SHARIAH GOVERNANCE FRAMEWORK FOR ISLAMIC CO-OPERATIVE IN

MALAYSIA:

THE NEED FOR A CENTRALIZED SHARIAH ADVISORY BODY

Muhammad Issyam b Itam@Ismail

IIUM Institute of Islamic Banking and Finance

International Islamic University Malaysia

Assoc. Prof. Dr. Rusni bt Hasan

IIUM Institute of Islamic Banking and Finance

International Islamic University Malaysia

ABSTRACT

Islamic co-operative is one of the Islamic financial service provider in Malaysia similar to the

Islamic financial institutions such as Islamic banks and Takaful operators. Among the main reason

why Malaysia is spearheading the global Islamic banking and finance industry by having in place

a proper and well-designed legal and regulatory framework for the Islamic Financial Institutions,

which includes the area of Shariah governance. However, the Shariah governance framework for

the Islamic Co-operative in Malaysia is still in its infancy stage. This paper highlights the current

practice of Shariah Governance by the Islamic Co-operative sector with the aim to apply the

success formula of the Shariah Governance framework for the Islamic financial institutions in

Malaysia. The absence of a centralized Shariah Advisory body at Suruhanjaya Koperasi Malaysia

as the main regulator for the Islamic Co-operative leads too many issues and problems. Thus, it

strengthens the need to establish a central Shariah Advisory body at the regulatory level, similar

to the Shariah Advisory Council of Bank Negara Malaysia.

Keywords: Islamic Finance, Islamic Financial System, Cooperative, Shariah Governance

1.0 INTRODUCTION

Besides Islamic financial institutions such as Islamic banks and Takaful operators, the non-banking

financial institutions also involve in offering financial services and products based on Shariah

principles. Among them are Lembaga Tabung Haji, the institutions of Zakat and Waqf, and also

the Islamic Co-operatives.

The main aim of co-operative1 is to ease the financial burden of its members because most of its

members are those from low or middle class individuals. It contributes to the economic and social

development of the community because the co-operatives are involved in a broad range of

economic activities including banking, credit or finance and others.

In Malaysia, the collective power of cooperatives is very impressive. The data stated in National

Co-operative Policy 2011-2020 indicates that the number keeps growing year by year which

affects the increment of asset and revenue. In five years’ period, the number of co-operatives

increases approximately 9.4% annually on average. The increase shows that the co-operatives have

gained the trust of the people in Malaysia as a mechanism to improve their economic and social

condition.

The advancement of Islamic finance in the banking and finance industry, is also attributed to the

term ‘Islamic Co-operative’. But the first Islamic co-operative was established in 1977 namely

Koperasi Belia Islam Malaysia Berhad (KBI) was prior to the first Islamic commercial bank, Bank

Islam Malaysia Berhad, in 1983. KBI was the first co-operative that introduced Shariah-based

financing. As a result, Co-operative Act 1993 has been amended to include rules and guidelines in

accordance with Shariah principle.

Most of Islamic co-operatives focus on retail-based financial products such as Qard Hassan and

Bai Al-Inah2 to facilitate its members to buy house, car and others. However, the question is

whether the mechanisms by the Islamic co-operatives to ensure Shariah compliance in its services

1 According to the Co-operative Societies Act 1993, “co-operative” is defined as an autonomous organization which

voluntarily united to meet the needs and aspirations of the economic, social and cultural development through a jointly

owned company and democratically controlled as per registered under the Act. 2 Among Islamic Co-Operatives that offer Bai Al-Inah financing are Koperasi Muslimin Berhad, Koperasi UIAM,

Koperasi Pekerja Felda Malaysia and others.

and operations are sufficient. For example, in the case of Bai Inah, there are a lot of requirements

that must be fulfilled in order to render the application of Bai Al-Inah as valid in the eyes of Fiqh

Al-Muamalat3. This raise the issue of how Shariah compliance is being administered by the Islamic

co-operative since they also offer Islamic financial products and services. Thus, it is very important

to have in place adequate systems and controls to ensure Shariah compliance. This can be done

through a proper Shariah Governance system4. Thus, it is important to discuss the Shariah

governance framework in the context of Islamic Co-operatives.

The Shariah governance model in Malaysia is recognized by the global Islamic banking and

finance sector recognized globally for its comprehensiveness and effectiveness. In order to provide

similar assurance, there are efforts by the Islamic Co-operative sector to emulate the success,

especially with the issuance of Shariah Governance guideline (GP28) by Suruhanjaya Koperasi

Malaysia (SKM)5 and the Malaysian Co-operative Societies Commission Act 20076

However, both measures are facing with the issue of implementation as to whether it is fully

implemented by the Islamic Co-Operatives or by the regulator itself (SKM). Moreover, based on

the current framework, there is no centralized Shariah advisory body placed at SKM as the main

regulator for Islamic Co-Operatives in Malaysia. This situation will give rise to many issues in

implementing a proper Shariah governance practice for the Islamic Co-operative Sector.

2.0 RESE8ARCH OBJECTIVES

The objectives of this research is to analyze the existing Shariah Governance Framework for the

Islamic co-operative and to assess the relevancy of placing a central Shariah advisory body at

3 In this regard, Bank Negara Malaysia has produced a resolution on Bai Al-Inah (Implementation of Shariah Advisory

Council of Bank Negara Malaysia’s Resolution on Bai` `Inah, issued on 1 November 2013) which contains many

requirements that render financing facility based on Bai Al-Inah nearly impossible to be offered in Malaysia. One of

the requirement is the two contracts involved must be totally separated and it has to be evidenced in all documents.

This is actually reflecting the true application of Bai Al-Inah as required by the Shafie school of thought. 4 Shariah Governance refers to structures and processes adopted by an institution to ensure compliance with Shariah

rules and principles in its business operations. 5 Most of its requirements are adopted from the Shariah Governance Framework 2010 issued by Bank Negara

Malaysia. 6 Among the important provision with regard to Shariah Governance is Section 26 (1) where SKM is required to refer

to Shariah Advisory Council of Bank Negara Malaysia on issues relating to Shariah in the Islamic Co-operative’s

arrangement.

Suruhanjaya Koperasi Malaysia (SKM) as the regulator for the co-operative sector in Malaysia.

Then, comparison will be made between the Shariah Governance framework for the Islamic co-

operative and the Islamic financial institutions. Based on the findings, suggestion and

recommendation will be pointed out to improve the existing Shariah governance framework for

the Islamic Co-operative in Malaysia.

3.0 RESEARCH METHODOLOGY

The methodology adopted in this paper is the qualitative legal method where examination will be

made on the provisions provided by law and regulation. Comparison will also be made between

the Shariah Governance framework for Islamic financial Institutions and the Shariah governance

framework for Islamic Co-operative in order to identify which area that can be improved by the

Islamic Co-operative sector.

4.0 LITERATURE REVIEW

4.1 Islamic co-operative

Stressing on the importance of Shariah compliance in the context of the co-operative’s business

operation may come from the ‘spillover’ effect of the Islamic banking and finance sectors.

The term ‘Islamic Co-operative” gain trending but the concept has a traditional presence. A

seminar entitled "Cooperation in Islamic Society" was held in 1978 at the Cooperative College of

Malaysia, Petaling Jaya. The seminar concluded that the cooperative system in this country should

be adjusted to the requirements of Islamic law. This is important given that most co-operatives

members in the country has a Muslim majority (Samad, R. R., & Shafii,n.d). As a result, there

were many co-operatives established with Islamic paradigm in place such as Islam Malaysia Youth

Cooperative (BIC), Cooperative Muslim Malaysia and Malaysia Koperasi Al-Hilal (Kohilal), and

others.

Besides compliance with Shariah principles, Islamic cooperatives are very much similar to non-

Islamic cooperatives. They are locally owned and the members are represented by the board of

directors and staff7. The features of Islamic co-operative as highlighted by Ismail and Said (2012)

and Buchori (2009) are as follows;

i) The policies and objectives must be in line with al-Quran, as-Sunnah, Ijma’ and other sources

of Islam.

ii) The capital used in business must be agreed by all members.

iii) All of members agreed on management and operation of the co-operative and delegate certain

members to perform activities of the company.

iv) Profit and loss proportions are based on shares and fees contributed.

v) Institution of zakat, infaq, sadaqah and waqf are functioning well.

vi) Admit the profit-oriented motive as long as Shariah principles are strictly followed.

vii) Acknowledge freedom of business and common rights.

4.2 Regulatory Framework for Islamic Co-Operative in Malaysia

The main regulator for Co-Operative and Islamic Co-Operative in Malaysia is Suruhanjaya

Koperasi Malaysia (SKM). It is an entity incorporated on January 1, 2008. SKM was formerly

known as the Co-operative Development Department of Malaysia. SKM is a statutory body under

Ministry of Domestic Trade, Cooperatives and Consumerism.

The main regulations for Islamic Co-operative is the Co-operative Societies Act 1993

(Amendment) 2007 and Malaysia Co-operative Societies Commission Act 2007 [Act 665].

The latest amendment brought forth the Malaysia Co-operative Commission to the Co-operative

Societies Act 1993 (Amendment) 2007 was deemed necessary to tighten the regulations and

7 However, it must be noted that being an Islamic Co-operative does not mean that the co-operative is registered as

‘Islamic Co-operative’. There is no categorization between whether it is an Islamic co-operative or not during the

registration of the co-operative. Thus, an Islamic co-operative only refers to the Co-operative carrying on activities

based on Shariah principle.

The term ‘Islamic Co-operative’ in this paper also exclude the Islamic Co-operative Bank such as Bank Kerjasama

Rakyat Malaysia Bhd (Bank Rakyat), Bank Persatuan Malaysia Bhd (Bank Persatuan) and Islamic Cooperative Bank

of Malaysia (ICBM). These Islamic Co-operative Banks are placed directly under the supervision of both Bank Negara

Malaysia and Suruhanjaya Koperasi Malaysia (SKM). Thus, the regulatory and Shariah governance framework for

the Islamic Co-operative Banks are different from the Islamic Co-operative referred by this paper.

provide better oversight of the movement (Manap & Tehrani, 2014). The amended Act came into

force on 1st January 2008 and the Department of Co-operative Development was replaced by

SKM. The objective of the Act is to promote the development of co-operative societies based on

the principles of honesty, trustworthiness and transparency and to contribute towards achieving

the socioeconomic objectives of the nation and related matters.

Figure 1: Regulatory framework for Islamic Coo-operative in Malaysia

However, there is no act that specifically govern the Islamic Co-Operative sector. In Islamic

banking and finance industry, the Islamic financial institutions are governed by a specific act which

is the Islamic Financial Services Act 2013. It provides specific requirements for the Islamic

financial institutions. The absence of a specific act or regulation for the Islamic cooperative may

triggers issue in cases where the current regulation may not in compliance with the Shariah

principle or may hinder the process of Shariah compliance8.

8 According to the Act, Islamic financing is defined as any credit facilities approved by the Shariah Advisory Council

of BNM and includes any transaction or any other transaction such as may be prescribed by the Commission.

COMPONENT

MAIN LEGISLATIONS

REGULATOR SURUHANJAYA KOPERASI MALAYSIA

Co-operative Societies Act 1993

(Amendment) 2007

Co-operative

Malaysia Co-operative Societies

Commission Act 2007 [Act 665]

There are also guidelines issued by SKM for the Islamic Co-operatives9. As of July 2016, there

are about 26 guidelines produced by SKM related to the whole operation and management of the

co-operative.

However, not all of these guidelines related to the Shariah compliance aspects of the Islamic co-

operative. For example, GP6, which is the guideline on the credit Services by Cooperative does

not put any barrier about the type of financing10 (SKM, 2009a).

Among the guidelines that has relation to the Shariah compliance nature of Islamic co-operative

are:

1. Guidelines on Islamic Financing by Co-operatives

2. Guidelines on Giving Control Financing Prudently

3. Guidelines for Giving Ibra '(rebate) Share-based Islamic Financing Purchase

4. Guidelines for Recruitment Special Savings and Loan Deposit or Acceptance

5. Guidelines for Recruitment Special Savings and Loan Deposit or Acceptance

6. Guidelines on Micro Financing Scheme by Cooperatives

7. Guidelines for Establishing, Features, acquire or establish subsidiaries

8. Guidelines on Credit Co-operative Federation

9. Co-operative Financial Statement Reporting Guidelines

10. Activity Guidelines Pawn Islam (Ar-Rahnu)

11. Shariah Governance Guidelines11

9 According to Section 86B of the Cooperative Societies Act 1993 (Amendment) 2007, the SKM may issue any

directives, guidelines, circulars or notices in relation to any provision of the cooperatives Act in the country from time

to time. 10 In other words, the financing can be conventional-based or Shariah-based financing. 11 Also known as GP28, this guideline will be the focus of this paper and will be discussed extensively in the later part

of this paper.

4.3 Shariah Governance Framework for Islamic Banking and Finance Sector in Malaysia

Shariah governance in Islamic finance in Malaysia is achieved through a two-tier Shariah

governance infrastructure comprising of two components, which are a centralised Shariah advisory

body known as Shariah Advisory Council (SAC) at Bank Negara Malaysia as the central bank of

Malaysia and the main regulator for the Islamic financial institutions in Malaysia, and secondly an

internal Shariah Committee formed at respective Islamic financial institution (IFI).

The role and functions of the SAC are derived from the Central Bank of Malaysia Act 2009. The

SAC is authorised to decide on any financial matters relating to Islamic business operations,

activities or transactions. As the highest Shariah authority in Islamic finance in Malaysia. The

SAC has been given the authority for the ascertainment of Islamic law for the purposes of Islamic

banking business, takaful business, Islamic financial business, Islamic development financial

business, or any other business, which is based on Shariah principles and regulated by Bank Negara

Malaysia. As the reference body and advisor to Bank Negara Malaysia on Shariah matters, the

SAC is also responsible for validating all Islamic banking and takaful products to ensure their

compatibility with the Shariah principles. In addition, it advises Bank Negara Malaysia on any

Shariah issue relating to Islamic financial business or transactions of Bank Negara Malaysia as

well as other related entities (BNM, n.d).

The Shariah Committee is also given a mandate to provide guidance to the respective IFIs

on Shariah matters. Their establishment is in accordance with the Islamic Financial Services Act

2013. BNM also issued the Shariah Governance Framework 2010 where it provides the duties and

responsibilities of the internal Shariah Committee in advising the respective Islamic financial

institutions on Shariah matter.

4.4 Models of Shariah Governance

Before discussing the current Shariah Governance framework for the Islamic Co-Operatives in

Malaysia, it is better to identify all of the models of Shariah governance practiced by the Islamic

finance industry. Then we can identify what type of model the Islamic Co-operative industry in

Malaysia is currently practicing and what is the best model that can be proposed to the Islamic Co-

Operative industry.

There are three main models of Shariah Governance that are being practiced across many

jurisdictions in Islamic finance industry, which are the centralized model, the laissez-faire or self-

regulation model and the hybrid model (Hasan & Sabirzyanov, n.d).

I. Centralised model.

For any sector, there is a government agency or authority that regulates and supervises that

sector. In Malaysia, the Islamic finance sector is governed by the central bank of Malaysia,

which is Bank Negara Malaysia (BNM)12. In this model, there is a central higher Shariah

advisory authority placed at this government agency or authority advising and supervising

the Islamic finance activities on macro level13. It obtains legal power through specific

legislations or government provisions, where the role and responsibilities of the central

Shariah authority are clearly stipulated by the regulations. Thus, its pronouncements and

decisions are binding on the Islamic financial institutions.

In this model, each of the Islamic financial institution also has to appoint their own Shariah

advisory committee to advise the bank on micro level. But in any cases, if that their

decisions or advices contradict with those by the central Shariah authority, the latter will

prevail. This model is practiced by countries such as Malaysia, Nigeria, Pakistan and

others. However, each country has their own processes, requirements and restrictions in

executing this model.

II. Laissez-faire or self-regulation model

This model is practiced by some of GCC countries14, countries with Muslim minority

population15 or jurisdictions which just recently adopted special legislation for Islamic

finance16. Unlike the centralised model, there is no central Shariah authority placed at the

regulator’s office. Each institution in the sector, whether required by the authority or by

their own initiative, appoint their own Shariah advisory body to advise their Shariah-based

12 As for the Co-Operatives, its regulator is Suruhanjaya Koperasi Malaysia (SKM). 13 Appointed by the government agency or authority. 14 Such as Saudi Arabia, Qatar, UAE and Kuwait 15 Such as UK, Singapore and USA 16 Such as some of the Commonwealth of Independent States (CIS) countries like Kazakhstan and Kyrgyzstan)

activities without subjecting to any decision or pronouncement with regard to Shariah from

other authority.

In other words, the Shariah advisory bodies of the institutions are acting independently in

advising and supervising the Shariah-based activities of their institutions. The numbers of

countries applying this model are more than the previous model. Among the reasons are:

I. No specific legislation that governs Islamic finance because it is not recognized as a

specific sector. Thus, it is treated as being the same with the conventional finance.

II. There are legislations on Islamic finance, but none on the Shariah governance

specifically. Thus, it is the institution’s own initiative.

III. The secular nature of a country which makes it difficult to establish a religious-based

body at the regulatory level.

IV. This model provides more flexibility and the institutions can rely on market discipline

and best practices.

V. Some authorities also require the institutions to comply with certain authoritative

standards such as standards by Accounting and Auditing Organization for Islamic

Financial Institutions (AAOIFI) or Islamic Financial Services Board (IFSB).

III. Hybrid model.

This model is unique to Bahrain. There is a Shariah advisory body placed at the Central

Bank of Bahrain, but their role is only to advise and supervise the central bank’s activities

relating to Islamic finance. This body has no power on the Islamic financial institutions

and not the highest authority when it comes to Shariah rulings. Each institution also need

to appoint their own Shariah advisory body where the institutions operate according to the

Shariah pronouncements of their own Shariah advisory body.

In terms of Shariah governance, the authority requires the Islamic financial institutions to

follow AAOIFI’s standard.

Based on the above models, the Shariah governance model practiced by the Islamic co-operative

sector today is the second model which is the Laissez-faire or self-regulation model. There is no

central Shariah advisory body placed at SKM17, but at the same time SKM also requires Co-

operatives that involves in Shariah based transactions or activities (i.e. Islamic Co-operative) to

appoint a Shariah Advisory board to advise on that matter.

The focus of this paper is to suggest that the current Shariah governance framework for the Islamic

Co-operative to be converted into the first model, which is the centralised model due to many

reasons. It will be discussed further in the next section.

5.0 ANALYSIS AND FINDINGS

5.1 SHARIAH GOVERNANCE FRAMEWORK FOR ISLAMIC CO-OPERATIVE IN

MALAYSIA

Shariah governance framework in the context of Islamic banking and finance in Malaysia has

already strengthened its foundation and has gained a lot of recognition from the global Islamic

banking and finance industry especially with the implementation of Shariah Governance

Framework 2010 and Islamic Financial Services Act 2013.

Following the success of Islamic finance industry, there were continuous efforts by the regulator

of co-operative to emulate the success. Firstly, amendment was made to the Co-operative Societies

Act 1993, where the role of Shariah Advisory Council of Bank Negara Malaysia is mentioned in

the amended Act. Secondly, is through the issuance of several guidelines significant to the Islamic

Co-Operative. The latest significant guideline produced by SKM is the guideline on Shariah

Governance (GP28) issued on 1st July 2015.

5.1.1 SHARIAH GOVERNANCE STRUCTURE FOR ISLAMIC COOPERATIVE

The Shariah governance structure for the Islamic co-operative is illustrated in figure 1. At the

regulatory level, there is no Shariah advisory body placed at SKM but SKM is required to consult

Shariah Advisory Council of Bank Negara in any Shariah arrangement conducted by the co-

17 However, SKM is required to refer to Shariah Advisory Council of Bank Negara Malaysia in certain situations as

provided by Malaysian Co-operative Societies Commission Act 2007. It will be discussed further in the next section.

operative and to issue directive based on the consultation. Whereas at the Islamic co-operatives

level, they are required to establish a Shariah committee as a mechanism to ensure Shariah

compliance in the business and operation of the Islamic Co-operative.

Figure 2: Shariah Governance Structure for the Islamic Co-operative

5.1.2 REFEFERENCE TO THE SHARIAH ADVISORY COUNCIL OF BANK NEGARA

Unlike BNM as the regulator for Islamic financial institutions in Malaysia which has the Shariah

Advisory Council (SAC) as the highest authority in Islamic banking and finance, such body or

authority is not present at SKM as the regulator of co-operative in Malaysia.

However, Section 26 (1) of the Malaysian Co-operative Societies Commission Act 2007

(MCSCA) states that SKM shall consult the Shariah Advisory Council of BNM on Shariah matters

relating to any co-operative business which is based on Shariah and may issue written directive in

relation to such business in accordance with the advice of the Shariah Advisory Council.

The above section explains the indirect relationship between SKM and the SAC of BNM. The

SAC of BNM can be considered as an external body required to be consulted by SKM in the above

situation.

Section 26 (2) also provides that Where in any proceedings relating to co-operative business which

is based on Shariah and is supervised and regulated by the Commission before any court or

arbitrator, any question arises concerning a Shariah matter, the court or the arbitrator, as the case

may be, may-

(a) take into consideration any written directive issued by the Commission pursuant to

subsection (1); or

(b) refer such question to the Shariah Advisory Council for its ruling.

The above section gives the court or arbitrator, in cases involving Shariah-based co-operative

arrangement, the option whether or not to take into account the written directive issued by SKM

or to refer such question directly to the SAC of BNM.

The question that might arise here is, giving the option may pose an issue in cases whereby the

court refuses to refer such matter to the SAC of BNM. Because the issue at hand is a complex

Shariah matters that must be decided by Shariah expert without which the court may interpret the

Shariah-based arrangement wrongfully. Such situation proven to be very costly as shown in the

decided cases of Islamic banking and finance18.

Whereas for similar situation in Islamic banking and finance industry, it is binding on the court or

arbitrator to refer to the rulings of SAC and to refer any question concerning Shariah matters in

Islamic financial business as stated in Section 56 of the Central Bank of Malaysia Act 200919.

18 Such as in Taman Ehsan Jaya Sdn Bhd & others [2009] 1 CLJ 491 case where the court interpreted wrongfully the

meaning of “do not involve any element which is not approved by the Religion of Islam” under Section 2 of the

Islamic Banking Act 1983. As a result, the BBA contract was declared as null and void. This decision however was

overturned by the Court of Appeal in Lim Kok Hoe case. 19 Section 56. (1) of the Central Bank Act 2009: Where in any proceedings relating to Islamic financial business before

any court or arbitrator any question arises concerning a Shariah matter, the court or the arbitrator, as the case may be,

Section 26 (3) also provides that any ruling made by the Shariah Advisory Council pursuant to a

reference made under paragraph (2)(b) shall, for the purposes of the proceedings in respect of

which the reference was made—

(a) if the reference was made by a court, be taken into consideration by the court in arriving

at its decision; and

(b) (b) if the reference was made by an arbitrator, be binding on the arbitrator.

5.1.3 ESTABLISHMENT OF SHARIAH COMMITTEE AT THE ISLAMIC CO-

OPERATIVES LEVEL

In 2015, SKM issued a guideline on Shariah governance for the Islamic Co-operative (also referred

as GP28). This guideline is issued under section 86B of the Co-operative Societies Act 1993 (Act)

to regulate cooperatives doing business or activity based on Shariah principle. Actually, most

contents of GP28 are similar with the Shariah Governance Framework 2010 (SGF)20.

The guidelines shall apply to cooperatives engaged in financial intermediation activities based on

Shariah principle involving the following activities21:

1) banking functions;

2) credit function;

3) financing; and

4) Ar-Rahnu

shall—

(a) take into consideration any published rulings of the Shariah Advisory Council; or

(b) refer such question to the Shariah Advisory Council for its ruling. 20 The Shariah Governance Framework 2010 (SGF) was issued by BNM by virtue of Section 29(2) of the IFSA, which

empower BNM to specify standards relating to Shariah governance. The issuance of Shariah Governance Framework

(SGF) in 2010 was to further strengthen the Shariah Governance of IFIs in Malaysia. SGF 2010 is be applicable to all

IFIs regulated and supervised by BNM.

SGF sets out the expectations on an Islamic financial institution’s Shariah governance structures, processes and

arrangements with the goal of ensuring that all operations and business activities are consistent with Shariah principles

at all times. 21 Paragraph 4 of GP28

The main component of GP28 which relevant to our discussion is the establishment of Shariah

Committee at the Islamic Co-Operative level. Any Co-operative carrying on business or activities

based on Shariah principle is required to establish a Shariah committees to advise the co-operative

on Shariah matters with regard to their business and operation22.

The Shariah committee23 can either be established as:

1) An internal Shariah Committee for a co-operative

2) A Shariah Committee for the whole group of co-operative

3) An external Shariah Committee24

To ensure the Shariah committee to function effectively, the composition of the Shariah committee

shall consist of at least three members25.

There is no clear relationship between the SAC of BNM and the Shariah Advisor appointed at each

co-operative. The question that may arise is which opinion or decision will be referred to in case

where there is a clash between the opinion or decision of SAC and the Shariah Committee in each

Islamic Co-operative. It may further lead to Shariah non-compliance event and creates confusion

among the members as to the activities of the cooperative.

22 Paragraph 5 of GP28 23 The qualification of the Shariah Committee based on GP28 are (most are similar to SGF 2010):

1) Shariah Committee member shall be a Muslim individual.

2) The majority of members in the Shariah Committee shall at least hold bachelor’s degree in Shariah, which

includes study in Usul Fiqh (the origin of Islamic law) or Fiqh Muamalat ( Islamic transaction/commercial

law) from recognised university.

3) the majority members of the Shariah Committee should be able to demonstrate strong proficiency and

knowledge in written and verbal Arabic, and have good understanding in Bahasa Malaysia and the English

language.

4) The Shariah Committee may comprise experts from relevant backgrounds such as finance and law, which

could support the depth and breadth of the Shariah deliberations. However, these members must not form the

majority of the Shariah Committee.

5) The Shariah Committee preferably shall comprise members of diverse backgrounds in terms of qualification,

experience and knowledge. 24 Which is recognized such as Islamic Banking and Finance Institute Malaysia (IBFIM) and International Shari’ah

Research Academy for Islamic Finance (ISRA). 25 Paragraph 20 of GP28

5.2 TOWARDS CENTRALIZING THE SHARIAH GOVERNANCE PRACTICE OF THE

ISLAMIC CO-OPERATIVES IN MALAYSIA

The Islamic Co-operative sector in Malaysia is currently practicing the Laissez faire or self-

regulation model of Shariah governance. Even though its legislation requires SKM to refer any

matters relating to Shariah to the Shariah Advisory Council (SAC) of BNM, such reference cannot

be considered as having a central Shariah advisory body at the regulator level, because SAC of

BNM is not appointed by SKM.

There are many reasons why it is very important to establish a central Shariah advisory body placed

at SKM which are:

i. The advantage of the Centralised model

Standardisation and harmonisation of practices is an important element in a particular industry

such as the financial institution and also the co-operatives. Variety of Shari’ah rulings differing

from one to another and sometimes contradictory to each other reduces certainty in the practice of

the Islamic co-operatives. Eventually it might cause confusion among stakeholders to the merits

and authenticity of the industry and also to the Shariah itself.

Thus, it is very important for the Islamic Co-operative industry to adopt the centralised model of

Shariah governance. It promotes consistency and certainty of rulings on any Shariah issues arises

in the activities and transactions of the Islamic Co-operatives. The model also reduces the

possibility of Shariah non-compliance risk which can affect negatively the confidence of the

members of Islamic Co-operative who expect.

Since the Shariah committee is appointed by the Islamic Co-operative, the issue of independency

cannot be avoided. By having a central Shariah advisory body placed at the regulatory level, it can

supervise all procedures and processes with regard to the Shariah Committee appointed by each

Islamic Co-operative, which includes matters pertaining appointment, resignation and termination

of Shariah Committee. Thus, the issue of favorability can be reduced such as employing Shariah

committee who will only issue decision and pronouncement favourable for the institution who

appoints them. The body also has the right for final approval of new products and services offered

by Islamic Co-operative and assures validity of Shari’ah pronouncements.

The centralised model also proven to be the key development of Islamic finance industry as

demonstrated by Islamic Finance Development Report 2014 (ICD, Thomson Reuters, 2013),

whereby Malaysia with its centralised Shari’ah governance model was rated the best jurisdiction

in Global Islamic Finance Development Indicator. Moreover, acknowledging that the expertise in

Shari’ah is relatively limited, the establishment of a central Shariah advisory body enables all

market players to benefit from the authoritative scholars and experts who sit at the board. At the

same time it may ease the burden on Shariah committee of the Islamic Co-operative as they can

anticipate the guidance from the body, especially when an Islamic Co-operative has a limited

Shariah governance capability due to their size and capital.

The main reason why Laissez Faire or self-regulation model is still being practiced in many

countries is because they have limited legal power due to the non-existent of a specific legislation

for Islamic finance or Shariah governance itself. Thus, establishing a central Shariah advisory body

at the regulatory level may not be possible in jurisdictions whereby Islamic finance is still at its

infancy stage, like the UK, Singapore etc. That is not the case in Malaysia because the relevant

authorities are very supportive in the development of Islamic finance.

ii. Limitation of a Co-operative

GP28 provides that the number of Shariah Committee for the Islamic Co-operative must be at least

three. But the question is whether such requirement is suitable for the small cooperative given their

limited capital and size. It is also very hard to find Shariah Committee with the prescribed

qualification, especially those who can commit their time and effort. Thus, the number must be

lessen taking into consideration the small Islamic co-operatives. This strengthen the idea of having

a central Shariah advisory body placed at SKM. Because if an Islamic Co-operative has a limited

capability in terms of Shariah governance, they can rely on the pronouncement and guideline

produced by the central Shariah advisory body.

iii. Suitability

It is stated in GP7 that the co-operatives need to refer to the book of ‘Shariah Resolution in Islamic

Finance’ produced by BNM. But, whether the resolution of SAC of BNM is suitable to the nature

of the Co-operative because the resolution by SAC of BNM is made looking at the nature and

complexity of the Islamic financial industry. Thus, SKM need to establish their own Shariah

Advisory body so that the body can supervise and make pronouncement based on the unique and

special feature of Islamic co-operative.

iv. Implementation of Regulation

Based on Section 26 (1) of the Malaysian Co-operative Societies Commission Act 2007

(MCSCA), the nature of reference to SAC of BNM on Shariah matters relating to any co-operative

business which is based on Shariah is binding26.

But the question is whether such reference has been put into practice by SKM.

For example, SAC of BNM has issued a guideline on Bay Al-Inah which the requirements provided

therein makes it quite impossible for the Islamic banks to offer products based on Bay Al-Inah27.

As a result, the number of products offered based on Bay Al-Inah are close to none.

However, that is not the case for the Islamic Co-operatives. Currently, there are many co-

operatives offer to its member financing services based on Bay Al-Inah. If SKM refers such matter

(the practice of Bay Al-Inah) to SAC of BNM, the latter would have at least required SKM to

follow same guideline and have it enforced towards all of the Islamic co-operative.

6.0 CONCLUSION

The Islamic banking and finance industry can be considered fully matured in Malaysia. It is time

for the regulator to shift their attention to the non-banking institutions so that they can reach their

full potential and as an added value to the current banking and finance products offered by the

26 Because the word used is “shall” which denotes the binding nature of the section. 27 Implementation of Shariah Advisory Council of Bank Negara Malaysia’s Resolution on Bai` `Inah, issued on 1

November 2013. One of the requirement is the two contracts involved must be totally separated and it has to be

evidenced in all documents. This is actually reflecting the true application of Bai Al-Inah as required by the Shafie

school of thought.

Islamic financial institutions. Islamic co-operative is a good prospect since it has already in place

a regulatory framework which can be improved further.

Having a central Shariah Advisory body at SKM as the regulator for the Islamic Co-operative

sector will be a good start in achieving this long term goal. The operation of the industry must be

supervised by a central Shariah advisory body to make sure that the industry is moving in the right

way, in terms of compliance with Shariah principle, despite the differences in processes and

procedures. If the integration between a central Shariah advisory body and Shariah Committee at

each Islamic Co-operatives can be made, it will lead to a conducive environment for a better

Shari’ah governance practice.

Islamic cooperative is also a component of the Islamic financial system. If the function of Islamic

co-operative can be improved by strengthening its regulatory framework, it can become another

piece of the ideal Islamic financial system that will promote financial stability and benefit the

financial consumer at every level.

7.0 REFERENCES

Al-Quran Al-Karim.

BNM. The New Shariah Governance Framework. Retrieved March 21, 2014 from

http://www.bnm.gov.my/files/publication/fsps/en/2009/cp03_003_whitebox.pdf.

Hasan, A., & Sabirzyanov, R. OPTIMAL SHARI’AH GOVERNANCE MODEL IN ISLAMIC

FINANCE REGULATION.

International Co-Operative Alliance (ICA). Retrieved March 21, 2014 from

http://ica.coop/sites/default/files/attachments/GDC Launch - English.pdf

Ismail, I. & Said, M. S. (2003). Pengenalan Koperasi. Maktab Kerjasama Malaysia. IFSB. (2009).

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Services.

Laws of Malaysia. (1993). ACT 502 Co-operative Societies Act 1993. Percetakan Nasional

Malaysia Berhad.

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AUTHOR’S PROFILE

Muhammad Issyam bin Itam@Ismail

Academic Trainee of IIUM Institute of Islamic Banking and Finance (IIiBF), IIUM

Master Student, IIiBF.

LLB (Civil Law) and LLBS (Shariah Law) from IIUM

Assoc. Prof. Dr. Rusni bt. Hasan

Lecturer, IIiBF

Shariah Advisory Council for Bank Negara Malaysia