Is accounting a mere technical
matter or is there any question of ideology or value judgment? In other words,
is an accounting system followed by the conventional bank compatible to Islamic
Shariah or is it necessary for Islamic banks to design their own
accounting system? As we know Islam is a way of life where ends does not justify
means rather both ends and means should be justified. Islam has its own
objectives and the ways and means to achieve those objectives. Like all others
spheres of life in the banking sector Islamic scholars have developed their own
banking system that differs from conventional banking system both in terms of
philosophy and operational mechanism. Undoubtedly the accounting system is a
very technical matter but not without any principle or philosophy. So, the
principles and philosophy of the accounting system of an interest-free bank
should not be as that of a conventional bank.
1.
Objectives of Financial Accounting for Islamic Banks
There are two approaches in developing objectives and concepts of financial
accounting for Islamic banks:
a)
The first
approach is to deduce such objectives and concepts from the Shariah. In
this way we can establish the objectives of Islamic accounting based on the
principles of Islam and then consider these established objectives in relation
to contemporary accounting thought.
b)
The second
approach is to start with objectives established in contemporary accounting
thought, test them against Islamic Shariah, accept those that are
consistent with the Shariah and reject those objected by the
Shariah.
From among these two mutually
exclusive alternative approaches of establishing objectives for Accounting and
Auditing Organization for Islamic Financial Institutions have decided to adopt
the second approach.
Although there is a large degree of
similarity between the proposed objectives for financial accounting for Islamic
banks and those developed by Western accounting professional bodies, the former
require the provision of additional information regarding the compliance of
Islamic banks and financial institutions with the Shariah doctrines in
their business transactions. Furthermore, it is proposed that financial
accounting for Islamic banks should provide information to assist in separating
prohibited earnings which occur advertently or inadvertently, if any, and to
verify that such earnings have been utilized for charitable causes.
The objectives of financial
accounting for Islamic banks may be described as follows:
a)
To determine
the rights and obligations of all interested parties, including those rights and
obligations resulting from incomplete transactions and other events, in
accordance with the principles of the Islamic Shariah and its concepts of
fairness, charity and compliance with Islamic business values;
b)
To contribute
to the safeguarding of the Islamic bank's assets, its rights and the rights of
others in an adequate manner;
c)
To contribute
to the enhancement of the managerial and productive capabilities of the Islamic
bank, encourage compliance with its established goals and policies and, above
all, compliance with Islamic Shariah in all transactions and events;
and
d)
To provide,
through financial reports, useful information to users of these reports, to
enable them to make legitimate decisions in their dealings with Islamic
banks.
2.
INFORMATION FROM financial reports
Financial reports, which are
directed mainly to external users, should provide the following types of
information:
a) Information about the Islamic
bank's compliance with the Islamic Shari'ah and its objectives, and to
establish such compliance; and information establishing the separation of
prohibited earnings and expenditures, if any, which occurred, and of the manner
in which these were disposed of;
b) Information about the Islamic
bank's economic resources and related obligations (the obligations of the
Islamic bank to transfer economic resources to satisfy the rights of its owners
or the rights of others), and the effect of transactions, other events and
circumstances on the entity's economic resources and related obligations. This
information should be directed principally at assisting the user in evaluating
the adequacy of the Islamic bank's capital to absorb losses and business risks;
assessing the risk inherent in its investments and; evaluating the degree of
liquidity of its assets and the liquidity requirements for meeting its other
obligations;
c) Information to assist the
concerned party in the determination of Zakah on the Islamic bank's funds
and the purpose for which it will be disbursed;
d) Information to assist in
estimating cash flows that might be realized from dealing with Islamic bank, the
timing of those flows and the risk associated with their realization. This
information should be directed principally at assisting the user in evaluating
the Islamic bank's ability to generate income and to convert it into cash flows
and the adequacy of those cash flows for distributing profits to equity and
investment account holders;
e) Information to assist in the
evaluating the Islamic bank's discharge of its fiduciary responsibility to
safeguard funds and to invest them at reasonable rates of return, and
information about investment rates of returns on the bank's investments and the
rate of return accruing to equity and investment account holders; and
(f) Information about the Islamic
bank's discharge of its social responsibilities.
3. VARIOUS CONCEPTS OF
ISLAMIC Accounting
3.1 The Accounting Unit
The Islamic Fiqh states that
Waqf (trust foundation), mosque and Dar -al-maal (treasury) are
units of accountability. The recent Fiqh thinkers extend the application
of this concept to companies including an Islamic bank. It requires the
identification of those economic activities that are associated with the Islamic
bank and can be expressed as the bank's assets, liabilities, revenues, expenses,
gains and losses. In other words there will be a separation of entity between
Islamic banks and owners in terms of assets and liabilities as resolved by the
Council of the Islamic Fiqh Academy. "There is no objection in Shariah to
setting up a company whose liability is limited to its capital for that is known
to the company clientele and such awareness on their part precludes deception."
However, some activities with which the Islamic bank is associated are the
activities of other accounting units.
3.2 The Going
Concern
The Mudaraba and
Musharaka contracts are for specific periods. However, these are assumed
to continue until and unless one or all of the parties to the contract decide to
terminate the contract. Islamic banks are based on the Mudaraba contract
and are, therefore, assumed to continue unless there is evidence to the
contrary. Wealth is deviled by Islamic Fuqaha into money and goods. Again
goods are deviled into two categories, those that are available for sale and
those that are not available for sale. Examples of the second category of goods
are equipment and building, which are used for longer periods implying that the
entity would continue in operation. Financial accounting assumes the
continuation of such an entity as a going concern. This means that in preparing
the entity's financial statements it is assumed that there is no intention or
necessity to liquidate the entity. The major implication of this concept is that
the Islamic bank's activities, under this assumption, are assumed to represent
continuous streams and the task of financial accounting is to make the most
significant measurements possible of the continuous flow of the entity
activities.
The going concern concept has
special implications for an Islamic bank. Assumptions are made about the
continuity of the bank's activities in the future, including its investment
activities. However, the relationship between the bank and owners of investment
accounts may not continue until the liquidation of investments, when their
actual results become known. It may, therefore, be appropriate to measure
investments during the life of such investments at their cash equivalent values
in order to achieve equity in determining the rights of the holders of
investment accounts who wish to withdraw their funds before the actual
liquidation of investments.
3.3 The Periodicity
The periodicity concept means that
the life of the Islamic bank should be broken into reporting periods to prepare
financial reports that provide interested parties with information or directions
by which they can evaluate the performances of the accounting units.
Islam assigns certain rights to
money and wealth and associates those rights with periods of time to assure that
those rights are fulfilled on a timely basis. Zakat is an example of this
periodicity. Because, according to Islamic Shariah, Zakat is
payable on money and wealth after one year of its reaching the 'Nisab'.
As prophet (peace be upon him) has said, "No Zakah on wealth until a year
passes" (Daraqutni, Baihaqui). Keeping this concept in mind it is believed that
there is an obligation on Islamic banks to present periodic reports reflecting
their financial positions as of a given date and the results of their operations
during a specific period so that rights and obligations of Islamic banks and
those of interested parties could be focused.
3.4 The Stability of the Purchasing
Power of the Monetary Unit
As we know financial accounting has
to use the monetary unit of a particular currency to facilitate the expression
of the basic elements of financial statements. The use of a monetary unit as a
means of expressing the basic elements of the financial statements is a
prerequisite for measuring the financial position, results of operations and
other changes in the financial position of an accounting entity during a
specific period. But as we know the value of money is not stable rather it has a
tendency to be changed. A persistent increase in the general price level, which
is otherwise called inflation, decreases the value (purchasing power of monetary
units) and vice versa. In this context economists often question the use of
monetary unit as a measuring rod.
There are two schools of thought in
Islamic Fiqh with respect to the effect of changes in the purchasing
power of money on financial rights and obligations. One school of thought
believes that changes in the purchasing power of money should be taken into
account when setting financial rights and obligations. The other school of
thought believes that they should be ignored. For the purpose of financial
accounting, the stability of the purchasing power of the monetary unit is
assumed. Regarding the opinion of the first school of thought it can be said
that if the changes in the purchasing power of money are taken into account
during the setting of financial rights and obligations, then it is nothing but
to subscribe the concept of Riba. The Islamic Fiqh Academy reviewed this
issue in its meeting held in Kuwait in December 1988 and concluded that debt
should be satisfied by an equivalent number of monetary units regardless of the
changes, if any, in the purchasing power of the monetary unit to avoid any
implications of payment of Riba.
4.
Accounting Practices
4.1 Cash Accounting vs Accrual
Accounting
There are two types of accounting,
namely the cash method and the accrual method. Conventional banks follow the
accrual method of accounting. The cash accounting implies that only the incomes
and expenditure items that involves inflows and outflows of cash will be given
consideration. Accrual accounting, on the other hand implies any income or
expenditure accrued will be accounted for accordingly. One example may help to
understand the concept. In our country, conventional banks show in their income
statement all the interest accrued on their total investment as their income.
Experience indicates that only a part of the interest accrued is realized. In
this context one can easily raise the question of whether or not it is a
misrepresentation on the part of a conventional bank to treat the interest
accrued as income knowing fully well that only a part of it could be realized in
the end. Is it not fair to show only the part of the interest accrued as income
that could be realized? Islam is against any kind of misrepresentation of fact,
which is called window dressing in modern accounting. So, Islamic jurists are in
favor of cash accounting rather than accrual accounting. But as a matter of fact
Islamic banks all over the world do not follow the same accounting system. Even
one single bank practices both cash and accrual accounting for different
purposes, which is apparently contradictory. Islamic banks use different profit
recognition methods for the investment mechanisms, which they use in their
application of funds. For example, some Islamic banks recognize the profit
generated from Murabaha transactions as soon as the deals are concluded,
while other Islamic banks only recognize it either when the installment is due
or received in cash or when the full amount due is paid. This suggests that some
Islamic banks use cash accounting while others use accrual accounting for the
same type of transaction.
4.2 Treatment of Investment
Accounts
The treatment of investment
accounts (and fund under management) is another issue on which Islamic banks
differ. Some banks treat these accounts as an on-balance-sheet item. The
classification of investment accounts as a liability reveals the contractual
relationship of these accounts with the bank. Given that these accounts are
based on Mudaraba contracts and, hence, bear their own risk in the event
of loss, it is incorrect to classify them as a liability. Rather, each of these
accounts should be classified as a separate category by itself on the balance
sheet, as will be explained below.
There is no uniformity among those
Islamic banks that treat investment accounts as an on-balance-sheet item. Some
treat the returns on investment accounts as an expense deducted from the bank's
reserves, while in other Islamic banks they are treated as an appropriation of
income.
4.3 Reporting of Social
Services
Islamic banks are also divided on
the manner of reporting their social services. Some banks issue a statement of
the Qard fund (for good faith loans) and /or a statement of the
zakah fund showing the amounts that the bank allocated to, or received
from, the public to be spent on social services and how these funds were
utilized. Other Islamic banks disclose in their annual report a lump sum that
they have allocated to these activities, while others do not disclose
information on these activities at all.
On the other hand, not all the
accounting policies used by some Islamic banks in the preparation of their
financial reports match with those advocated by generally accepted Western
accounting principles. For example, the Statement of Financial Accounting
Standards No. 115, Accounting for Certain Investment in Debt and Equity
Securities issued by the Financial Accounting Standards Board in the USA (May,
1993) requires that equity securities classified as trading securities should be
reported at fair value, with unrealized gains and losses included in earnings.
Islamic banks tend to measure financial assets at cost or the lower of cost or
market value and ignore unrealized gains. This is because if unrealized gains
are included in earnings, unrestricted investment accounts would be entitled to
receive their share in these gains when earnings from mixed investments are
distributed between owners of these accounts and shareholders. Furthermore,
while financial accounting and reporting in the West is based mainly on accrual
accounting, the accounting practices of some Islamic banks tend to rely mainly
on a cash basis.
5. Accounting System of
Islamic Banks
In regard to the accounting system
of the Islamic bank, it is worth pointing out that the articles which govern
this system, as stated in the Bank's Law, are explained and /or detailed by the
bank's Board and Management, and that these explanations are subject to the
approval of the bank's Shariah Consultant, who must, in turn, elaborate
the Shariah standpoint on these explanations. Some contracts from
the bank's law are stated below:
5.1 Profits Realized From
Investments
a) Profits and losses
relating to financing and joint investment activities shall be separated in the
accounts from the other income and expenditure relating to other activities and
services offered by the bank. The same applies to the income and expenditure of
investments for specific purposes, in respect of which a separate account must
be kept for each particular project.
b) In regards to the
profit income connected with its financing and investment activities, the bank
may not adopt a method of accounting which takes into account estimated or
expected profits, but it must confine itself to the profits realized in
accordance with the nature of the operations which the bank finances, and in
accordance with the following rules:
i) In the case of individual
Mudaraba, the profits shall be realized on the basis of a final
settlement of accounts carried out between the bank and the party utilizing the
funds, such settlement should be based on actual receipt of the cash and
realization of the income and should be duly approved and accepted. The profits
of each year shall be entered in the accounts of the year in which such
settlement is carried out, whether in respect of the complete project or a part
of it.
ii) In the case of decreasing
participation, the profit or income shall be realized on the basis of the net
income derived from the project concerned until the end of the financial year,
even if such income is not in fact received in cash, as in such event, the
income realized shall be treated as money due but not received.
iii) In the case of purchasing for
others on a pre-agreed profit basis, the profit shall be realized upon the
conclusion of the subsequent contract and on the basis of the difference between
the actual cost and the price agreed upon with the party who ordered the
purchase.
iv) The various financing operations
shall be charged with all the direct expenses and costs arising there from, and
should not be charged with any part of the general overhead expenses of the
bank.
5.2 Apportionment of Joint
Investments
a) In order to
replenish the special account for meeting investment risks, the bank shall
deduct annually deducts an amount equal to 10% of the net profits realized from
various investment operations during that year.
b) The amounts so
deducted annually are kept in a special account to meet any losses exceeding the
total profits derived from investment in that year.
c) The
deduction of such percentage should be stopped as soon as the accumulative
balance of this account reaches twice the paid-up capital of the Bank.
5.3 Distribution of Profit Between
Shareholders and Investment Account Holders
There are two differing aspects
regarding the distribution of profits and losses between shareholders and
investment account holders of an Islamic bank:
a) Should investment accounts share in all types of revenues and
expenses of the bank, or
b) Should they only participate in the revenues and expenses
pertaining to their investments?
The latter expenses do not include
the administrative expenses of the bank, the external auditor fees or the
remuneration of the Board of Directors. Islamic banks tend to differ on the
revenues and expenses that determine the return of investment accounts. These
include, among other items, gains from foreign currency transactions, provisions
for bad and doubtful debts and depreciation charges.
5.4 Distribution of Profits between
the Bank and the Investors
a) The Board shall
announce by public notice the general percentage of profit to be allocated to
the general funds participating in joint investments. This announcement is to be
made at the beginning of the same financial year and not later than the end of
the first month of each year.
b) The bank, as joint
investor, is entitled to the remaining percentage after the deduction of the
amount allocated to the investors. The bank shall also be entitled to
participate in the profits of joint investments in proportion to the amount of
its own funds or the funds, which it is authorized to risk in joint
investments.
c) In determining the
funds participating in joint investment, priority shall be given to joint
investment deposits and to the holders of Joint Muqarada bonds. The bank
may not consider itself as a participant in financing from its own funds in
excess of the amounts utilized in financing over the total balances of the
investors.
The bank, as a joint investor,
shall bear any losses resulting from any cause for which it is legally liable,
including any cases where authority is exceeded or insufficient care or caution
is exercised by the members of the Board of Directors, the managers, employees
or workers of the bank. Insufficient exercise of care for which the bank is
answerable shall include any cases of fraud, a4buse of trust, collusion and
similar forms of misconduct which fall short of the standards of honesty
expected in the management of a joint venture operated by the bank.
Losses incurred which are not
attributable to misconduct involving the exceeding of authority or failure to
exercise care or caution shall be deducted from the total profits realized for
the year in which such losses are incurred. Any excess of losses over the
profits that were actually realized during that year shall be deducted from the
reserve account opened for covering the risks of investment.
If the total profits realized in
the year, together with the reserves accumulated from the previous year are not
sufficient to cover the losses incurred, the bank must carry out a comprehensive
assessment of expected profits and losses, based on market rates, from
operations which are financed by venture funds, which have not reached the stage
of final settlement by the end of the financial year. If the result of such
assessment indicates that the estimated profits are sufficient to cover the
excess loss, the bank must carry forward the excess loss so that it may be
covered from the proceeds of the expected profits when they are realized from
the operations include in the comprehensive assessment.
If, on the other hand, the
estimated profits are less than the excess loss, the bank may treat it as a loss
carried forward, provided that the amounts withdrawn from the joint investment
deposits and the joint Mudarada bonds shall be charged with a pro-rata of
the excess loss, depending on the type of the account in each case.
The Islamic legal consultant who is
appointed in accordance with the provisions of this law shall ascertain the
existence of a legal doctrinal (Fiqhi) basis to support the charging of
any loss resulting from joint investment operations to the bank.
In case of liquidation of the bank,
the depositors' rights shall be dealt with as follows:
a) The rights of
depositors in trust deposit accounts, and other deposited funds, which are not
intended for investment and participation in investment profits, shall be
settled first.
b) Next the rights of
depositors in joint investment accounts shall be settled in accordance with the
special conditions applicable to such accounts, as well as shall the rights of
the holders of joint Mudarada bonds, who shall receive the same
percentage as the depositors in joint investment accounts.
c) The rights of
depositors in specific investment accounts, and of the holders of specific
Mudarada bonds, shall be linked to the projects specified for each
investment, and they shall bear the risk of such specific investment.
d) The rights of
shareholders shall be settled on the basis of a distribution among them of the
remaining fund, in proportion to the shares held by each of them.
e) The balance of the
reserve account for covering investment risks shall be transferred, upon the
liquidation of the bank, to the account of the charity (Zakah) fund to be
spent for the purposes prescribed under the special law of the aforesaid fund.
5.5 Final
Accounts, Balance Sheet, Profit & Loss Accounts
The accounts of the Bank are maintained in accordance with banking accountancy
methods. The Final accounts shall be closed annually on the thirty-first day of
December of every year.
The auditors who are elected in
accordance with the provisions of the Articles of Association audit the Annual
balance Sheet and Profit-and-Loss Accounts annually, prior to their presentation
to the general meeting.
The Investment profits are
distributed to investment depositors and holders of Muqarada bonds during
the month of January of the following financial year.
The net profits accruing to the
bank which are not realized until the end of the financing year shall be
apportioned as follows:
a) 10% to the
compulsory reserve account, until the balance accumulated in this account
becomes equal to the capital of the Bank.
b) 5% to the
remuneration of the members of the Board of Directors accounts, to be
distributed among them in proportion to the number of meetings attended within
the limit prescribed in the Company's Law.
c) Any percentage the
Board may deem necessary to provide a suitable reserve to meet the various
liabilities, within a maximum limit of twenty percent of the net profits of that
year.
d) The balance of the
profits is distributed to the shareholders in proportion to the number of shares
which each of them holds.
6.
ACCOUNTING TREATMENT OF SOME SELECTED ISLAMIC MODES
6.1 Murabaha and
Murabaha to the Purchase Order
Measurement of asset value at
accosting by the Islamic bank: Concepts of Financial Accounting
for Islamic Banks and Financial Institutions stipulates that historical cost
shall be the basis used in measuring and recording the assets at the time of
acquisition. Therefore, the assets possessed by the Islamic bank for the purpose
of selling them on the basis of Murabaha purchase order shall be measured
at the time of their acquisition on an historical cost basis. In the cases where
the asset value declines below cost whether due to damage, destruction or from
other unfavorable circumstances, such decline shall be reflected in the
valuation of the asset at the end of each financial period.
In the case of Murabaha to
the purchase ordered who is not obliged to fulfill his promise: If the Islamic bank finds that
there is an indication of possible non-recovery of the costs of goods available
for sale on the basis of Murabaha to the purchase order who is not
obliged to fulfill his promise, the asset shall be measured at the cash
equivalent (i.e. net realizable) value. This shall be achieved by creating a
provision for a decline in the asset value to reflect the difference between
acquisition cost and the cash equivalent value.
Potential Discount to be Obtained
After Acquisition of the Asset
(a)
In cases where
the Islamic bank is likely, at the time of concluding the contract with the
client, to obtain a discount on the asset available for sale on the basis of
Murabaha or Murabaha to the purchase order, and the discount is in
fact received subsequently, such discount shall not be considered as revenue for
the Islamic bank; instead, the cost of the relevant goods shall be reduced by
the amount of the discount. Consideration should be given to the impact this
will have on both the profits of the current period and future deferred
profits.
(b)
The discount
may, however, be treated as revenue for the Islamic bank if this is decided by
the Shariah supervisory board of the Islamic bank. Such revenue shall be
recognized in the income statement.
Murabaha Receivables
Short-term or long-term
Murabaha receivables shall be recorded at the time of occurrence at their
face value. Murabaha receivables are measured at the end of the financial
period at their cash equivalent value. Thus, receivables are valued at the
amount of debt due from the customers at the end of the financial period less
any provision for doubtful debts.
Profits
Recognition
Profits of Murabaha or
Murabaha to the purchase order are recognized at the time of contracting
if the sale is for cash or on credit not exceeding the current financial
period.
Profits of a credit salewhich will
be paid for either by means of one payment due after the current financial
period or by installments over several future financial periods shall be
recognized by using one of the following two methods:
(a)
Proportionate
allocation of profits over the period of the credit whereby each financial
period shall carry its portion of profits irrespective of whether or not cash is
received. This is the preferred method.
(b)
As and when the
installments are received. This method shall be used based on a decision by the
Shariah supervisory board of the Islamic bank or, if it is required, by
the Supervisory authorities. (In both 2/4/1 and 2/4/2 above, revenues and costs
of goods sold shall be recognized at the time of concluding the sale contract,
subject to the deferral of profits in 2/4/2.)
Deferred Profits
Deferred profits shall be offset
against Murabaha receivables in the statement of financial
position.
Early
settlement with deduction of part of profit
Deduction of part of profit at the
time of settlement: If a client accelerates his
payment of one or more installments prior to the date specified for such
payment, the Islamic bank may deduct part of the profit to be agreed upon
between the Islamic bank and the client at the time of settlement. The deducted
amount shall be credited to the Murabaha receivable account and excluded
from the profit recognized in respect of the installments.
Deduction of part of the
profit after settlement
The same accounting treatment in
2/6/1 applies if the client accelerates his payments one or more installments
prior to the time specified for such payment and the Islamic bank did not allow
the client a deduction of part of the profit but asked the client to pay the
full amount and thereafter the Islamic bank reimbursed the client with part of
the profit.
Procrastination in
payment by, or insolvency of, the client
Procrastination:
If the
client is delinquent in paying his debt installments, then any additional amount
received by the Islamic bank from the client as a penalty (either by mutual
agreement or by court ruling) shall be treated according to what the
Shariah supervisory board of the Islamic bank deems appropriate either
as:
a) Revenue to the Islamic bank; or
b) An allocation to a charity fund.
Insolvency: If it becomes evident that the
client's non-payment was due to insolvency, then the Islamic bank cannot ask the
client to pay any additional amount by way of
penalty.
6.2 MUDARABA
Recognition of Mudaraba
capital at time of contracting
Mudaraba financing capital (cash or kind)
is recognized when it is paid to the Mudarib or placed under his
disposition.
If it is agreed that the capital of
a Mudaraba is to be paid in installments, than each installment is to be
recognized at the time of its payment.
If the conclusion of a
Mudaraba contract is contingent on the occurrence of an event in the
future or is delayed to a future time, and the payment of the Mudaraba
capital is conditional upon the occurrence of that event, then the
Mudaraba capital is to be recognized only when it is paid to the
Mudarib.
Mudaraba financing transactions are to be
presented in the Islamic bank's financial statements under the heading of":
Mudaraba financing." Mudaraba capital provided in the form of
non-monetary assets is to be reported as "non-monetary Mudaraba
assets."
Measurement of Mudaraba
capital at the time of contracting
Mudaraba capital provided in cash by the
Islamic bank is to be measured by the amount paid or the amount placed under the
disposition of the Mudarib.
Mudaraba capital provided by the Islamic
bank in kind (trading assets or non-monetary assets for use in the venture) is
to be measured at the fair value of the assets (the value agreed between the
Islamic bank and the client), and if the valuation of the asset results in a
difference between fair value and book value, such difference is to be
recognized as profit or loss to the Islamic bank itself.
Expenses of the contracting
procedures incurred by one or both parties (e.g., expenses of feasibility
studies and other similar expenses) are not considered as part of the
Mudaraba capital unless otherwise agreed by both
parties.
Measurement of Mudaraba
capital after contracting at the end of a financial period
Mudaraba capital is to be measured at the
time that the assets are provided to the Mudarib. However, any repayment
of the Mudaraba capital is to be deducted from the Mudaraba
capital.
If a portion of the Mudaraba
capital is lost prior to the inception of work because of damage or other causes
without any misconduct or negligence on the part of the Mudarib, then
such loss is to be deducted from the Mudaraba capital and is treated as a
loss to the Islamic bank. However, if the loss occurs after inception of work,
it shall not affect the measurement of Mudaraba capital.
If the whole Mudaraba
capital is lost without any misconduct or negligence on the part of the
Mudarib, the Mudaraba is terminated and the account is to be
settled with the loss being treated as a loss to the Islamic bank.
Recognition of the Islamic bank's
share in Mudaraba profits or losses
Profits or losses in respect of the
Islamic bank's share in Mudaraba financing transactions that commence and
end during a single financial period shall be recognized at the time of
liquidation. In the case of Mudaraba financing that continues for more
than one financial period, the Islamic bank's share of profits for any period,
resulting from partial or final settlement between the Islamic bank and the
Mudarib, shall be recognized in its accounts for that period to the
extent that the profits are being distributed; the Islamic bank's share of
losses for any period shall be recognized in its account for that period to the
extent that such losses are being deducted from the Mudaraba
capital.
If
the Mudarib does not pay the Islamic bank its due share of profits after
liquidation or settlement of account is made, the due share of profits shall be
recognized as a receivable due from the Mudarib.
Losses resulting from liquidation
shall be recognized at the time of liquidation by reducing the Mudaraba
capital.
The Mudarib shall bear the
losses incurred due to misconduct or negligence on his part. Such loss shall be
recognized as a receivable due from the Mudarib.
6.3
MUSHARAKA
Recognition
of the Islamic Bank's Share in Musharaka Capital at the Time of
Contracting
The Islamic bank's share in
Musharaka capital (cash or kind) is to be recognized when it is paid to
the partner or made available to him on account of the Musharka. This share
shall be presented in the Islamic bank's book under a Musharaka financing
account with (in the name of the client) and it should be included in the
financial statement under the heading "Musharka
financing".
Measurement of Islamic Bank's Share
in Musharaka Capital at the Time of Contracting
a)
The Islamic
bank's share in the Musharaka capital provided in cash is to be measured
by the amount paid or made available to the partner on account of
Musharaka.
b)
The Islamic
bank's share in Musharaka Capital provided in kind (trading assets or
non-monetary assets for use in the venture) is measured at the fair value of the
assets (value agreed between the partners), and if the valuation of the assets
result in a difference between fair value and book value, such difference shall
be recognized as profit or loss to the Islamic bank itself.
c)
Expenses of the
contracting procedures incurred by one or both parties (e.g., expenses of
feasibility studies and other similar expenses) should not be considered part of
the Musharaka capital unless otherwise agreed by both
parties.
Measurement of the Islamic Bank's
Share in Musharaka Capital After Contracting at the End of a
Financial Period
a)
The Islamic
bank's share in the constant Musharaka capital is to be measured at the
end of the financial period at historical cost (the amount which was paid or at
which the asset was valued at the time of contracting)
b)
The Islamic
bank's share in the diminishing Musharaka is to be measured at the end of
a financial period at historical cost after deducting the historical cost of any
share transferred to the partner (such transfer being by means of a sale at fair
value). The difference between historical cost and fair value shall be
recognized as profit or loss in the Islamic bank's income statement.
c)
If the
diminishing Musharaka is liquidated before complete transfer is made to
the partner, the amount recovered in respect to the Islamic bank's share shall
be credited to the Islamic bank's Musharaka financing account and any
resulting profit or loss, namely the difference between the book value and the
recovered amount, Is to be recognized in the Islamic bank's income
statement.
d)
If the
Musharaka is terminated or liquidated and the Islamic bank's due share of
the Musharaka capital (taking account of any profits or losses) remains
unpaid when a settlement of account is finalized, the Islamic bank's share shall
be recognized as a receivable due from the partner.
Recognition
of the Islamic Bank's Share in Musharaka Profits or
Losses
a)
Profits or
losses in respect of the Islamic bank's share in Musharaka financing
transactions that commence and end during a financial period is to be recognized
in the Islamic bank's accounts at the time of liquidation.
b)
In the case of a
constant Musharaka that continues for more than one financial period, the
Islamic bank's share of profits for any period, resulting from partial or final
settlement between the Islamic bank and the partner, is to be recognized in its
accounts for the period in which the profits are distributed. On the other
hand, the Islamic bank's share of losses for any period is to be recognized in
its accounts for that period to the extent that such losses are being deducted
from its share of the Musharaka capital.
c)
Item 4(b) also
applies to a diminishing Musharaka, which continues for more than one
financial period, after taking into consideration the decline in the Islamic
bank's share in Musharaka capital and its profits or losses.
d)
As implied by
item 3(d) above, if the partner does not pay the Islamic bank its due share of
profits after liquidation or settlement of account is make, the due share of
profit is to be recognized as a receivable due from the partner.
e)
If losses are
incurred in a Musharaka due to the partner's misconduct or negligence,
the partner shall bear the Islamic bank's share of such losses. Such losses are
to be recognized as a receivable due from the partner.
f)
The Islamic
Bank's unpaid share of the proceeds as mentioned above in items 3(d) and 4(d),
is to be recorded in a Musharaka receivables account. A provision is to
be made for these receivables if they are doubtful.
7. THE MIS SYSTEM AND THE
ELECTRONIC BANKING
Banking services are probably the
fastest growing services of the modern world. The industrial revolution was a
milestone for the development of the banking industry. With the acceleration of
the pace of industrialization throughout the world the growing need for
financial intermediation was a reality. However, until World War-II there was no
real development in this sector. After the World War was over, the banking
industry played a vital role to rebuild the war-damaged countries. Japan, in
particular became a unique example in this regard. The banking industry in Japan
took the initiative to erect the modern industrialized Japan. But still no
significant innovation was found until 1960. By February 1961, a key banking
innovation occurred - the introduction of the first effective negotiable
certificate of deposit (CD). The instrument was introduced by First National
City Bank of New York (the present day Citicorp). The term "Liability
Management" came into the banking arena after this innovation, because it
permitted banks to purchase funds and thereby manage their liabilities. Since
then, numerous financial and technological innovations have been introduced on
an ongoing basis. While the 1960s and 1970s were a time of growth in the banking
industry, the greatest number of innovations and changes (e.g. mergers,
consolidations and failures) occurred over the past two decades.
7.1 Innovations of Financial
Services and Emergence of Electronic Banking
Technological innovation in the
banking sector has been manifested primarily in the form of electronic funds
transfer system (EFTS or EFT systems). The basic components of EFTS are
automated teller machine (ATMs), point of sale (POS) terminals and the automated
clearinghouse (ACHs). Less visible than EFT, but more important to a bank's
ability to operate efficiently is the bank's "back office technology" (i.e. its
computer operating systems). Banking has come a long way from the times of
barter trading. Modern banking uses three forms of transferring value: physical
currency, checks, and in an age of technology, electronic fund transfers.
However, checks are by far a dominant means of payment, but that may change in
the years ahead.
7.2 Structures and Classification
of Electronic Banking
The concept of electronic banking
system is a computer-based technology for rendering banking services. Electronic
banking systems can be broadly divided into two categories, namely back-office
electronic banking and front-office electronic banking services. Since inception
of electronic banking, it has gone through a comprehensive evolution process.
The evolution of electronic banking, both front and back office systems can be
grouped into three categories; first, second and third generation electronic
banking.
First Generation electronic banking rendered back
office services like ledger keeping, cash management and so called Management
Information Systems. The front office services were cash dispensers or
ATMs.
The Second
Generation of
electronic banking got some extended back-office services like transaction,
processing (off-line), ACHs, record keeping and fund transfer systems. The
front-office services that evolved during this phase were telephone bill
payment, point-of-sale (POS) systems, check verification, ATMs and
authorization.
The present status of the
electronic banking system could be termed The Third Generation of
electronic banking. This era of electronic banking enjoys back office services
like on-line transaction processing, centralized processing at country level,
internet banking, and inter bank transaction processing to name a few. The
front-office services of this era are automatic fund transfer, on-line banking,
electronic home banking, and direct deposit, check truncation, lock box check
truncation, electronic fund transfer electronic check representation and
internet banking
Banks to provide higher quality
financial services to their customers are using information
technology.
7.3 Status of Electronic Technology
in the Banking Sector of Bangladesh
Bangladesh Bank, the "Central Bank"
of Bangladesh, has installed computerized MIS (Management Information
Systems) very recently to ensure the efficient flow of information among its
different locations throughout the country. However, it should be noted that it
has yet to get its MIS fully automated to get the desired performance. The MIS,
within the bank, is mainly performed by the Computer Department. Data which are
collected from different banks and primary sources are stored in the bank's
database. This data bank is used for the following purposes:
i) to conduct research
on various issues relating to banking and finance;
ii) to determine trends in
different aspects of banking operations;
iii) to publish articles in
journals, monthly bulletins, annual reports and other information;
iv) to disclose all types of
information to the top management of the bank; and
v) to supply the Government with
necessary information to facilitate the formulation of policy regarding
money and capital markets.
In Bangladesh nationalized, private
and foreign commercial banks are engaged in business. Most of the local banks
have limited computer systems. All the banks have their own computer department
in the main office location and have added the highest volume branches to the
network. Unfortunately, most of the banks are not serious about the utilization
of high information technology for collecting information, processing, analyzing
and implementing. The use of computer technology in the local banks is still in
an infant stage. In a limited sphere they are installing modern technology.
Network system between the Bangladesh Bank and various banks' head offices have
not yet been developed. In most of the local banks personal computers are used
on a stand-alone basis. Due to lack of inter-branch communication,
customers are not receiving the quality service that they deserve. Foreign banks
are already using computerized banking systems. In fact, some of the foreign
banks have already introduced 24-hour withdrawal facilities to their customers.
There is a positive attitude among
the top management of the local nationalized and private commercial banks
towards the modernization of their information systems, but the success is not
yet realized as most of the data is being collected on the basis of a batch
processing system. Sonali Bank is making an effort to develop an integrated
computerized system through creating networks with their 68 zonal offices and 7
GM offices (outside Dhaka). Currently, information is provided to management
from the research and planning department, central accounts department,
international division, audit and inspection department, branches department,
and various other parts of the bank. However, the research and planning
department, on a monthly basis, submits statistical information about Sonali
Bank to the top-level management, which is mostly collected through disks or in
a prescribed format. Similarly, the computer division of Agrani Bank collects
information on a prescribed format to submit to their management. The Agrani
Bank tried to link a branch on a test basis in Dhaka City through a network
system from Head office, but the experience was not a success due to a
disruption in the telecommunication system. Currently Agrani Bank has created a
MIS cell as a means of utilizing technology.
The MIS department of Janata bank
collects information from 64 regional offices and other departments and
divisions through disk. It has also made continuous efforts to strengthen its
MIS by creating a network system. Rupali bank has its own MIS department, but is
not very effective and efficient in utilizing high information technology.
Uttara bank has established the MIS and computer department but it is still
using a blend of manual and computer based systems. Development banks and
financial institutions like BKB, BSB and BSRS are still lagging behind the
utilization of modern technology based information management.
Most of the foreign banks are
trying to use computerized systems in order to take advantage of the superior
technology available to provide quality customer service better information to
management. Foreign banks, through the successful use of a global network, have
increased the timeliness and accuracy of information, benefiting its customers,
its employees and also its management. Hongkong Bank, ANZ Grindlays Bank and
Standard Chartered Bank are using more or less an integrated network. They are
collecting information through on-line systems and providing network links to
their valued customers. American Express Bank is also using a proprietary
network system. Citicorp, uses technology to gather relevant information about
the bank's operations at month end, organizes the data and sends it to it's home
office via electronic media. Finally, Habib Bank Ltd. has only one branch that
collects information and sends reports to its Head Office on monthly
basis.
7.4 Need for Using Modern
Technology and Appliance by an Islamic Bank
In today's advanced society it is
obvious that technology is needed to render better service to bank customers.
Islamic banking is no exception. Like any other bank an Islamic bank can also
enjoy the following advantages by introducing modern machines and appliances in
its accounting and other systems.
a)
By introducing
a modern system in accounting, Islamic banks can improve their customer service.
In a traditional accounting system a manager has to apply a time consuming
process, which involves a number of employees to supply the required information
to a valued customer. In contrast, the same customer could be served with a
modern system simply with the touch of a button Cashing a check would be an
easier transaction for customers of the bank.
b)
By introducing
an electronic banking system an Islamic bank can be more competitive. It should
not be forgotten that this is the age of electronic service. In this context,
the sooner the Islamic banks adopt modern technology, the better for the
sustainability and development of Islamic banking as an alternative banking
system.
c)
Presence of a
well-designed MIS with fully electronic banking system will enrich the research
department of Islamic banks. Research information on various banking operations
will be much easier to generate.
d)
A
well-constructed MIS will be able to provide management with updated information
on a timelier basis. Top management will be in a position to evaluate the
performance of the bank both at micro and macro level without depending on the
manual systems.
e)
Electronic
banking will save time for both bank management and the clients. Initially it
may increase the transaction cost but with the passage of time the cost of
transaction will go down.
f)
A full MIS
supported by electronic banking will uphold the image of Islamic banks. The bank
will be more attractive to the modern clients.
