEALER

29. TRANSFER THE ASSET TO THE CLIENT
It can be done in various ways.
The bank unilaterally promise to make a gift of the asset to the client at the end of the period. (ijarah al-muntahiyah bi al-Tamlik).
A promise upon the payment of the remaining installments. (ijarah walqtina)
The final payment is considered the price of the car
A promise to sell for a token or other consideration (AITAB).
All these contracts must be documented in a way that shows that they are different contracts all together
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30. Put and Call Option 2 Situations:
Call Option (the right of the client to purchase): Unilateral promise by the bank to sell / give the leased object to the customer.
In case of event of default, the bank has two options:
call back the facility and repossess the car
Put option (the right of the bank to sell). By requiring the client to purchase the car at an agreed price.
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31. Cont’d
Presently, there is no specific Act regulating Islamic Hire Purchase transaction. Instead all HP transactions are governed by HP Act 1967
New amendment to the HP is now under review. Should surface in the near future.
This amendment is very important as the present HPA does not only allow interest, but also to a certain extent make provisions to HP:
Sec 4c. Contents of HP agreement
Sec 34. Avoidance of certain provisions
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32. Cont’d
Presently, the legal doc for IHP are drafted to suit the HPA in the following manner
terms charges clause in the 2nd schedule is defined as rental payment rather than interest charges
late payment interest – late payment charges. But the amount?
So far, the AITAB financing in Malaysia is in fixed rate financing.
Amendments to the law are made to allow for a floating rate AITAB
Some banks have already had their model of floating rate AITAB
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33. Cont’d
Some have added flavour to the AITAB. E.g. Hong Leong HP Reward Financing-I, where one-time Cash reward of 0.5% of the financing amount is paid to the qualified customer on the 7th month from the funding date.
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34. Musharakah Mutanaqisah
SCB (Pakistan) Islamic Auto Financing: MusharaCar
It is a partnership whereby a financier and his client participate in the joint ownership of a car. It is understood that the client will purchase the share of the financier gradually over the life of the transaction, thus increasing his own share until all the share of the financier is purchased by him so as to make him the sole owner of the property.
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35. 2. Client approaches the bank and obtain MM financing facility
Modus Operandi
2. Client approaches the bank and obtain MM financing facility
CLIENT
BANK
4. The bank leases the car to the client at certain rental price . The client will also purchase the bank’s share gradually according to agreed method. At the end of the period, the car belongs solely to the client
3. The Bank pays the remaining purchase price of the car (90%) as its contribution
1. Client identifies the vehicle and pays 10% contribution
CAR DEALER

36. 4) PERSONAL FINANCING

37. Personal Financing The nature of personal financing  liquidity.
Though it may be used for acquiring asset, it is largely considered for cash purposes.
As such, the financing mode to be used must have the ability to provide cash.
For the time being, the most suitable principles to provide the facility are bay’ al-’inah & tawarruq

38. TAWARRUQ FOR PERSONAL FINANCING
Explanation:
Bank obtains promise to buy from clien
Bank buys commodities from broker A and
pays cash
Bank sells the commodities to client on
deferred basis.
The client authorises the bank as his agent
to sells the commodities to commodities
broker B on cash.
5) The amount will be deposited into client’s
account. Client obtains liquidity and has
liability to pay bank on deferred basis.
6) Client will pay the bank on deferred basis,
according to their agreement
This model has been used by Islamic bank in
Middle East to provide personal financing
(personal loan) to their clients.
E.g. al-tawaruq al-mubarak finance (Arab
National Bank –Saudi Arabia), al-Khair
financing (Abu Dhabi Islamic Bank- UAE),
Amanah Personal Financing (HSBC Amanah),
tasaheel (al-Manar – Kuwait)
Sells commodity
Com.
Broker A
Bank
Pay cash
Sells comm.
Pay deferred
Sells com
Com.
Broker B
Client
Pay cash

39. Cash Line Facility
The principle use is bay’ al-Inah and the procedure is the same like personal financing.
The cash proceeds, however, is not disbursed directly to the client, rather it will be deposited into client’s account as cash line facility.
Client can utilise the line for cash facility.
Profit is only charged on the utilised amount and the remaining will be rebated.
Repayment of the facility can be on lump sum payment at the end of financing or on yearly reduction limit, or any time frame agreed between the client and the bank

40. 5) CREDIT CARD

41. Credit Card Facility
BIMB, Ambank and BSN use combination of bay’ al-’Inah, wadiah and qard in providing the facility.
Normally, the asset used for bay’ al-’Inah is the shares certificate of a land belongs to the Bank
Most Middle Eastern Banks use tawarruq for the facility
KFH uses AIMAT for its credit cards. But this can only be use to purchase asset which are leaseable

42. Credit Card based on Bay’ al-inah
1. Client approaches the bank for credit card. The bank sells the bank’s asset at selling price (PP + p)
CLIENT
BANK
2. The bank purchase back the asset at purchase price)
3. The purchase price will be deposited into the client’s wadiah account, to be utilised as credit limit.
4. Client utilises the facility.
Credit Card Account

43. Credit Card based on Tawarruq
Broker A
Broker B
1. Bank purchases commodity at pp
3. Client sells the commodity at pp.
2. Bank sells the commodity at sp (pp + p)
Bank
Client
Credit Card Account
4. Manage the facility
4. The proceeds will be deposited into the client’s credit card account to be utilised as his credit limit

44. Credit Card Based on Ijarah
1. Bank identifies suitable merchant
Bank
Merchant
4. Bank rents the durable goods to the client on AIMAT basis and the client will pay rental accordingly
3. Client purchases goods as an agent for the bank
Client
2. Bank appoints client as agent to purchase the durable goods from the merchant

45. Credit Card based on Ujrah
Bank
Merchant
2. Client purchase goods from merchant and pays using credit card
1. Bank opens the account and determines credit limit
Pays fees (ujrah)
Client
Credit Card Account
1. Credit card facility

46. 6) FINANCIAL CONSOLIDATION

47. Financial Consolidation
Offered by some banks.
Utilises bay’ al-’Inah concept
Specially targeted to individual clients who are facing very tight cashflow due to excessive financial obligation.
In normal circumstances, the maximum obligation should not be more than 75% of monthly gross income.
This facility will try to consolidate all the financial obligation of the client (like HF, CF, PF,CC etc) into less financial obligations.

48. Cont’d Two methods are normally employed:
1) Refinancing the client’s asset, e.g. house to get cash to pay other financial obligation.
2)Getting new personal financing.
By doing this, the client will be able to reduce the amount of monthly installment, though extending the period
Depending on situation, financial consolidation will make client’s cash flow more liquid, healthy and affordable.

49. SECTION 3: PROSPECT AND CHALLENGES FOR FURTHER DEVELOPMENT

50. 1) Challenges In Offering Deposit Products
The nature of loan in wadiah yad al-dhamanah & qard: The practice of hibah, it is really indicative?
The nature of the term deposit in certain jurisdiction, e.g
UK: “Art. 5 (Paragraph 2) of the Financial Services and Market Act 2000 (Regulated Activities) Order 2001 (as amended):
…. ‘deposit’ means a sum of money.. Paid on terms-
A) under which it will be repaid, with or without interest or premium, and either on demand or at a time or in circumstances agreed by or on behalf of the person making the payment and the person receiving it…”

51. Case Study: UK
IBB’s terms for deposit accounts (para. 6) try to bridge this issue:
“…..6.3: As a matter of English Law (which applies to these special conditions ) and in accordance with our Memorandum and Articles of Association, in the event that your capital suffers a loss, we shall seek to mitigate the loss in the following manner:
We may forego some or all of the fees chargeable by us in respect of the investment of the pooled funds for the calculation period relevant to your account(s).
6.3.2: We shall draw upon any available balance in the profit stabilisation reserve account administrated by us to make good as much of your capital loss as the available balance permits us to do so

52. Cont’d
6.3.3: In accordance with our Memorandum and Articles of Association, our directors are prevented from declaring any distribution to our shareholders unless they are satisfied that there is no shortfall in meeting your claim (s)
6.4: If the pooled funds referable to your capital return a loss, we shall make an offer to you to make good the amount of any shortfall that you may have suffered. We are required by current UK bank regulations and policy to make this offer to you. If you choose to accept this offer, you shall be entitled to receive payment from us of the full amount that you had previously deposited with us. You are entitled to refuse this offer from us.
6.5: We would like to draw your attention to the guidance offered by our Shari’a Supervisory Committee. Their guidance is that if you accept our offer to make good the amount of any shortfall (set out in special condition 6.4), you will not be complying with Shari’ah principles.

53. Cont’d
6.6: In certain circumstances, we may not be able to pay back to you the amount that we are obliged under these terms and conditions to pay back to you. If the terms of the Financial Services Compensation Scheme (FSC) apply in these circumstances, you may be able to apply to the FSC for payment of compensation
6.7: If you have suffered a loss in respect of which we have made an offer to you which you have accepted (see special condition 6.4), you may be able to apply successfully to the FSCS for payment of compensation if we fail to make payment to you in respect of that loss, If you have refuse such an offer from us, you may not be able to apply successfully to the FSCS for payment of compensation in respect of the amount that was previously refused by you
6.8: Should you suffer a capital loss due to fraud, gross misconduct or gross negligence committed by us, then we may be obliged, in accordance with Shari’a principles, to make good to you any such capital loss on your savings or term deposit account out of money held by us on behalf of our shareholders

54. 2) House Financing Facilities
Most suitable alternatives are MM and Ijarah Muntahiyah bi al-tamlik.
Easy even for refinance
At present, most banks have the product or in the course of getting approval for the products.

55. 3) Finding Alternatives for Personal Financing
The nature of personal financing: To obtain cash instead of acquiring certain asset
In certain circumstances, acquisition of asset cannot be effected using other instrument rather than bay’ al-inah, simply because the asset is not financeable due to restriction by law, e.g. financing the acquisition of land / construction of house, without individual title to the land.
In some banks, personal financing is offered indirectly, e.g al-Rajhi in Car Financing
Should tawarruq be considered as an alternative?
Tawarruq is another controversial principle?

56. Suggestion
Determine the needs of the clients. Cash money, commodities, services, etc.
Decide on the structure based on the needs
For asset to be acquired, various structures can be used like murabahah (BBA), AITAB, MM, Salam, Istisna’
For services, we can use ijarah
For cash money, Tawarruq?
Since the resolution of “muzakarah Ulama Nusantara” organisec by Bank Negara resolve that the two contracts should only be utilised when no modes of financing are available, then their use should be limited to the situation where cash is the purpose

57. Case Study: Dubai Islamic Bank
Dubai Islamic Bank has offered Islamic personal financing
The product structure is based on Islamic financing principles of Ijarah (for services) and Murabaha (for automobiles and goods
Focus here is only on services
Products offered under the category of services are:
House Rent in Advance
Medical Treatment
Education and Training
Travel Services (Tickets and Travel Packages, Haj and Umrah)
Event Hall Services (Marriages and other functions)
Hiring of Professional Service

58. Modus Operandi Case Study: Education finance
Buy service
Pay rent
Case Study: Education finance
Client selects the University
Application for financing from the bank
The Bank will buy the education service from the school
The Bank then leases the service to the client
The client will pay back to the bank in monthly installment basis.
Q: Can we use murabahah for this
Client
Bank
Service Provider
Hire Service
Provide Service

59. 4) USING NON-CONVENTIONAL BENCHMARK
LARIBA Retail Financing, applied in house and Auto Financing
Using the concept of lease to purchase. However, the concept used is actually MM.
Reference to the payment is not interest-based.
Rather it is marked to market. How?
In case of car financing: calling around to find the monthly rental rate of a similar auto at the car dealer or or the rent-a-car agency  utility value of the vehicle
May be difficult to be implemented due to variation in rental, even in one country or state.
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60. Conclusion The prospect for retail financing is very huge.
Studies have shown that in difficult situation, the retail banking is the last segment of banking that will be effected.
The purpose of retail financing is basically to meet the needs of clients.
As the needs of clients are different, depending on various factors, such as standard of living, age, life styles, purposes etc, the range of retail financing offered must be wide and competitive.
The first and foremost, all the products must comply with the Shariah and this poses another challenges as the determination of Shariah compliance is also different in certain products.
So, offering products that are acceptable globally should be one of the priority in product structuring and enhancement

61. THANK YOU WASSALAM