regulatory framework and legal issues relating to islamic finance presentation by atiq s. anjarwalla...

Regulatory Framework and Legal Issues Relating to Islamic Finance

Presentation by Atiq S. Anjarwalla Anjarwalla & Khanna, Advocates

ALN (Africa Legal Network)Kenya | Burundi | Rwanda | Tanzania | Uganda | Zambia

1St East and Central Africa Conference on Islamic Banking

• Legal Parameters

• Regulatory Framework

• Tax

• Documentation


Legal Parameters

• Applicable Law and Jurisdiction:

– The Judicature Act

– The Constitution

– The Kadhis’ Courts Act

3


The Judicature ActSection 3 of the Judicature Act (Chapter 8, laws of Kenya) provides for the following as sources of law in Kenya:

(a) the Constitution;

(b) all other written laws, including the Acts of Parliament of the United Kingdom;

(c) the substance of the common law, the doctrines of equity and the statutes of general application in force in England on the 12th August, 1897, and the procedure and practice observed in courts of justice in England at that date; and

(d) African customary law in civil cases in which one or more of the parties is subject to it or affected by it.


The Constitution

• Section 66(5) of the Constitution provides that:

“the jurisdiction of a Kadhi’s court shall extend to the determination of questions of Muslim law relating to personal status, marriage, divorce or inheritance in proceedings in which all the parties profess the Muslim religion”.

The jurisdiction of the Kadhi’s court does not, therefore, extend to commercial transactions like banking arrangements.


The Kadhis’ Courts Act• Section 5 of the Kadhis’ Courts Act (Chapter 11, laws of

Kenya) provides that:

“A Kadhi’s court shall have and exercise the following jurisdiction, namely the determination of questions of Muslim law relating to personal status, marriage, divorce or inheritance in proceedings in which all the parties profess the Muslim religion....”

• The effect of this section is twofold, it only applies:

(a) to matters relating to personal status, marriage, divorce or inheritance; and

(b) where all parties profess the Muslim religion.


Regulatory Framework

• Principal Acts of Parliament in Kenya that regulate the banking industry in Kenya:

(a) the Banking Act (Chapter 488, laws of Kenya); and

(b) the Central Bank of Kenya Act (Chapter 491, laws of Kenya).


Prohibited Business under the Banking Act

Banks in Kenya are prohibited under section 12(1) of the Banking Act from the following, to:

“…(a) engage, alone or with others, in wholesale or retail trade, including the import or export trade, except in the course of the satisfaction of debts due to it; and any trading interest carried on by an institution at the commencement of this Act shall be disposed of by the institution within such time as the Central Bank may allow….

...(c) purchase or acquire or hold any land or any interest or right therein except such land or interest as may be reasonably necessary for the purposes of conducting its business, or for housing or providing amenities for its staff, where the total amount of such investment does not exceed such proportion of its core capital as the Central Bank may prescribe…”


The Central Bank of Kenya Act

• The Prudential Guidelines on Prohibited Business under the Prudential Guidelines reiterate the position stated by the Banking Act under section 12 prohibiting banks from engaging in trade.


Saving Provisions• Section 53 (1) of the Banking Act states:

“The Minister may, by notice in the Gazette, exempt an institution from the provisions of section 12 or 14 subject to such conditions as the Minister considers necessary.”

• Section 52(1) of the Banking Act states:

“For the avoidance of doubt, no contravention of the provisions of this Act or the Central Bank of Kenya Act shall affect or invalidate in any way any contractual obligation between an institution and any other person.”


Islamic Finance Products Caught Under Certain Acts

• Ijara and the Hire Purchase Act (the “HPA”)

• Murabaha and the Sale of Goods Act (the SGA”)

• Murabaha and other Statutes, for example, the Energy Act


Ijara and the HPA• An Ijara can be classified in conventional terms as a leasing arrangement.

• The HPA defines a “hire-purchase agreement” to mean “an agreement for the bailment of goods under which the bailee may buy out the goods or under which the property in the goods will or may pass to the bailee”.

• Certain Ijara transactions could be deemed to be hire purchase transactions, and would accordingly require a licence issued under HPA to conduct such business.


Murabaha and the SGA• Islamic banks may be perceived as “sellers” under the SGA.

• The SGA places by operation of law a number of obligations on a seller of goods which include an implied warranty that the relevant goods are of merchantable quality and fit for their purpose.

• Passing of risk under the SGA.

• A bank undertaking a Murabaha transaction should therefore consider the application of the SGA and consider how to limit its exposure under the SGA.


Murabaha and other Statutes

• Implications of the Bank as “seller” of certain goods.

• Section 80 of the Energy Act provides that:

“…(1) a person shall not conduct a business of importation, refining, exportation, wholesale, retail, storage or transportation of petroleum, except under and in accordance with the terms and conditions of a valid licence; and

(2) a licensee shall not sell petroleum to a person for the purpose of exportation or for resale in Kenya unless that person has a valid exporters or retail licence under this Act…”


Tax Issues

• Stamp Duty

• Income tax

• Customs duty

• VAT

• Withholding tax

15


Stamp Duty

• Financing of immovable property:

– Diminishing musharakah or murabaha?


Income tax• Application of default damages for charitable purposes.

• Tax treatment of default damages.


Customs duty

• Who is importer and consignee on shipping documents?

• Who takes risk and obligation to clear goods and therefore pay custom duty?


VAT

• In the case of a Murabaha:

– Financing transaction or a contract for sale and purchase?


Withholding tax• Customer as bank’s agent pursuant to the Agency Agreement

in a Murabaha transaction.

• Income may be deemed to be in the hands of the customer as an agent of the bank.

• Would withholding tax be deductible?


Documentation

• Requirement to ensure that documentation accords with applicable common law principles and statutes of Kenya.

• Exclusion of relevant provisions of SGA.

• Inclusion of limitation of liability language with regard to the duties and obligations and liabilities of an agent .

• Consideration of appropriate dispute resolution forum arising from governing laws of documentation being Kenyan law.


THE END


regulatory framework and legal issues relating to islamic finance presentation by atiq s. anjarwalla...

Documents

islamic banking slide

banking act chapter

central africa conference

banking act banks

laws of kenya

st east

banking industry

banking arrangements