Banking with a Difference

By Sudeshna Sarkar

Muddassir Siddiqui, a Dubai-based Islamic finance lawyer who advises financial institutions, narrates a moving story he heard while attending a conference in Oman, the latest Middle East State set to amend its banking laws and allow full-fledged Islamic banks.

“A senior bank official told me on the day they opened an Islamic window at his bank, there were people who brought bundles of money in cash,” Siddiqui says. “One depositor brought notes yellowed with age and no longer in circulation. Another brought a bundle that was literally frozen because he had kept it in a freezer to protect it from decaying.

“There are many people with cash worldwide who do not deal with conventional banks for religious reasons. By opening up Islamic banking, a country can facilitate the circulation of a large sum of idle money for use on good projects.”

Almost four decades after the world’s first Islamic bank was established in Dubai — the Dubai Islamic Bank — the parallel banking industry has spread globally. Islamic transactions are thriving in Europe, Africa and the US while three countries, Iran, Pakistan and Sudan, have converted fully to Islamic banking. The phenomenon has also taken root in South and Southeast Asia, where the Al-Amanah Islamic Investment Bank of the Philippines, formed by a presidential decree in 1973, is the oldest Islamic bank in the region.

“The size of the Islamic finance industry in 2012, as per the World Islamic Banking Competitiveness Report 2011-2012, is estimated at $1.13 trillion,” says Dr Hatim El-Tahir, leader of the Bahrain-based Islamic Finance Knowledge Centre of Deloitte & Touche. “The growth rate per annum is 10 percent.”

The burgeoning industry has compelled conventional western banks to open Islamic windows, like HSBC, ABN Amro and American Express Bank, while Citibank established a separate Islamic bank, Citi Islamic Investment Bank, in Bahrain in 1996. Even financial consultants and other institutions have Islamic finance branches, like Deloitte & Touche. 

According to Dr El-Tahir, the six-member Gulf Cooperation Council (comprising Qatar, Saudi Arabia, Bahrain, United Arab Emirates, Oman and Kuwait) accounts for nearly 60 percent of global Islamic finance assets. The UK and US have also became centers of Islamic transactions and now, following on the heels of Malaysia, Singapore and Hong Kong are vying to become Islamic investment hubs.

“The Monetary Authority of Singapore (MAS) aims to develop Islamic finance leveraging on its existing strengths in banking, trade finance, wealth management, insurance and capital markets,” a MAS spokesperson tells China Daily Asia Weekly. “As an international financial center in Asia, Singapore-based financial institutions should be able to offer a complete suite of financial products and services, including that of Islamic finance… The expansion of Shariah-compliant (Quranic law-compliant) activities in Singapore is likely to attract both Muslim and non-Muslim investors who are interested in ethical investing and therefore diversify financial institutions’ sources of funding and deepen the investor base.”

In 2005, MAS became a full member of the Islamic Financial Services Board, the Malaysia-based standard-setting organization that issues global prudential standards and guiding principles for the industry. In 2010, to promote greater awareness of Islamic finance domestically, it hosted the first Islamic banking and finance seminar with the Singapore Business Federation, an annual event that had its third edition on June 5-6.

In his opening address at that conference, MAS Managing Director Ravi Menon said Islamic finance has shown remarkable resilience during the last five years. Though the eurozone crisis has curtailed economic growth and capital inflows to many emerging economies where Islamic finance has taken root, it still has a “window of opportunity”.

“With its strict prohibition on excessive leverage, Islamic finance has been spared the worst of the financial crisis,” Menon said. “Islamic banks are well positioned to reach out to new customers who are in need of financing as many global institutions pull back on their lending due to the need to repair their balance sheets.”

Some banks in Singapore have been offering Islamic financial services since 1998. In 2007, Singapore got its first fully Islamic bank, the Islamic Bank of Asia, a joint venture between DBS Bank and private investors from the Middle East. Islamic finance was boosted further when HSBC Insurance started Islamic insurance or takaful fund management for the domestic market and Japan’s largest non-mutual private insurance group Tokio Marine Holdings set up Tokio Marine Retakaful (Islamic reinsurance) in Singapore in 2004 to serve the region.

The icing on the cake was the establishment of the International Islamic Law and Finance Centre by Singapore Management University in June 2010 to promote professional education in Islamic finance and nurture Islamic bankers.

The government has also been an active patron. “In 2005, MAS refined its regulations to facilitate the growth of Islamic finance,” adds the spokesperson. “We also removed the additional stamp duties for certain Islamic transactions involving real estate… In 2006, clarifications were made on the tax treatment for Islamic financing using (certain) structures, in 2007, retail murabaha (an Islamic financing structure) investors were accorded the same regulatory protection as conventional depositors. In 2008, a concessionary tax rate was introduced for qualifying Shariah-compliant lending, fund management, takaful and retakaful activities.”

Though Singapore has a headstart, Hong Kong is now getting its act together. Its advantage is being the gateway to the Chinese mainland.

“As a gateway to the mainland, Hong Kong can provide an ideal platform for Islamic investors in the Middle East to tap the tremendous investment opportunities on mainland China,” a spokesperson of the Hong Kong Monetary Authority (HKMA) tells China Daily Asia Weekly. “At the same time, Hong Kong can also provide a platform for issuers from the Middle East to tap the funds of mainland investors.”

In 2007, Hong Kong’s outgoing Chief Executive Donald Tsang said at a public address that Islamic finance offers huge potential for development.

A year later, during a visit to Kuwait, he reaffirmed the thought, saying: “A unique advantage is our unrivalled role in bridging the mainland, the world’s fastest-growing large economy, to the international market. The potential requirement for capital on the mainland, especially for infrastructure development projects, lends itself well to Shariah-compliant financial structures. Hong Kong can play a significant role in structuring and financing Islamic investment products to meet the needs of mainland Chinese borrowers.”

Further developments followed in 2008 with the introduction of a new Dow Jones Islamic Market Index along with a Hang Seng Shariah-Compliant China Index Fund, comprising 30 of the largest Shariah-compliant companies within Hong Kong and mainland China. To be Shariah-compliant, a company should not be involved in activities prohibited by the Quran, like gambling, drinking, weapons dealing, and pornography. Islamic banks also eschew the use of interest, instead running operations on the basis of profit or loss-sharing.

Islamic bond market

The same year, HKMA approved the first Islamic banking window and the Dubai Financial Services Authority announced a joint regulatory initiative with the Securities and Futures Commission of Hong Kong to promote and facilitate the distribution of Islamic funds in Dubai and Hong Kong.

This March, the Hong Kong SAR government launched a two-month consultation on proposed amendments to the Inland Revenue Ordinance and Stamp Duty Ordinance to promote an Islamic bond market in the city. The proposed amendments seek to level the playing field for common types of sukuk (Islamic bonds) vis-a-vis their conventional counterparts in terms of profits tax, property tax and stamp duty liabilities.

“The consultation exercise seeks to gauge market views on the proposed legislative amendments to ensure they are practicable and able to meet the latest market development needs,” according to K.C. Chan, secretary, Financial Services and the Treasury Bureau (FSTB). “The legislative exercise would be conducive to the development of a sukuk market in Hong Kong. This will in turn help diversify our financial platform and consolidate our role as an international financial center.”

“We are close to finalizing the draft amendments,” an FSTB spokesperson adds. “Our current plan is to introduce the amendment bill into the Legislative Council in the legislative year 2012-13.”
Like MAS, HKMA too is working to develop an Islamic finance platform in Hong Kong.

“Our efforts include putting in place necessary infrastructure, encouraging product development, raising market awareness of Islamic financial products and strengthening cooperation with other Islamic financial markets,” the spokesperson adds. “We have been supporting the government in its work on (the) legislative exercise to amend and clarify the tax laws.”

Pending implementation of these amendments, the government has put in place administrative mechanisms for granting tax exemption and stamp duty remission in relation to sukuk issuance on a case by case basis, she adds.

The government has also conducted a study on the legal, regulatory and tax regimes in Hong Kong to ascertain whether a sukuk market could be accommodated in the existing framework.

“The findings suggest there are no fundamental legal and regulatory obstacles to sukuk issuance and transactions in Hong Kong,” she says. “However, the more complex structures of sukuk may give rise to undue tax implications and tax uncertainty when doing so. Thus, changes or clarifications in the tax laws are needed. The government is now actively pursuing modifications to the tax regime to deal with these additional implications.”

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