Islamic banking is available to anyone who wants to bank differently, not only to members of the Muslim community. A basic understanding of the principles that drive Islamic banking is therefore growing in importance in South Africa.
The Accounting and Auditing Organisation for Islamic Financial Institutions (AAOIFI) was established as a leading international autonomous non-profit organisation tasked with preparing and issuing accounting, auditing, ethics and sharia standards to harmonise and grow the practice of Islamic finance globally.
The adoption of AAOIFI standards is mandatory in some jurisdictions such as Bahrain and Sudan while other jurisdictions can opt to apply these standards on a voluntary basis. AAOFI has currently developed a total of 100 standards with a number of standards dealing with various governance topics, for example Governance Standard No (1) Sharia Supervisory Board – Appointment, Composition and Report including Governance Standard No (5) Independence of Sharia Supervisory Board. The development of the standards on governance was needed as corporate governance practice can vary due to cultural, institutional, and religious factors. For instance, Islamic banks are fundamentally predicated on their compliance with sharia (Islamic law) principles, and compliance thereto necessitates an additional dimension to their corporate governance framework.
The sharia provides a comprehensive set of values and principles for engaging in business transactions, including:
- The total elimination of all forms of interest
- Avoiding speculative transactions
- Partnerships based on profit and loss sharing
- Transactions backed up by real assets, and
- Avoiding prohibited businesses such as the selling of alcohol
The business model, credibility, and reputation of an Islamic bank are based on compliance with sharia − management must govern the Islamic bank’s compliance with sharia to reduce sharia risk. Sharia risk can be understood as any negative outcome due to non-compliance with sharia precepts. Sharia risk can lead to market disruptions and reputational and credibility issues that have dire consequences for the Islamic banking industry. Accordingly, the oversight of sharia risk becomes a unique governance feature for Islamic banks and is a critical industry component.
An Islamic bank must appoint a sharia board, commonly known as the Sharia Supervisory Board (SSB), to monitor its operations and activities in order to ensure that it complies with sharia. The SSB is mandated to oversee compliance with sharia; as such, the SSB is the most crucial aspect of governance and hence central to the success of an Islamic bank.
Every Islamic bank is required to establish an SSB. The shareholders appoint each member of the SSB at the annual general meeting. An engagement letter is required to formalise the appointment of an SSB member. The composition of the SSB should include at least three members. According to Governance Standard No (1) and Governance Standard No (5), SSB members should be independent and not include directors, material shareholders and employees, nor should SSB members take part in any managerial decisions or assume operational responsibilities of the Islamic bank. SSB members are required to assess their independence status, and, if any impairment arises that cannot be resolved, it should result in the SSB member’s resignation from their position. The resignation or dismissal of SSB members is final on the approval of the Islamic bank’s shareholders at a general meeting.
The members of an SSB should primarily have expert knowledge in Islamic jurisprudence, including knowledge of conventional economic practices. The duties of SSB members are informed by the Islamic bank’s articles of association and the terms of engagement as agreed upon when its members are appointed. For this reason, the duties performed by the SSB may vary between Islamic banks. However, some typical responsibilities may include approving products, contracts, and services for sharia compliance and providing assurance services through the performance of sharia audits and issuing an opinion on sharia compliance in their SSB report. In the event that the SSB identifies any instances of sharia non-compliance, the SSB has to report such violations to shareholders in the opinion paragraph of their report.
Islamic banking offers an alternative to Muslim and non-Muslim clients alike. The South African government has raised US500 million dollars using Islamic financing schemes. Tax laws have been amended to recognise Islamic banking transactions. The Banking Association of South Africa indicates that between 2019 and 2021, the growth rate of Islamic banking deposits exceeded conventional deposits by almost 30%.
AUTHOR
Dr Riyad Moosa CA(SA), Senior Lecturer, Department of Accountancy, College of Business and Economics
