Middle East Insurance Review

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AIR Magazine Article

October 2009

Takaful feature : Shariah governance - The importance of Shariah knowledge in Shariah governance
The development of Shariah knowledge is important not only to the Shariah committee and Shariah department but also to the product department, writes Mr Zaharudin Muhammad, Researcher with the International Shariah Research Academy for Islamic Finance (ISRA) and Member of Shariah Committee for HSBC Amanah Takaful and Alliance Islamic Bank.

Shariah compliance is considered the raison dtre of Islamic finance, without which the whole industry will be at stake. The integrity of any Islamic takaful product greatly depends on its compliance with the requirements of the Shariah, and any deficiency in this aspect will surely affect the confidence of the stakeholders and, hence, the industrys market and profit. It is thus extremely important to ensure that an adequate framework is developed to preserve the Shariah integrity of Islamic financial products. The central element of such a framework is adequate knowledge of Shariah principles. A Shariah governance framework without adequate Shariah knowledge is like a fine race car without a skilled driver; that combination will not even be a contender in any race, much less a winner. Unfortunately, most players in the industry now concentrate on the adequate acquisition of the Shariah knowledge for their Shariah Committees and their talent development without giving sufficient attention to other relevant departments like Islamic product development, for example. To date, most articles and papers about Shariah governance have concentrated on developing the Shariah expertise of the Shariah Committee members. In this article, however, I shall discuss how we can ensure smooth Shariah governance by developing Shariah knowledge, not just for the Shariah Committees, but also for other portfolios like the heads of Shariah departments and the heads of Islamic product development. The normal product development process New product development starts with collaboration between the product department and the marketing department. The aim, of course, is to create new financial products that will generate additional income for the institution.

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For a new product concept to be certified Shariah-compliant, the normal process would involve discussions by one or two members from the Shariah Committee with the new product development team. Discussions are mostly informal in nature and are basically unstructured. If, through these informal discussions, the new product is determined to be Shariah-compliant, the process will move from conceptualisation to actual product development. Throughout the new product development process, the Shariah department will play a crucial role in making sure that the product meets the various Shariah requirements prior to formal submission to the Shariah Committee. The normal practice in Malaysia is that once the new product has been endorsed by the Shariah Committee, it is then submitted to Bank Negara Malaysia (BNM) for approval. This is the normal process for new products as practiced by most takaful institutions. However, there are companies that lack formal Shariah departments, mostly due to the small size of their business. In such instances, new product development flows directly from the new product department to the Shariah Committee without the benefits of input and scrutiny from the non-existent Shariah department. Level of Shariah knowledge required To generate fully Shariah-compliant products, it is crucial that key individuals in the institution have degrees of Shariah knowledge that vary depending on the level of involvement within the institution. The contention of this article is that development of Shariah knowledge is not only important to the Shariah Committee and Shariah department, but to the product department as well. The latter must at least have basic knowledge of the principles related to Shariah rules, such as basic knowledge of the elements of riba (interest or usury), gharar (ambiguity) and other prohibitions of the Shariah. My suggestions on what levels of Shariah knowledge are required to improve takaful institutions are as follows: Shariah Committee: Members must be expert in Shariah, possessing mastery of the basic intellectual tools necessary for ijtihad. At the very least, they should have a Shariah studies background and have the ability to refer any issue back to the references for Islamic jurisprudence, such as classical books of fiqh, etc. Heads of Shariah departments must have adequate knowledge related to Shariah jurisprudence and its sources. At the very least,

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such persons should have a background in Islamic studies, if not in Shariah studies. The difference between the two is that Islamic studies have a broader scope, focusing on Islamic knowledge in general, including areas such as Islamic doctrine, while Shariah studies focus on Islamic jurisprudence or Islamic legal provisions that relate directly to Islamic finance practices, including takaful. Heads of product departments should have knowledge of principles related to Shariah jurisprudence. The minimum requirement should be knowledge of the elements prohibited by the Shariah, such as riba, gharar, etc. There is no denying that it is difficult to find persons having the full qualifications mentioned above, but at least we know our core target for improving the takaful industry by improving the staff talent to avoid violations of the Shariah and risks to profit. Risks resulting from insufficient Shariah knowledge The following risks are expected to occur when Shariah knowledge is inadequate: Shariah non-compliance: Shariah compliance is the most important element of Islamic finance. Islamic finance institutions that are not Shariah-compliant in all activities are a contradiction in terms. By Shariah governance rules, products and related areas, such as advertisements, will be rejected if they are not Shariah-compliant. This will consequently affect the companys profit and waste the staffs time and labour. Lost profits: According to Shariah rules, any profit earned by methods that are not Shariah-compliant must be cleared by channeling them to the charity fund, which is distributed to the poor, orphans, etc. This may occur when the company does not have a Shariah department nor has one with insufficient Shariah knowledge. Non-Shariah-compliant profit is mostly found when the company is audited by the government or by the Shariah Committee itself. It is considered a loss of companys profit, for if it were Shariah-compliant, the company would be allowed to keep it. Waste of staff time: The product development process from beginning to end is a lengthy one. If the result is non-Shariahcompliant, the product will be rejected by the Shariah Committee. The time taken to develop it, usually one to three months, will have to be written off as a loss. Such a result is not unexpected if the head of the product department lacks knowledge of Shariah principles, but sometimes the prohibited elements involved in rejected products are prohibitions known to all Muslims. Passivity: One risk of insufficient knowledge is passivity in exploring new, suitable models because, realistically speaking, takaful cannot

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be based on a single, one-size-fits-all template. A variety of models is needed in order to develop products that meet various human needs. Islam has not come with a single model and forced humanity to follow it exclusively. The authentic Islamic methodology is that human needs must be evaluated in light of Shariah principles; whatever fulfills them without violating Shariah prohibitions is considered acceptable, even if it is not in line with any previous Shariah model. To require various products tailored to respond to various demands to conform to a single model will raise unnecessary doubts in peoples minds about the relevance of the Shariah to all times and places. A variety of models cannot be properly provided without adequate Shariah knowledge. Why is Shariah compliance so important to Muslims? Shariah compliance is of central importance to Muslims because they believe that the rules are appointed by God. The fundamental purpose for the rules of transactions is to ensure that neither party trespasses on the rights of the other. Shariah compliance ensures that the rights of both parties involved in the transactions are safe and secure, and will have a positive effect on economic growth and social harmony. According to Muslim belief (aqidah), God appointed the rules before creating humanity itself, based upon impartial considerations that balance the interests of all parties. By contrast, man-made laws secure and protect the interests of the privileged minorities who make them or can influence the lawmakers. Thus, riba is prohibited by the Shariah because it reduces the poor to economic slavery. But at the same time, Islam provides solutions to preserve the rights of creditors by assigning unable debtors a right to zakat (alms). Also, tazir law penalises debtors who refuse to settle their debts by making them responsible for any losses suffered by creditors as a result of delayed repayment. Thus, the purpose of Shariah rules is to ensure that all human rights are preserved and to maintain the overall well-being of society.

Ins Communications Pte Ltd 69 Amoy Street, Singapore 069 888 Tel: (65) 6224 5583 Fax: (65) 6224 1091 http://www.meinsurancereview.com/subscriber/AIR-Article.asp?Article_ID=9197 Published: 10/18/2009 2:42:52 PM 2009 All rights reserved

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