Beyond Traditional Accounting By Muath Mubarak

Islamic fi nance began as a tiny component in the world’s financial market and has now grown into a strong and steady financial alternative for all who want to escape from the burden of Riba (interest). Having weathered the recent economic crisis, many Muslim and non-Muslim investors now look at Islamic fi nance positively, as an attractive pathway to achieve the optimum balance between yield and liquidity within the boundary of Shariah. As such, the Islamic finance industry is gaining wider market share and entering into a new territory day by day. Some countries are even contemplating becoming a hub for Islamic finance, as they now consider it a golden opportunity to build their own economies.

“...Never get bored with recording it, however small or large, up to its maturity date, for this is seen by Allah closer to justice, more supportive to testimony, and more resolving to doubt...” (Al Quran)

The above verse emphasizes the recording of all fi nancial transactions not only for individuals, rather for all institutions too. There are several Quranic verses which are related to accounting, even on the method of dealing with debtors and creditors, which appeared 1400 years ago. Accounting itself can be described in simple terms as the science of recording, measuring and reporting of economic events or activities for interested parties (internal or external).

Over a period of time, radical changes in the business environment and more complex business transactions have led international bodies to develop various standards. These standards will improve the comparability and understandability of financial statements as it will facilitate the ease of interpretation and comparison of financial accounts from different jurisdictions. It will also facilitate the credibility of fi nancial institutions.

But Islamic fi nancial institutions (IFIs) cannot adopt International Accounting Standards (IAS)/International Financial Reporting Standards (IFRS) as their sole accounting standards to follow and implement since these standards have been developed based on conventional fi nancial products which involves Riba (interest), Gharar (uncertainty), Maysir (speculation) and other prohibited activities such as dealing or investing in alcohol, pork, pornography linked business and transactions. Moreover, the term ‘bottom line’ in a conventional financial institution is to maximize fi nancial returns and minimize loss. 

In contrast, IFIs aim to maximize the performance of the underlying asset or project of the Islamic contract in order to ‘share’ the profit  and loss between equity holders and investors. There was an era where IFIs were compelled to prepare two sets of accounts. One was to satisfy country’s law (regulatory requirement) and the other one was as per Shariah principles. This requisite has been replaced with the existence of Accounting &

Auditing Organization for Islamic Financial Institutions (AAOIFI) standards for accounting, auditing, Shariah, governance and ethics for IFIs.

Currently AAOIFI standards are mandatory in more than 10 jurisdictions, and it also has been adopted as guidelines or basis for national standards in some other jurisdictions. This clearly indicates the increasing acceptance and recognition by countries of global standard setting bodies.

IFIs require separate accounting standards because theirs are different in the following manner:

• Islamic banking is trade based while conventional banking is based on the loan contract
• The main Islamic income base is profi t and conventional income is based on interest
• Determines the rights and obligations of all interested parties in accordance with the principles of Shariah
• Reports useful information to users, thus enabling them to make legitimate decisions in their dealings with Islamic banks
• Additional ethical dimensions
• Honesty and transparency (not merely based on business ethics rather based on the religion)
• Adopt social responsible business policies and practices as per Islam
• Separate reporting required on Shariah compliance from Shariah supervisory boards

Although Islamic finance has proven to be ground breaking, with worldwide impact, there are issues and critical challenges to be sought which go beyond traditional accounting. For example, there is a dearth of Shariah scholars with in-depth knowledge of fi nancial products, technology, banking and fi nance. In order to prove that Islamic fi nance is a solutions provider for economic ills, some we have recently experienced during the global financial crisis, the entire industry should look beyond accounting and recording for solutions. But, from a global fi nancial market perspective, integration with the global norms, standards, and best practices of conventional fi nance can still be Shariah compliant to follow and adopt.

Muath Mubarak

Coordinator - Financial Control & Strategic Planning

Barwa Bank, Qatar

Email: muath2015@gmail.com

Muath lectures on various Islamic banking and fi nance topics at First

Global Knowledge Centre, Colombo, Sri Lanka.

This article was published by Red Money in IFN on 4-Aug-2010

IFRS for merger of Islamic Accounting Standards

The proponent of the International Financial Reporting Standards (IFRS) will be in talks with Islamic finance authorities this year and will be ready to modify the existing system to accommodate Islamic finance standards.

According to Robert Garnett, board member of International Accounting Standards Board (IASB), there may be "slight differences" but they can be resolved through critical judgment.

"We have to embrace all financial products so we will need to change our standards," Garnett told Emirates Business on the sidelines of the IFRS breakfast briefing in Dubai.

"To converge with Islamic finance standards we need to have some detailed discussions with AAOIFI (Accounting and Auditing Organisation for Islamic Financial Institutions) so we can have a better understanding of their concerns and how we can accommodate those within a revised IFRS," he added.

Garnett, who is also the Chairman of the International Financial Reporting Interpretations Committee (IFRIC), said he plans to start the dialogue this year and looks forward to having a convergence despite some differences.

"I hope they can be converged, we all live on the same planet," he said. "Islamic financial products have been around much longer than the IASB. It's quite a daunting task but it's more than just intellectual challenge. It is important for the global markets that we bring ourselves together."

Paul Koster, Chief Executive of DFSA, said it is helpful that the two standards be converged as Islamic finance already plays a significant part in the global economy. Citing a report from Moody's and RBS, he said the Islamic finance industry is set to grow from $700bn (Dh2,571bn) to $4trn by 2013 and despite the crisis Islamic banking is still projected to grow by 15-20 per cent annually. "AAOIFI accounting standards have come about because of some unique requirements of the Islamic financial institutions," Koster said, adding there has been a limited attention given to AAOIFI at a time when convergence is taking place.

"We should remember AAOIFI standards were not intended to fully replace IFRS but merely cover those standards and transactions that IFRS does not," he said. "I think it is true to say in most cases the differences between IFRS and AAOIFI are more apparent than real. There are a few substantive differences such as when the term interest is used."

IFRS, which is currently required for all domestic listed entities in 85 jurisdictions and allowed in 113 jurisdictions, is developed by the IASB in London in collaboration with the Financial Accounting Standards Board (FASB) and other global accounting standard-setters.

As a principles-based system, IFRS can allow issuers to reflect the economic substance of transactions that may be unique to their industry, compared with a prescriptive, rules-based system such as the US' Gaap.

The IFRS and the Gaap are expected to converge in 2014 but prior to that, the IASB would first attempt to harmonise the two standards.

"We have plans to do that – the harmonisation of Gaap and IFRS before converging to a single standard – by 2011. We have started that way back in 2002. We plan to bring closer all the major aspects of IFRS and Gaap," Garnett said.

He said they are on track to meeting the 2014 convergence target and is looking at a single adoption date for all firms. "The US Securities and Exchange Commission (SEC) is going to take a decision in 2011, and part of that decision is going to be on the extent to which we have to converge our standards." 

The IASB is planning to increase the number of its board directors from 14 to 16 in 2012, and the board hopes by that time, the region will be represented. "We are increasing the board of directors and one of the reasons is to allow opportunity for regional representation on the board itself," he said.

Link: http://www.business24-7.ae/Articles/2009/4/Pages/18042009/04192009_5ae5bf647f4e46428e694dc436d437b6.aspx