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New rules regarding Islamic finance have been announced this week by Malaysia’s central bank. The new legislations hope to
tighten sharia compliance in Islamic banks, this includes raising sharia advisers’ independence and accountability and requiring regular audits on banks.
Disputes on the compliance of certain products such as a recent case involving Kuwait's Investment Dar (TIDK.KW: Quote,
Profile, Research) have put the spotlight on the role of sharia advisers in approving products and their relationship with bank management.
Malaysia's central bank, which oversees the world's largest sukuk market, said Islamic banks must set up sharia review, audit and risk management control functions to reinforce compliance.
"The framework aims essentially to strengthen the sharia governance process, decision-making, accountability and independence," the central bank said in its 2009 annual report.
"To reinforce the sharia compliance functions, internal sharia review and audit requirements will be introduced, supported by an appropriate risk management process and research capability."
The central bank, Bank Negara, said under the rules the board would be responsible for the overall sharia oversight of Islamic banks but must recognise the independence of sharia advisers.
The role of sharia advisers is widened to include ensuring implementation of decisions involving Islamic law and must inform the bank where non-compliance with sharia issues have not been properly addressed.
Islamic financial institutions in Malaysia, which include the units of HSBC (HSBA.L: Quote, Profile, Research), Kuwait Finance
House (KFIN.KW: Quote, Profile, Research), Maybank (MBBM.KL: Quote, Profile, Research) and CIMB (CIMB.KL:
Quote, Profile, Research), must have review functions that continuously monitor sharia compliance of their operations.
They must also have annual sharia audits which would provide an independent assessment of compliance with established policies, Bank Negara said.
"The senior management is also responsible for ensuring that all submissions to the sharia committee are adequately researched
and supported by a thorough study on the sharia issues, product structuring and documentation," it said.
Lawyers have said some banks selectively disclose information to sharia advisers to speed up the approval process for products
or push these experts for an endorsement within a short time after supplying them with complicated financial documents.
A recent court case involving Kuwait's Investment Dar and Lebanon's Blom Bank (BLOM.BY: Quote, Profile, Research) has
revolved around arguments on the sharia compliance of a certain product, which experts say could leave investors wary of Islamic finance.
Dar has refused to pay Blom Bank $10.7 million, arguing that their original deal involving a wakala or agency arrangement -- which was approved by its sharia board -- fell foul of religious laws.
Dar's charter prohibits it from entering into non-Islamic transactions.
Lawyers say the case has raised several issues including the level of communication between the bank's board and its sharia advisers.
On its plan to introduce guidelines for a uniform application of popular Islamic financing structures, Bank Negara said it would
finalise rules for the ijara, mudaraba, musharaka, istisna and wadiah contracts by end-2010. It had launched rules last year for a standard application of the murabaha structure.
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