Mahyuddin Khalid emkay@salam.uitm.edu.

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ISLAMIC FINANCIAL LEGAL FRAMEWORK

LEGAL FRAMEWORK OF THE MALAYSIAN FINANCIAL SYSTEM

CONTENT
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ISLAMIC LAW SOURCES AND PRINCIPLES OF LAWS IN ISLAMIC BANKING AND FINANCE PRIMARY SOURCES SECONDARY SOURCES MALAYSIAN LAWS

INTRODUCTION
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Proof of Shariah consists of the four sources which agreed by all jurists are the Quran, the Sunnah, Ijma and Qiyas. All of them work consecutively which means when the jurists have to derive any hukm, the first reference is the Quran. If the hukm is stated in the Quran, then it binds all Muslims. If the hukm cannot be found in the Quran then the second source is the Sunnah. If the hukm cannot be found in both the Quran and the Sunnah, then, the next in order that shall be referred is Ijma and then Qiyas.

METHODS OF INTERPRETATION OF THE LAWS

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Majority of branch cases (furu) are derived through interpretation of the legal text using legal reasoning. Legal reasoning is certainly needed in issues and cases where textual evidence is absent. Written text is limited while cases that happen are unlimited The process of interpretation through legal reasoning that relies on ray (a considered opinion), is known as ijtihd. Such interpretation must be consistent with the spirit and general principles of the Shariah such as wisdom and justice.

SOURCES AND PRINCIPLES OF LAWS IN IBF

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Islamic law is a Divine Law as it is based on the totality of Allahs command revealed to the Prophet Muhammad SAW. The law contained in both sources is the revealed law and is technically called the Shariah. When Muslims seek to understand the Shariah and apply their understanding of the Shariah to any particular matter, it will becomes human interpretations of Shariah namely fiqh. The Shariah is the textual law, while fiqh is the derivative law. Hence there is no disagreement in the Shariah, whereas there might be disagreement in fiqh, since it has been derived by jurist.

AL-QURAN
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The Quran is the fundamental and main source of Islamic jursiprudence. The Quran is a text of Islamic law and it contains a code of conduct for every Muslim. According to al-Suyuti, there are 500 verses of injuction or commandment of legal text (ayat alahkam) in the Quran. Abdul Wahab al-Khallaf further classified into:

70 verses on civil law 30 verses on penal law 13 verses on jurisdiction and procedures 10 verses on constitutional law 25 verses on international law 20 verses on economic and finacial law 50 verses on sources of law

PRICIPLES OF MUAMALAH IN ALQURAN

Establishing justice and eliminating exploitation in business transaction Prohibition of riba/ interest Leniency to debtors who have difficulties with repayment Debt and loan contract in written documents Condemnation of hoarding of wealth

SUNNAH
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The Sunnah has been accepted as second source of the Shariah. The status of the sunah has remain unchanged and undisputed throughout the centuries. The authority of the sunah as a source of Islamic law is recognised by the Holy Quran and the ijma (consensus) of the companions. The hadis literature is very extensive and covers a much wider range of topics than the legal verses of the Quran. It has supplied the Islamic rationale for a major part of the shariah. Numbers of a hadis pertaining to the commercial and financial dealings which support and elaborate the general principles and rules laid down by the Quran.

PRICIPLES OF MUAMALAH IN ALSUNNAH

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The rules governing transactions of ribawi (usurious) commodities Encouraging trustwothiness or truthfulness in business transactions Generosity and modesty in bargaining. Giving sufficient time to a poor debtor to enable them to pay debt.

IJMA
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Ijma represents the ultimate sanctioning authority which guarantees the infallibility of the positive legal rulings and methodological principles that are universally agreed upon by scholars. Any law which is not explicitly stated in the Quran and hadith must he deduced from these two sources by using analogy. The law deduced by ijma is authoritative and binding. Moreover, it guarantees authenticity and validity and ascertains the veracity of private judgment.

RULINGS OF MUAMALAH BASED ON IJMA

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The importance of ijma is that it helps the jurists to unite the divergences of opinions and consequently help them settle the dispute. Examples of such ruling based on ijma:
Validity

of purchase of goods to be delivered in the future ( bay al-salam) Validity of deferred sale (al-bay bi thaman aajil) . Validity of al-qirad or al-mudarabah contract .

QIYAS (ANALOGY)
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The bulk of the Islamic law has been developed by individual deductions of jurists rather than from their collective resolutions. A jurist deducing a rule of law by using the process of analogy (qiyas) only expounds the law but does not establish it. It is an extension of the law established by the binding authority on a particular case. Qiyas is used to extend the rule (hukm) provided in a text for a specific entity or thing to a new case not specified in the text.

RULINGS OF MUAMALAH BASED ON QIYAS

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The importance of qiyas is more obvious in commercial issues. This has the support of one of the established maxims that is the principle in muamalah is ratiocination and analogy (al-asl fil muamalah altalil wal qiyas). The following application of qiyas in the sphere of commercial and financial transaction:
Transactions of sale are forbidden after the call to Friday prayer. Validity of muzaraah (share-cropping) on the basis of mudharabah (partnership) where the sharing of future profit is not clearly fixed. Validity of salam contract as the Prophet SAW allowed the contract with certain conditions enunciated by him.

ISTIHSAN
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Istihsan or juristic preference representing a more advanced stage of personal opinion (ray). Istihsan was resorted to where the jurist had to make equitable concessions or preferred some other criteria to analogy. Istihsan is a method of exercising personal opinion in order to avoid rigidity and unfairness that might result from the literal enforcement of the existing law. The departure to an alternative ruling in istihsan may be from apparent analogy (qiyas jali) to hidden analogy (qiyas khafi), or to a ruling which is given in nass i.e. the Qurn or the sunnah or consensus, custom or public interest.

RULINGS OF MUAMALAH BASED ON ISTIHSAN

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Example of istihsan regarding commercial transactions, which involve the departure from qiyas jail to qiyas khafi. Contract of ijarah (lease).
According

to qiyas jail, ijarah is not valid because the subject of contract need to be present at the time of the contract. However, in this case qiyas has been set aside because istihsan makes an exceptional validation of ijarah bi al-wafawas allowed in view of the peoples need for it.

Bay bi al-wafa
Bay

MASLAHAH MURSALAH
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Mashlahah mursalah is a consideration which is proper and harmonious with the objectives of the Lawgiver; it secures benefit or prevents harm Maslahah consists of considerations which secure benefit or prevent harm while at the same time, being harmonious with the objectives (maqasid) of the Shariah. Any measure that secures these values falls within the scope of maslahah, and anything which violates them is mafsadah (evil), and preventing the latter is also maslahah.

RULINGS OF MUAMALAH BASED ON MASLAHAH MURSALAH

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Examples of public interest as a source of Islamic law:

A

Muslim ruler may impose additional taxes on wealthy citizens during a period of emergency. Imam Malik and Imam Ahmad prohibited the sale of grapes, which was otherwise legal, to wine merchants who would use them to ferment wine which was unlawful. The sale of arms during a civil disturbance is prohibited as it may intensify the struggle.

ISTISHAB
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Istishab is used to denote things whose existence or non-existence had been proven in the past should be presumed to have remained as such for the lack of evidence establishing any change. Many principles are derived from this maxim, such as presumption of freedom from liability (al-asl baraah al-dhimmah) and certainty may not be disproved by doubt (al-yaqin la yuzal bi al-shak). For example, when someone wastes the property of another, if they differ on the amount, what the person who has committed the waste says is considered to be true, and the owner of the property needs to provide proof for his claim.

URF
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Urf is defined as recurring practices which are acceptable to the people of sound nature. Custom must be sound and not in contradiction with any other rules of Shariah. For example, in the act of renting a shop or house without declaring its purpose or if a merchant sells a commodity to a purchaser without agreeing on to the time or mode of payment. In this case the manner of use or payment is according to the urf the place.

THE POSITION OF ISLAM AND ISLAMIC LAW

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Islamic law was the law of the land before the coming of the colonial powers to the Straits Settlements and the Malay States. The position then changed especially after the coming of the British who introduced English law in these States. The adoption and application of English law in the Malay states and the Straits Settlements before independence removed Islamic law from the Malay Muslim society except for a narrow sphere of personal law. When the Reid Commission was drafting the Constitution for the Federation of Malaya, it considered a provision on the position of Islam as a religion of the state in the Federal Constitution.

THE POSITION OF ISLAM AND ISLAMIC LAW

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It was appeared in the Federal Constitution of Malaya and Malaysia were articles 3 and 11. The identification of race with religion and its official status in Article 160 (2) Federal Constitution have strengthened the argument in the polemic that Malaysia is an Islamic state. The intention in making Islam as the official religion of the Federation was primarily for ritual and ceremonial purposes and it was not intended to he the law. The Federal Constitution does not consider Islamic Law within the meaning of the word law. Islamic law is not included in the definition of law in article 160(2) of the Federal Constitution, which provides that the definition of law only includes written law, the common law and any customs or usage having the force of law in the country. Furthermore, Article 4 declares the supreme law of the federation to be the Federal Constitution.

THE POSITION OF ISLAM AND ISLAMIC LAW

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This does not mean that Islamic law is completely discarded as the Federal Constitution provides that certain aspects of Islamic law are applicable to persons professing the religion of Islam. The power to legislate on matters pertaining to Islamic law lies with the State Legislatures subject to Federal law. The jurisdiction given to the states pertaining to the practice of Islamic law is well defined in the State list of the Ninth Schedule to the Federal Constitution. It appears that the position of Islamic law in the Federal Constitution does not cover any Islamic commercial transactions. It is merely a state religion with a restrictive purpose confined to rituals and ceremonies only. It was the intention of the drafter to place matters concerning commerce and trade including banking and finance under the Federal List and not under State List.

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ISLAMIC BANKING ACT OF 1983 (IBA)

The prerequisite for the establishment of an Islamic bank in Malaysia is a legal framework which would enable the bank to operate on the principles of the Shariah, It was argued that the then existing Banking Act of 1973 was not suitable to cater the needs of Islamic banking because it required all banks in Malaysia to be interest based and did not allow the banks to be involved in trading in their operations. Thus, the Islamic Banking Act (IBA) (Act 276) was enacted on 10 March 1983. The Act seeks to provide for the licensing and regulating of the Islamic banking business. The preamble of the IBA states the directive principle of the Act that is for the licensing and regulation of Islamic banking business. The normal practices of prudent are still retained and it vests BNM with powers of supervision and regulation over the Islamic bank as in the case with other commercial banks.

THE GOVERNMENT INVESTMENT ACT OF 1983

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Government Investment Act 1983 (Act 275) was enacted to empower the Government to issue Government Investment Certificates (GICs) This is to comply with the BNMs liquidity requirements where every financial institution is required to have a certain percentage of liquidity kept (invested) with the Central Bank. The Government Investment Act of 1 983 (GIA) was enacted at the same time as the IBA to allow the Government through BNM to issue GICs (now replaced by Government Investment Issues (GIIs) which are based on Islamic principles. The issuance of GlCs under the contract of qard al-hasan represents benevolent loan to the Government. issued at par. It is also redeemable at maturity or on demand at BNM at par.

BANKING AND FINANCIAL INSTITUTION ACT OF 1989 (BAFIA)

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The Banking and Financial Institutions Act, 1989, (BAFIA) was promulgated in 1989 to replace the existing Finance Companies Act, 1969 (Act 6) and Banking Act, 1973 (Act 102). With the enactment of the BAFIA, the licensing and regulating of various institutions carrying banking, finance, merchant banking, discount house, and money-broking businesses are now brought together tinder one Act. The introduction of the BAFIA is intended to provide BNM with sufficient integrated supervisory and control towers over the banking and financial institution and to modernize and streamline the laws relating to banking and financial system in the country.

GUIDELINES FOR ISLAMIC BANKING OPERATIONS

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Bank Negara Malaysia provides certain guidelines for Islamic banking operations. These guidelines explain the concepts, procedural requirements, the accounting and technical aspects. Among these guidelines are:
Guidelines

on the Islamic Interbank Money

Market Guidelines on Islamic Negotiable Instruments Guidelines on Interest-free Accepted Bills Guidelines on Skim Perbankan Tanpa Faedah (SPTF).

DEVELOPMENT FINANCIAL INSTITUTION ACT 2002

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The aspiration of BNM to establish a comprehensive Islamic banking system has stimulated the nonbanking financial insititutions. All of these institutions are governed by the Development Financial Institution Act 2002 (DFIA) (ACT 618). DFIA states that savings and development institutions can perform Islamic Banking or financial businesses as an addition to the existing business, with the condition that those institutions must have written approval from BNM. In performing Islamic banking or financial businesses, DFI institutions may acquire advice from the Shariah Advisory Committee to ensure that the Islamic banking business and the Islamic financial operations do not involve activities that are contrary to Islamic principle.

CENTRAL BANK OF MALAYSIA ACT 1958 (AMEND) 2003

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One important development in the Islamic banking and financial system is the amendment of the Central Bank Act, 2003. Among the objectives of this amendment is to allocate the establishment and appointment of the SAC. Previously, there has been no provision under the BNM Act regarding the Shariah Advisory Council. This is because the allocations for the establishment of the Shariah Advisory Council exist in other acts such as the Islamic Bank Act of 1983, Islamic Bank and Financial Act of 1989, and the Development Financial Institution Act

COMPANIES ACT 1965 (ACT 125)

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The law relating to companies in Malaysia is regulated by the Companies Act 1965 (revised 1973). This Act is based on the English Companies Act 1948 and the Australian Uniform Companies Act 1961. The first Islamic bank in Malaysia, BIMB was incorporated as a limited company under the Companies Act 1965. A company that desires to carry on Islamic banking business in Malaysia must apply for a license in writing from the Minister through BNM. Islamic bank which is incorporated under the Companies Act 1965 is subject to the provisions of that Act and Islamic Banking Act 1983. If there is a conflict between the provisions of the Companies Act 1965 and IBA 1983, the provisions of the latter Act in must prevail.

CONTRACTS ACT 1950

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Islamic banking transactions would be governed by the Contracts Act 1950. The contract must be valid and comply with all the requirements of a sale contract under Islamic law as well as under civil law in order for it to be enforceable in the civil courts. For instance, if an immovable asset is being financed, e.g. land, the legal documentation must satisfy all the requirements laid down by the National Land Code 1965. If it is movable, such as a motor vehicle, the relevant civil law to be followed is the Hire-Purchase Act 1967, the Sate of Goods Act 1957 etc. The documents to be used in Islamic banking transactions such as in murabahah, BBA, al-ijarah etc., have to be structured in such a way to accommodate the English law principles for them to be enforceable in the civil courts as long as these principles do not contravene Islamic law.

OTHER STATUTES RELEVANT TO ISLAMIC BANKING AND FINANCE

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National Land Code 1965 (Act 56) Sale of Goods Act 1957 (Act 382) Hire-Purchase Act 1967 (act 212) Income Tax Act 1967 Stamp Act 1949 (Act 378) Real Property Gains Tax Act 1976 (Act 169) Rules of the Court

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