Breakthrough in Pakistan’s Islamic financing system; SECP enforces Shariah Governance Regulations, 2018

Breakthrough in Pakistan’s Islamic financing system; SECP enforces Shariah Governance Regulations, 2018

ISLAMABAD, November 2: In line with the spirit of the article 38 (f) of the Constitution of Pakistan, the SECP has
enforced the Shariah Governance Regulations 2018.

The jurisdiction of these regulations is the corporate sector, Shariah-compliant corporate sector, Islamic capital
markets, Shariah-compliant securities, Islamic financial institutions, explicit the notification issued on November 2,
2018. The enforcement of a comprehensive framework for Shariah-compliant business is a major breakthrough to
lay the foundation for a true Islamic financial and economic system.

The regulations are in furtherance to the Senate’s resolution No. 393 moved by Senator Shibli Faraz and unanimously
passed on July 9, 2018, whereby the house recommended that the government should take necessary steps to
abolish riba at the earliest and at least 30% of the new government debts should be replaced with Shariah-compliant
modes of financing. The issuance of these regulations is a leap forward towards development of a long-term,
sustainable Islamic financial market, corporate sector and capital market. The regulations will help deepen
Shariah-compliant businesses and financing and will set the momentum for an all-embracing use of Shariah-compliant securities for Shariah-compliant investments and financings as the regulations provide opportunity to
every business irrespective of its size or line of business to become Shariah-compliant or to issue Shariah-compliant
security listed or unlisted.

Pakistan has a chequered history when it comes to propagating the name of Shariah. Our history is awash with
financial swindles where the wrongdoers, in the garb of Islam and Shariah, have deprived innocent investors of their
hard-earned lifelong savings. Among the few reasons for the abysmal growth of Islamic finance in the country are the
hiccups that investors have endured while investing in the name of Islam, resulting in a trust deficit and lack of
confidence. Unfortunately, feeble efforts have been devoted to long-term oversight, and risk mitigation marked by
meaningless quick fixes.

The unregulated Shariah business activity, arbitrary interpretation of Shariah, and discretionary labelling of
businesses as Shariah-compliant, all pose enormous Shariah, reputational and regulatory risks. The absence of
an all-encompassing framework undermined the Shariah compliance and credibility of the entities under the
SECP’s jurisdiction.

In this backdrop, these regulations have been introduced, which encompass a number of elements of Shariah
governance necessary to execute Shariah compliance and to uphold the sanctity of Shariah in business and financial
dealings and operational practices that will ensure long-term sustainability for the Islamic financial system to stay on
sound footings. They include certification for Shariah compliant companies and Shariah compliant securities,
a comprehensive Shariah screening methodology for listed as well as for unlisted companies, internal and external
Shariah audit, Shariah advisory, Shariah compliance, income purification and charity distribution mechanism.

The regulations will help achieve standardization, harmonization, and transparency in the business practices and
operational aspects of Shariah-compliant businesses and Islamic financial institutions, implement uniform Shariah
screening mechanism, and shall enforce a compliance driven governance. At the same time, the regulations will
make the collection and analysis of data on corporate sector’s conformity with Shariah possible. They will enable the
SECP to gauge the incidence of Shariah compliance and assess the Shariah compliant businesses’ universe in the
corporate sector and capital markets of Pakistan.

The regulations will help curb the use of word Shariah or Islam by the businesses that entice investors for ulterior
motives. Henceforth, no business will claim as Shariah compliant or as an Islamic financial institution unless it obtains
certification for Shariah compliance from the SECP. Likewise, certification will also be required for issuing a Shariah
compliant security. The regulations are critical for addressing the challenges such as restoring the shaken confidence
of public and investors, and putting in place a viable long-term solution to avert a muddle in the guise of Shariah for
the future.

The concepts of Shariah-compliant company and Shariah-compliant security were introduced through
landmark provisions incorporated in the Companies Act, 2017. Section 451 of the Companies Act empowering
the SECP to implement the scheme of certification of Shariah-compliant companies and Shariah-compliant
securities. The aforesaid regulatory provision enables the SECP to regulate almost every aspect of Shariah-compliant products, services and Shariah-compliant businesses. In order to put a robust and holistic Shariah
governance framework for effective regulation and supervision of Shariah-compliant business activities in
place, the SECP’s Islamic Finance Department (IFD) reviewed frameworks of several international jurisdictions,
including Malaysia, Indonesia, U.A.E., Bahrain, and Iran. The IFD was fully conscious of the national context and
laid great emphasis on domestic business needs while framing the regulations.

In March 2018, these regulations were issued for public consultation. The IFD held a number of consultation
sessions with the business community, Pakistan Business Council, Shariah advisors, Islamic financial
institutions, State Bank, Pakistan Stock Exchange, Institute of Chartered Accountants of Pakistan, Takaful
Operators, Modaraba and NBFI Association, and Mutual Funds Association of Pakistan. In line with the
feedback, necessary amendments were made to the regulations.

The regulations, first of their kind across jurisdictions where Islamic finance is practiced, are plural in their
approach, structured to facilitate the smooth transformation for businesses allowing reasonable time to make
adjustments, and are long-term in vision underpinning growth of Islamic finance. The regulations depict
serious efforts from the regulator to provide an enabling regulatory environment to support and strengthen
the Islamic financial system.