ACCUSATION OF ISLAMIC BANKING AS A CONDUIT FOR

MONEY LAUNDERING:

CRITICAL AND ANALYTICAL STUDIES FROM LEGAL AND

ISLAMIC PERSPECTIVE

BY

MUHAMMAD JIDDA TOM

MASTERS OF LAWS IN ISLAMIC BANKING AND FINANCE

JUNE 2015
INTRODUCTION

BACKGROUND

As financial institutions have put anti-money laundering (AML) measures into place, the risk
detection has become greater for those seeking to use the global banking system to launder
criminal proceeds. Additionally, law enforcement see money launders seeking advice and
services of specialized professionals to help them with their illicit financial operations. Financial
Actions TASK Force (FATF) typologies have confirmed that criminals in many countries are
making use of mechanisms which involve services frequently provided by legal professionals,
for the purpose of money laundering. A particular challenge for researching money laundering/
terrorist financing methods that may involve legal professionals is that many services sought by
criminals for the purposes of money laundering are services used every day by clients with
legitimate means.

From terminological view, “money laundering arising from crime” or money1 laundering” or
clearing views to the properties arising from a crime” these terms are used to define the process.
The expression, purification in Persian language means cleaning, washing shaking, pulling water
and money is the tool of exchange (Dekhoda, 1994). Therefore, the legal definition of money
laundering which is comprehensive and exclusive due to the wide range of aspects of it, but with
all the difficulty expert in legal have attempted to provide relevant definition of it, which as
“Money laundering is a process during which the illegal proceeds of criminal origin of the
money is shown to be legitimate in other words, also main source of illegal money and revenues
to be hidden ( Asaadi, 2007).

Money laundering can be the consequences of globalization, which along with the improvements
of science and technology, in terms of economy has been putting internationally in the
community. While in the line of money laundering and drug trafficking mafia and gangs and gun
traffickers try to hide the criminal origin of financial gain. Using of various techniques attempted
to cleanse it and to remove criminal proceeds as well as to keep its source secret. Meanwhile, by
discovering and identifying the source of incomes and destroying it or legitimize the earned
money they try to easily use the money and achieve their goals. Furthermore, providing a precise
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2012.
definition of money laundering that may include every aspect of it, which is inclusive is a
difficult issue, and the difficulties in crimes with multiple aspects are much more obvious. It is
due to the multi-disciplinary aspects of the criminology and its outcomes.

However, to give a definition of money laundering we can sum up that: Money laundering is
earning money by illegitimate and illegal ways and using different methods for its purification,
in order to conceal its illegitimate sources and origins. Some of harmful effects of money
laundering as the social, economic, political on countries, and it may impose destruction of its
economic bases and bring economic instability in countries. Thus, making proper used of laws
may prevent money laundering and can be the best way to combat the criminal offenses of
money laundering in countries and international organizations.

This research has generally tended to focus on Islamic Banking as a conduit for money
laundering in some of Muslim’s country. Such areas are concept, outcomes and effect,
criminology, application, typologies methods.

And all the studies will be in critical and analytical studies from legal and Islamic perspective
view, which will be surely conducted accordingly.

SUMMARY OF THE PROPOSED DISSERTATION

As money laundering is a contemporary crime, over 1,400 years, it has been addressed through
many provisions in Qur’an and Sunnah that contain the conception of money laundering
example, prophet (SAW) prohibits any activity 2 funded by money derived from SOHUT
(Unlawful trade or ill-gotten property). He said: “Any activity built from sohut, will be casted
into fire”. Furthermore, prophet (SAW) prohibited the use of money generated from illegal
activities even it goes to poor people or charities. He said: “ Sadaqa comes from theft are not
acceptable” ( shaih Muslim 1/204). However, the extend prohibitions in Islam is much wider
than the scale of prohibition in any other secular of laws. Example, whereas gambling is allowed
in too many countries, it is prohibited by Islamic law also prostitution is legal in some
jurisdictions, it is illegal in Islamic law.

STATEMENT OF PROBLEM
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Appl, basic, vol 3
Present practice of Islamic finance faces criticisms of many jurists and Islamic economists, who
are not yet satisfied with its conducts. Some criticisms are socio-economic-oriented, while some
are juristic-oriented. In general, the criticisms agree that the present practice of Islamic finance is
still far from the promised objectives of Islamic economics, and seemingly fulfills the
abominated objectives of capitalism. In other word, it also deviates from fulfilling the objectives
of Islamic law to fulfillment of the letters of law. Jurists, who are substantivity, disagree with the
formalists in many structures of products of Islamic finance. Divergence of their opinions led to
many difficulties in growing the industry of Islamic finance not only at the local level by failing
to have a strong and effective regulatory framework, but also at the global level, where there is a
general lack of robust standard to harmonize these divergences.

In recent time, ‘substance over form’ concept is being the way out as proposed by many
contemporary jurists to direct Islamic finance towards its early objectives and promises. While
some emphasize on substances, others assert that forms of contracts are equally important as to
document and regulate the contracts. The available literatures that discussed the issue of
substances and forms in Islamic financial contracts and the related literatures discussed only the
juristic controversies on the structures of the contracts without much regard to the mechanisms
that led to the controversies. However, to really solve the problem of substance versus form,
there is a need to harmonize and converge between substance and form by identifying the
mechanisms used to disperse the both in structuring contracts and to focus argument on
acceptability of using the mechanisms in structuring Islamic financial contracts.

The key objectives of the research:

1. Consider how AML/CFT supervision and applying the rule and guideline.
2. Identify the concept of AML/CFT in Muslims country.
3. Obtain information outcomes of Money Laundering.
4. Identify good practice of AML/CFT.
5. Consider how the supervisory structure and enforcement privilege professional secrecy.

While the main objectives are about why Islamic banking as a conduit to money laundering
from the westerner’s allegation, point of view.

HYPOTHESIS
We can say the effects of money laundering from the social, economic, political are imposed to
the countries. Since in the process of money laundering the opportunities is to protect their
countries, thus they invest in an internal activity that has no profit for the country. And if they
investment, it is to represent the purity for money laundering and after purification they remove
it from the economic circle. So, since this crime is organized by mafia gangs, it leaves a huge
damaging effect on society.

LITERATURE REVIEW

As money laundering is a contemporary crime, over 1,400 years, it has been addressed through
many provisions in Qur’an and Sunnah that contain the conception of money laundering
example, prophet (SAW) prohibits any activity 3 funded by money derived from SOHUT
(Unlawful trade or ill-gotten property). He said: “Any activity built from sohut, will be casted
into fire”. Furthermore, prophet (SAW) prohibited the use of money generated from illegal
activities even it goes to poor people or charities. He said: “ Sadaqa comes from theft are not
acceptable” ( shaih Muslim 1/204). However, the extend prohibitions in Islam is much wider
than the scale of prohibition in any other secular of laws. Example, whereas gambling is allowed
in too many countries, it is prohibited by Islamic law also prostitution is legal in some
jurisdictions, it is illegal in Islamic law. Furthermore, the current practice of many Islamic
financial transactions faces many challenges and criticisms under the rubric of substance versus
form.El-Gamal(2006) criticizes the use of legal tricks (hiyal), which is embodied by
discrepancies between forms and substances of transactions. According to him, the discrepancy
is demonstrated as a legal stratagem used to attain illegitimate ends through a legitimate mean,
while he stresses the importance of developing instruments that serve substance and legitimate
ends, claiming that the emphasis of Islamic financial institutions “on the economic substance of
transactions may eventually rid Islamic finance of outdated and inefficient modes of operation.”
On the other hand, the Shari‘ahAdvisory Committee (SAC) of Bank Negara Malaysia (BNM)
(Central Bank of Malaysia) was referred to on whether it is permissible to apply the principle of
“substance over form” in Islamic financial reporting (SAC (2012)). In its 57th meeting at 2006
and 71st meeting at 2007, the SAC resolved that

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Appl, basic, vol 3
 “In principle, “substance” and “form” are equally important and highly taken
into consideration by the Shari‘ah. In this regard, the Shari‘ah emphasizes that
“substance” and “form” must be consistent and shall not contradict one another.
In the event of inconsistency between “substance” and “form” due to certain
factors, the Shari‘ah places greater importance on “substance” rather than
“form”.”

The difference between the view of El-Gamal and that of SAC of BNM is that the SAC of BNM
stresses the importance of form and considers it important as substance except in the event of
inconsistency between the both, wherein substance prevails.

Furthermore, emphasis on the importance of adopting the principle of ‘substance over

form’ in Islamic financial contracts dominated the atmosphere of Islamic finance after the event
of financial crisis at 2008. Prior to the event, the President of the Accounting and Auditing
Organization for Islamic Financial Institution (AAOIFI) Shari‘ah Council, Sheikh Taqi Usmani
had criticized sukuk issuance in a statement that 85% of sukuk issuances were not in line with
the ruling of Shari‘ah(Usmani, 2008). This pronouncement led to release of new standards by
AAOIFI regarding sukuk in February 2008 (Naim, Isa, & Hamid, 2013). The argument of Sheikh
Usmani was that most of the assessed sukuk held “nearly all of the characteristics of
conventional bonds” and “inimical in every way to the higher purposes and objectives” of
Islamic law and Islamic economics. He further said:

“The whole objective for which riba was prohibited is the equitable
distribution among partners of revenues from commercial and industrial
enterprise. The mechanisms used in sukuk today, however, strike at the
foundations of these objectives and render the sukuk exactly the same as
conventional bonds in terms of their economic results.” (Usmani, 2008): 13.)

However, the forms of those sukuk were compliant but the substances were not. Although the
presence of assets in sukuk makes its form looks compliant, lack of true transfer of ownership to
the sukuk holders, guaranteeing capital through the so-called liquidity-facility and purchase
undertaking at a fixed formula, and lack of right to recourse to the underlying assets, render the
sukuk to be conventional bond-like in substance (Al-Amine, 2008) (Dusuki, 2009) (Naim, Isa, &
Hamid, 2013). This problem is titled as asset-based and asset-backed sukuk. In the former, sukuk
holders recourse to the issuer and do not really take risks and returns of the claimed asset, while
the later involves actual transfer of the ownership of the underlying asset, by which the
investment would be secured by the asset as the returns and risks associated with the asset is
taken by the sukuk holders (ISRA (2012). Al-Amine(2008) highlights some legal and Shari‘ah
issues in sukuk structures, which make their substances to be similar to conventional bonds,
discussing the controversies of jurists on permissibility of each issue. Among the issues are
capital guarantee, contractual structures, rating, pricing, and harmonization of Shari‘ah rules.
However the discussions of Al-Amine (2008) were not focused and detailed on Shari‘ah issues in
sukuk. Besides, the discussions were not from the context of substance and forms of sukuk, as
the discussions were formed independently as different Shari‘ah issues relating to sukuk
structures especially musharakah and ijarah. Furthermore, Dusuki(2009) evaluated the equity-
based sukuk structures (mudharabah and musharakah) from Maqasid ul-Shari‘ah’s (objectives of
the Shari‘ah) perspective, arguing that most of the equity-based sukuk structures were not
fulfilling the objectives of the Shari‘ah. The study categorizes these objectives of Shari‘ah
related to commercial conducts into two; macro and micro objective. The macro objectives are
the benefits related to overall objectives of the Shari‘ah pertaining to the well-being and welfare
of the economic system, while the micro objectives are defined as those related to individual
financial transactions. Moreover, the study stressed the importance of substance over form in
considering any transaction to reflect its true effect by looking generally to different elements
like undertakings and conditions attached to the contract. A mere focus on form is contrary to the
consensus of the scholars. He states:

“However, as discussed earlier, the legal form is not sufficient to certify and
justify the permissibility of a contract although it may be perceived otherwise
for validity. Therefore, to claim permissibility by merely based on the legal
form of the transaction, is definitely undermining ijma’ (consensus of jurists)
and go against the very principles of Shari‘ah and religion in general. The use
of credit enhancement strategies like purchase undertaking in structuring
sukuk to enable guarantee-resemblance features of conventional bonds
obviously have maintained the legality of the form (sahih qadaan) but
neglected the legality of the substance (sahih diyanatan) despite the fact that
 the objective of form is to help ensuring the compliance of the substance with
the Shari‘ah and it is not meant for itself.” (Dusuki, 2009): 19.)

In spite of that, Dusuki(2009) is limited to equity-based sukuk as it excludes the debt-

based like ijarah and sale sukuk. Maurer(2010) formally discusses forms versus substances in
sukuk structures using AAOIFI projects as case study. The literature advocates importance of
considering substances of transactions over their forms, but focuses only on the issue of real
transfer of ownership to sukuk holders, emphasizing that permissibility of sukuk structures rests
on transfer of the ownership of the underlying assets. Despite the support obtained by the
AAOIFI (2008) standards on sukuk, Naim, Isa, & Hamid, (2013) show that the standards are not
yet really effective as observed in some sukuk issued after the standards.

Apart from sukuk structures, which comprise many contracts used in Islamic financial
transactions, debate of substance and form is also found in some specific contracts like ba’I
ul-‘ina, tawarruq, bai ul-wafa, and bai ul-ddain. These contracts are debated in the classical
books of fiqh and still debated in the contemporary fatwaa and resolutions. Mansoori(2011)
discusses the concept of substance and form from the context of legitimacy of using legal tricks
(hiyal shar’iyyah) in Islamic finance. He argues for differentiating between hiyal (legal tricks)
and makharij (ways out), as presently, most of the legal tricks used in Islamic financeproducts
are in the nature of makhārij. He stresses that they are wise and clever uses of law to provide
answers to difficulties and to achieve legitimate ends. However, Mansoori (2011)admits that
“there are some devices that certainly fall under the category of unlawful devices as they defeat
the higher purposes of Islamic economics and finance”. Citing examples of the unlawful devices,
Mansoori (2011)mentions ba’i ul-´inah, tawarruq, commodity murabaha, and sale and lease-
backed sukuk. He critically disregards the use of these devices in Islamic finance just
likeKhan(2009) in the case of tawarruq, in his “why tawarruq needs to go”, although opposed by
Aznan(2009) titled “why tawarruq needs to stay”, arguing the applicability and relevancy of
tawarruq provided the AAOIFI’s conditions are met.

Moreover, reporting these controversial transactions becomes serious issue as Islamic

finance grows to global level. The issues of substance versus form and time value of money
constitute the main issues in reporting Islamic financial transactions; whether to prioritize
substance over form or vice versa, and whether to follow the International Financial Reporting
Standard (IFRS), which implies the idea of substance over form and advocates the conventional
idea of time value of money, or to develop and follow an independent Islamic accounting
standards as that of AAOIFI (Asian-Oceanian Standard-Setters Group, 2010)(Venardos, 2012).

CERTAIN PROVISIONS THAT PROHIBIT THE ILL-GOTTEN MONEY

As there are many general Qur’anic verses and prophetic sayings prohibit money laundering,
there are also many prohibit illegal activities and the money comes from them as follows:

THEFT. Shari’ah law prohibits theft and imposes a massive penalty for that: cutting the hands
of thieves. Qur’anic verse says: “As for thief, both male and female, cut off their hands. It is the
reward of their own deeds, also the prophet 4( SAW) Says” if Fatima ( the daughter of the
prophet saw stole, I would cut her hand.”

HARBH. In Islam it means crime, Islam forbids organized crimes Qur’anic verse says: “The
only of those who make war on ALLAH and his Messenger and strive after corruption in the
land will be that they will be killed or crucified, or have their hands and feet on alternate sides
cut off, or swill be expelled from the land, such will be their degradation in the world, and in
hereafter theirs will be an awful doom (picthall, 2005, verse 33).

In other words, Islamic law not only concentrates on prohibiting crimes that constitute predicate
offences for money laundering but it also prohibits the utilization of proceeds of such crimes
even for charitable purposes.

OUTCOMES AND EFFECTS OF MONEY LAUNDERING

We can say the effects of money laundering from the social, economic, political are imposed to
the countries. Since in the process of money laundering the opportunities is to protect their
countries, thus they invest in an internal activity that has no profit for the country. And if they
investment, it is to represent the purity for money laundering and after purification they remove
it from the economic circle. So, since this crime is organized by mafia gangs, it leaves a huge
damaging effect on society.

4
Pitchall, 2005
Maidah v, 33
CRIMINOLOGY OF THE MONEY LAUNDERING

Each society has laws that control the community to sustain its survival against all types of
crimes. Whenever there is violation of rights of individuals in a 5society the legislature is
required to prevent these crimes and protect the rights of people and then determine the
punishment of the special crime. According to jurisprudence and legal reasoning, we consider
the presumption of innocence of the actions unless the negative is proven.

In Islamic source the money laundering provisions that they are directly implicated in the crime
cannot be found. This is obviously due to the fact that the time of prophet (SAW) and unerring
Imams, the society were quite simple and not like today’s society as well as the tools of modern
crimes. Although for money laundering there is not as an independent religious sources but it
should be noted that Islam is a comprehensive and authoritative sources of jurisprudence in all
periods, and it is fond that these acts are criminalized by the public jurisprudence recourses
(Grayly, 2009) some of them are: corruption on earth, expedience, eating the wrong property.

CORRUPTION ON EARTH: Islamic approach penal system to the money laundering can be
reviewed on its penal to the corruption on earth. In other words, corruption on earth is other than
a casual verse (maidah 32) which committer gets the maximum punishment, if it is about money
laundering the corruption is 6not so huge, the sentenced must not be killed. According to the
emergence existing in money laundering and the Islamic goal of punishment is to eradicate the
corruption.

EATING THE WRONG PROPERTY

Some of the verse that could be indicative the prohibition of money laundering is as: “Do not eat
each other’s property in a wrong way ( al-nisa, verse 29). I t seems that money laundering is
subjected to the second reason and earning this way is prohibited. Moreover, money laundering
those directly generates income, but only appears to legitimize the illegitimate money, so the
evidence shows that money laundering is illegal and the Islamic ruling could give the expediency
to sanction money laundering and to declare it unlawful.

5
Grayly 2009
6
Al-nisa
Grayly 2009.
http://dx.doi.org/10.1108/13685200710830899
APPLICATION OF AML/CFT OBLIGATIONS

In 2003, FATF issued updated recommendations, which for the first time specifically included
legal professionals. The recommendations have explicitly required ensuring the legal
professionals are supervised for AML/CFT purposes. Such as client due diligence, reporting
obligations etc.

MONEY LAUNDERING TYPOLOGIES: Are as misused of client account, property

purchase, management of company and trusts, creation of company and trusts, litigation we will
explain in details two of them.

MISUSE OF CLIENT ACCOUNT: Use of client account is part of many legitimate

transactions by legal professionals, as it can be used as:

1. Part of the first step in converting the cash proceeds of crime into other less suspicious
assets.
2. Permit access to financial system when the criminal may be undesirable to a financial
institution as a customer.

PROPERTY PURCHASE: Criminals with legitimates incomes, require a place to live and
premises from which to conduct their business activities. In many countries the legal law to
undertake the transfer of property or their involvement is a matter of custom practice, therefore,
real estate transaction is key area of potential ML/TF for legal professionals.

SCOPE AND LIMITATIONS OF THE STUDY

Since the major problem faced by Islamic finance industries is the conflict of ijtihad and
resolutions, which is embodied in intents versus forms of transactions, the way forward being
proposed by numerous writings, conferences, and discussions of practitioners is how to reconcile
between the conflicting Shari ‘ah resolutions, admitting that priority should be given to
substances of transactions rather than their forms. This is proposed for the sake of gaining a
better regulatory framework locally, robust standard globally, sound credibility, and guided
financial architecture. However

TO OUTLINE THE CONCEPT OF MONEY LAUNDERING IN ISLAM AND GENERALLY

TO EXAMINES OUTCOMES AND EFFECTS OF MONEY LAUNDERING

TO FIND OUT CRIMINOLOGY OF MONEY LAUNDERING

TO OUTLINE THE KEY LESSONS OF MONEY LAUNDERING TYPOLOGIES:

Misused of client account

Property purchases

Management of companies and trusts

METHODOLOGY

Two main research approaches have been identified by scholars commonly referred to as:
quantitative and qualitative. The quantitative approach also known as “positivistic/objectivist”
has its roots from the natural sciences, while, the qualitative approach known as
“phenomenological/subjectivist” originates from the social sciences.

For the purpose of interpreting data in this paper, we chose to apply qualitative approach and
when necessary we used the quantitative combine. This is because not all the data required for
analysis were found in the form of either judgmental or figurative. While qualitative analysis is
effective in describing relations and quantitative in terms of determine percentages changes in
financial performance over a given duration of time.

TABLE OF CONTENTS

This research is completed in five chapters. The first chapter will be dedicated for introductions
of the topic, problem statement, objectives, research questions, research methods, significance
and limitations of research, and literature review.

CHAPTER ONE: INTRODUCTIONS OF THE STUDY

1.1. Introduction
1.2. Background of Study
1.3. Problem Statement
1.4. Objectives of Research
1.5. Research Questions
1.6. Research Methods
1.7. Significance/ Limitations of Research
1.8. Literature Review
1.9. Plan of Study
2. CHAPTER TWO: INTRODUCTION TO MONEY LAUNDERING

Historical of money laundering

Over view of money laundering from Islamic perspective

3. CHAPTER THREE:

Critical analysis of money laundering

Difference between Islamic banking and conventional

4. CHAPTER FOUR: INTRODUCTION TO ISLAMIC LAW AND SCHOOL OF

THOUGHT VIEW ON MONEY LAUNDERING

Islamic perspective view on money laundering

Legal perspective view on money laundering

5. CHAPTER FIVE: This chapter provides conclusions drawn from analysis and offers
suggestions for further research suggestions for further research.
BIBLIOGRAPHY: This section provides list of all sources consulted as references materials
during the writing process.
APPENDICES: This section provides glossary of Islamic banking terms and tables containing
useful information.

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