By Mr. Mujeeb Beig– Executive Vice President and Head of Research and Development Dawood Islamic Bank Ltd

The growth of the Islamic Financial Industry in a country or state innovative Shari’ah compliant product development with the support of the country’s or state’s legal and Shari’ah framework is the key factor. This will ensure the enforceability of Islamic financial contracts and will provide an effective mechanism for legal redress. In addition, the legal framework for Islamic financial industry should also address any specific elements that could result in a comparative disadvantage to the Islamic Financial industry.

Since in today’s world, finance has long been defined by conventional practices and laws, the features that are unique to the requirements of Islamic finance need to be taken into account to avoid any partial treatment.

The Islamic Banking industry in Pakistan and the Islamic Financial industry across the globe are in the infancy stage and are passing through the initial learning curve. Hence, it is the need of the hour to develop and continually strengthen the legal & Shari’ah framework for the Islamic Financial industry. A strong legal & Shari’ah framework which is aligned with market requirements will develop public confidence in this system.

Let us study for a moment the different laws and regulations of Pakistan which have been very supportive for the growth of Islamic Banking industry in Pakistan.

Sub section (ee) of section 7 of the Banking Companies Ordinance provides legal coverage for the practice of Islamic modes of finance by a financial institution.  Accordingly, any financial institution can extend financing on the basis of Islamic modes of finance. Even a conventional financial institution can extend financing on the basis of Islamic modes of financing by establishing a stand-alone Islamic banking branch with a minimum seed capital of PKR 50 Million with the prior permission from State Bank of Pakistan.

One of the circulars issued by State Bank of Pakistan has allowed commercial banks to take deposits on the basis of profit & loss sharing. This has allowed Islamic Financial Institutions to take deposits on the basis of the equity based mode of Mudarabah and Musharakah, both being Shari’ah compliant structures.

Section 120 of the Companies Ordinance 1984 has allowed the issuance of Shari’ah compliant institutional and corporate Term Finance Certificates. This made it possible for the Islamic financial institutions and their corporate customers to issue institutional and corporate securities in lieu of conventional bonds.   

The Financial Institutions Recovery of Finance Ordinance has included various Islamic modes of finance within the definition of “Finance”. This made it possible for an Islamic Financial Institution to file a suit for the recovery of a defaulted amount of finance extended to a banking customer under Islamic modes of finance.

The Ministry of Finance has issued Statutory Regulatory Order No. 445 of 2004 by virtue of which goods delivered under Murabaha financing arrangements to or by a bank or a financial institution approved by State Bank of Pakistan or Securities Exchange Commission of Pakistan, shall not constitute “supply”. This exemption has avoided double sales tax implications on the financial transactions through Murabaha mode. 

Till now two Islamic Financial Accounting Standard (IFAS-1 and IFAS-2) have been issued by the Securities Exchange Commission of Pakistan to allow standardized accounting practices among Islamic Financial Institutions for Murabaha and Ijarah mode.      

Since Islamic Financial Institutions profits are liable to tax similar to conventional financial institutions, therefore exclusive application of minimum turnover tax on Murabaha revenue has been withdrawn in the Finance Bill 2006-2007 to provide a level playing field to Islamic Financial Industry with the conventional Banking industry. 

A full fledged Islamic Banking Department has been established by the State Bank of Pakistan to regulate the affairs of Islamic Banking Institutions in Pakistan. The State Bank of Pakistan has also formed its own Shari’ah Board. This Shari’ah Board advises on the procedures, laws and regulations pertaining to Islamic Banking Institutions.

State Bank of Pakistan Shari’ah Board has issued basic guidelines and model agreements for the execution of different Islamic financial contracts. A fit & proper criterion has been issued by the regulator for the appointment of Shari’ah advisor or Shari’ah Board for an Islamic Bank or stand-alone Islamic Banking branch. The Shari’ah Advisor fulfilling these fit & proper criteria has an office in the Islamic bank or stand-alone Islamic banking branch of a conventional bank and looks after the Shari’ah affairs of the Bank or stand-alone Islamic banking branch. As a result, due to continuous presence of the Shari’ah advisors, an innovative product development process is established and the Shari’ah supervision has become more effective.

The following statistics show the progress of the Islamic Banking industry in Pakistan by taking advantages of the above stated legal and Shari’ah framework.  

The legal and Shari’ah framework has enabled Islamic Banking Institutions in Pakistan to develop innovative Shari’ah compliant products to compete with conventional banks and Dawood Islamic Bank Ltd., of course has taken the full advantages and thus has developed following innovative products to cater to the financing needs of its clients.

Post Shipment Export Financing As Substitute for Conventional Banking Foreign Bills Purchase Facility 

• Clients can avail financing by presenting export documents against supply of export goods for the value of the usance export L.C
• The period of financing is up to the usance period of  the export L.C
• The conversion of financing in local currency will be based on a competitive foreign exchange rate related to the period of financing
• The banking customer now does not need to wait for the procurement of fresh raw material to adjust the cost of fresh raw material with the finance availed for post shipment finance       

Post Dispatch Local Goods Financing As Substitute For Local Bills Discounting

• Clients can avail financing by presenting acceptance against commercial invoice/delivery challan by the buyer against supply of local goods
• The period of financing is up to the usance period of the  local L.C or the confirmed order
• The profit payment will be based on the period of financing

   Services Ijarah Financing for Utilizing Different Services

• Clients  can avail financing for the services he requires (for example Hajj, Umrah and other traveling, hospitalization and education etc.,)
• The profit payment will depend upon the period of financing 

Running Musharakah As substitute For Conventional Banking Running/Cash Finance Facility         

• Clients now can issue cheques and withdraw cash as per their needs within the limit of the Running Musharakah provided by the bank.
• Clients can deposit their collection in the Running Musharakah Account whenever they receive it. 
• Clients are only required to pay profit to the bank for the net capital extended under Running Musharakah Facility to the clients.

awood Islamic Bank Ltd has a commitment to keep continued development of more innovative products to cater to the financing needs of its clients.