Accounting and Auditing Standards for Islamic Banks1

8/6/2019 Accounting and Auditing Standards for Islamic Banks1

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SHARI AH AUDITING: BETWEEN THE IDEALS AND REALITIES

7 th DISTANCE LEARNING PROGRAM

ISLAMIC DEVELOPMENT BANK , JEDDAH

Assoc. Prof. Dr. Shahul Hameed Hj. Mohamed IbrahimKulliyah of Economics and Mangement SciencesInternational Islamic University Malaysia

Al-Hujurat (The Dwellings

) [49:6]O ye who believe! If a wicked person comes to you with any news, ascertain the truthlest ye harm people un wittingly, and afterwards become full of repentance for what ye have done.


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Shariah auditing has currently emerged as an important subject of discussion inline with the advance development of IslamicFinancial Institutions (IFIs) . This demands the propergovernance of the Shari ah compliance issues. As a new

emerging discipline, there are several issues which need to bedealt . It is important that we discuss these issues and makeinputs to the development of shariah auditing.

This lecture will proceed as follows:

INTRODUCTION


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Presentation outline

Introduction and definitions

The Evolution of conventional auditing and its lessons for shariah auditing

Shariah Auditing: Definition and standards

Issues in Shariah Auditing

Perceptions from Malaysia

The Malaysian Practice

Recommendations for future development of Shariah Auditing


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F inancial Statement Audit

International Standards on Auditing (ISA) 200, Objectiveand General Principles Governing an Audit of FinancialStatements, states that: The objective of an audit of financial statements is toenable the auditor to express an opinion whether the

financial statements are prepared, in all material respects, inaccordance with an applicable financial reportingframework .


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Audit Definition

Broader definition of audit AAA defined auditing as:

a systematic process of objectively obtaining and evaluatingevidence regarding assertions about economic actions andevents to ascertain the degree of correspondence between

those assertions and established criteria and communicating theresults to interested users (Committee on Basic Auditing

Concepts [CO B AC], 1972: 2)


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Auditing process

Systematicprocess

Collection of evidence

Reliable andsufficient

About subject matter

Comparisonwith criteria

Communicationof findings


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Element Conventional Audit Islamic Auditing

3 party relationship Entity, auditor, user Entity, auditor andbroader range of users

Appropriatesubject matter

Financial statementassertions

Processes, contracts,personnel, systems,performance, financialstatements

Suitable criteria IFRS Sharia principles andrules, aaoifi standardsand appropriate partsof IFRS

Sufficientappropriateevidence

Sufficient andappropriate evidence

SSB rulings, fatwas of international andnational fiqh boards,plus all other conventional evidence

Written assurancereport

Standard audit reportprepared by auditor

A more detailed reportprepared by a shariaauditor

C omparison between conventional and islamic auditing


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Evolution of Auditing

L ate 1800s/1900s 1960s/1970s 1970s 2000s

Financialstatements

Economy,effectiveness andefficiency of resourceutilization, programs& activities

Social contribution &environmentalcompliance

Every aspect of organizationsactivities as requiredby Islamic religiiousteaching

Financial Audit Performance Audit Social &Environmental Audit

Shariah Audit


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N eed for shariah auditing research

The advanced development of Islamic financialindustry necessitates for an auditing mechanism

which can fulfill the unique requirements of theindustry

Lack of research (especially empirical-based research)in the field of auditing from Islamic perspective.

The many unresolved issues regarding theconceptual and practical dimensions of Shari ah audit.


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I ssues in shariah auditing


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Shariah auditing definition

According to GSIFI 2 of AAOIFI,Shari a review is an examination of the extent of an IFI s compliance, in

all its activities, with th e S hari a . This examination includ es contracts, agr ee m ents, polici es, products, transactions, m emorandum and articl es of association, financial stat em ents, r ep orts (e sp ecially int ernal audit and c entral bank insp ection), circulars, e tc . Th e o bje ctiv e of a Shari a

r evi ew is to ensur e that th e activiti es carri ed out by an IFI do not contrav en e th e S hari a .W hil e th e SSB is responsible for forming and expressing an opinion

on the extent of an IFI s compliance with the Shari a, th er esponsi bility for complianc e th er ewith r ests with th e manag em ent of an IFI

Th e AAOIFI d e finition is broad in all its activities It us es th e word r evi ew inst ead of th e word audit Revi ew = n egativ e assuranc e , low e r l ev e l of assuranc e than audit Perhaps in th e be ginning this is be tt er than a full scal e audit, how ev e r, th e scop e in AAOIFI is quit e b road


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ASSURANCES

REASONABLEASSURANCE

ENGAGEMENT (RAE) (E.g. AUDIT)

(EG AUDIT)

LIMITEDASSURANCE

ENGAGEMENT (E.g. REVIEW)

(E.G. REVIEW)

REDUCTION IN ENGAGEMENT RISK TO A

SUBSTANTIALLY LOW LEVEL IN THE

CIRCUMSTANCE OF THE ENGAGEMENT

POSTIVE FORM OFEXPRESSION OF THE

CONCLUSION

REDUCTION IN ENGAGEMENT RISK TO ANACCEPTABLE LEVEL (BUT AT A HIGHER LEVEL

THAN RAE) IN THE CIRCUMSTANCE OF THEENGAGEMENT

NEGATIVE FORM OFEXPRESSION

R EVIEW AND AUDIT


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The meaning of sharia in sharia auditing

Shariah compliance according to AAOIFI means compliancewith Islamic Shari a Rules and Principles as reflected in thefatwas, rulings and guidelines issued by them (hereinafter, theShari a)This seems contradictory. Unless fatwas, rulings and guidelines

covers all activities, then the extent of shariah compliance in allits activities cannot be reviewed.In practice, as our research confirms, the SS B is mainly issuingfatwa's related to financing products and not other activities,hence aaofi s definition is a bit contradictory.

Auditing by persons based on criteria issued by the auditorthemselves poses a self review threat to independence.It does not bode well for the use of audit judgment making thereview a mechanistic procedure.


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In the conventional accounting world, the IAAS B developsInternational standards on auditing and assurance servicesand these are pretty established and accepted globally

In the case of shariah auditing, the Accounting and Auditing Association for Islamic Financial Institutions (AAOIFI ) has aset of standards both for conventional and shariah auditing of IFIs.The shariah auditing standards were reclassified asGovernance standards. These are :

Shari a Sup e rvisory B oard: Appointm e nt, Composition and Re portShari a Re view

I nt e rnal Shari a Re view Audit and Gov e rnanc e C ommitt ee f or I slamic F inancial I nstitutions

Ind e p e nd e nc e of Shari a Sup e rvisory B oard ( n ew)Stat e m e nt on Gov e rnanc e P rincipl e s for Islamic F inancial Institutions ( n ew)Corporat e Social Re sponsi b ility ( und e r d e ve lopm e nt )

Shariah auditing standards


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Bank NegaraMalaysia

Shari aCommittee

Bank Islam Malaysia

Shariah supervisoryCouncil

Shamil Bank Bahrain

Religious SupervisoryBoard

Meezan BankPakistan

Shari a Advisor

Al BarakaBank Bahrain

Shari a Board

C onfusion in SSB Nomenclature?


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D uties of the SSB A Malaysian view

GPS1 (Shariah Guideline 1 of the Central Bank of Malaysia gives what ibelieve is a more thought out role of the SS B then the AAOIFI standardi.e.

participate and actively engage in deliberating Shariah issues put beforethem.advise the BOD on Shariah matters in its business operation.Endorse Shari a Compliance Manuals which specify the manner in which a

submission or request for advice is to be made to the SC, the conduct of SCmeetings, and the manner of compliance with any shari a decision.

endorse and validate relevant documentations such as contracts,agreemnts, product manual, marketing, advertisements, sales illustrationsand brochures used to describe the product. for shari a compliance.

To assist related parties such as the IFI s legal counsel, auditor, or

consultant, on shari a matters for advice upon request.To advise on matters which have not been endorsed or resolved to theShariah Advisory Concil of BNM.To provide written shari a opinions where the IFI requests advice and onapplications for product approvales to the BNM and to assist the SAC onreference for advice e.g by explaining shari a issues involved and referencesto jurisprudential literature. And established sources.


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Shariah audit procedures

(1) PlanningReview

Procedures

(2) ExecutingReview

Procedures &preparing workingpapers

(3)DocumentingConclusions& Reportingtoshareholders

SHARI A REVIEW CYCLE


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Planning Review Procedures

T h e S hari a r evi ew proc edur es shall be plann ed so that it is compl e t ed in an eff ec tiv e and e ffici ent mann e r . T h e plan shall be ad eq uat e ly d ev e lop ed to includ e a compl e t e und erstanding a bout th e IFI s op e rations in t erms of products, siz e of op eration, locations, branch es, su bsidiari es and divisions . T h e planning shall includ e o btaining a list of all fatwas, rulings and guid e lin es issu ed by th e SSB .Und erstanding th e activiti es, products and manag em ent s awar en ess and attitud e towards complianc e with th e S hari a is ess ential . T his will hav e a dir ec t eff ec t on th e natur e , ex t ent and timing of th e S hari a r evi ew proc edur es .T h e plan shall be prop e rly docum ent ed including th e sampl e s e l ec tion crit e ria and siz es, taking into consid eration compl ex ity, and fr eq u ency of transactions .T h e r evi ew proc edur es shall be d esign ed bas ed on th e a bov e input .T h e r evi ew proc edur es shall cov er all activiti es, products and locations .T h es e proc edur es shall asc ertain wh e th e r th e SSB approv ed transactions and products hav e bee n und ertak en and all r e lat ed conditions hav e bee n m e t .


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Executing Review Procedures& preparing working papers

A t this stag e all th e plann ed r evi ew proc edur es ar eexec ut ed . T h e SSB r evi ew proc edur es shall normally includ e:

o btaining an und erstanding of th e manag em ent s awar en ess, commitm ent and complianc e c ontrol proc edur es for adh er enc e to th e S hari a; r evi ewing of contracts, agr ee m ents, e tc .; asc ertaining wh e th er transactions ent er ed into during th e y ear w er e for products authoris ed by th e SSB ; r evi ewing oth er information and r eports such as circulars, minut es, op erating and financial r eports, polici es and proc edur es, e tc .; consultation/co-ordination with advisors such as ex t ernal auditors; and discussing findings with an IFI s manag em ent .

T h e exec ution of th e a bov e r evi ew proc edur es shall be

docum ent ed in work pap ers which shall be c ompl e t e , n eat and cross r ef er enc ed to r evi ew proc edur es .


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I nternal shariah review

In addition to the shari a review, the IFI is alsorequired to conduct an internal shari a review by aspecial shari a compliance unit or department or abranch of the internal audit department depending onthe size of the bank. This is just like the internal auditand external audit which complement each other. It isplainly impossible for the SSB to carry out a vouchingaudit to verify the shari ah compliance of an IFI.

Therefore, it has to rely on its internal control systems,part of which is the internal shari a review.


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ELEMENTS OF

INTERNALSHARI A REVIEW

CHARTER ANDOBJECTIVES

INDEPENDENCE &OBJECTIVITY

PROFESSIONALPROFICIENCY SCOPE OF WORK PERFORMANCE

MANAGEMENT OFTHE INTERNAL

SHARI A REVIEW

QUALITYASSURANCE OF

SHARI A REVIEW

ELEMENTS OFEFFECTIVEINTERNAL

SHARI A REVEWICONTROL SYSTEM

STAFFING ANDSUPERVISION

COMPLIANCEWITH CODE OF

ETHICS

KNOWLEDGE,SKILLS ANDDISCIPLINES

CONTINUOSEDUCATION

AND TRAINING

DUEPROFESSIONAL

CARE

PLANNING ANDDESIGN OFINTERNAL

SHARI A REVIEW

EXAMININGAND

EVALUATINGINTERNAL

SHARI A REVIEWINFORMATION

REPORTING

FOLLOW UP

EMPLOYEES

SEGREGATION OFDUTIES

CONTROLPROCEDUES

Elements of internal shariah review


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Shariah audit reports


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EXT R EMES IN P R AC TI C E - TOO B R IEF (THE MA L AYSIANC ASE)


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EXT R EMES IN P R AC TI C E THE GO L D STANDA R D MEEZAN BANK OF PAKISTAN


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EXT R EMES IN P R AC TI C E THE GO L D STANDA R D MEEZANBANK OF PAKISTAN


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LITERATURE REVIEW


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The literature on auditing in the Islamic perspective is verylimited.

Among the writings which attempt to explore the conceptualframework of auditing from Islamic perspective are for e.g.Khan, 1985 ; Briston & El Ashker, 1986 ; Harahap ; 2002.The writings which highlight the auditing issues in Islamic banks(Al Abji, 1989 ; Janahi, 2000 ; Simpson & Willing, 2000)

The studies on the role, functions, responsibility andindependence of Shari ah advisors (for example Abu Mouamer,1989 ; Abdallah, 1990 ; Abdul Rahman et al., 2004 ; Shafei,2005).

Literature Review


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There are also studies that compare the different models of theroles of Shari ah Supervisory Board (SS B) and external auditors inIslamic banks ( Banaga, 1994), the notion of independencebetween SS B and external auditors (Karim, 1990) and possibleinteraction between the two parties (Hood & Bucheery, 1999).

The relevance of Islamic auditing to the public audit institutions

has been explored by Khan (2001) who analyzes the role of Supreme Audit Institutions (SAIs) in the Islamic economy.

The latest study which is more comprehensive in identifying theissues and challenges of Shari ah compliance process in the IFIs isa paper by Grais & Pellegrini (2006). Their study has explored thelimitations in relying the Shari ah compliance assurance to the

internal party (i.e. SS B) and proposed an effective framework tomonitor and assess Shari ah compliance.

summary

Gap of the Literature on Shariah Audit


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RESEARCH OBJECTIVE & METHODOLOGY


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Research Objective

To explore the perceptions of accountingacademicians, audit practitioners andShari ah scholars in Malaysia with regards

to the issues of Shari ah auditing.


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Research Questions

1. Is it important to develop the discipline of Shariah audit and what should be the definition of Shariah audit? This question examinesthe awareness of respondents of the term Shari ah audit and their

perception on the importance to establish the discipline of Shari ahaudit and its definition.

2 . W hat are qualification requirements for Shariah auditors and who should appoint Shariah auditors? This question seeks toidentify who are supposed to perform Shari ah audit, what should bethe qualification requirements for Shari ah auditors, and who shouldappoint the Shari ah auditors.

3 . W hat should be the scope of Shariah audit? This questionencompasses the investigation on the business areas to be auditedunder Shari ah audit

4 . To what extent should Shariah audit be performed? This questionaims to explore the extent of and when Shari ah audit should be

performed.


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Question of definitionReview or audit?

Review is defined as is a service where the auditor sobjective is to provide a moderate level of assurance,being a lower level of assurance than that provided by anaudit (CPA Australia, 2006)

Review has also been defined as a formal assessment of an activity with the intention of suggesting orimplementing changes or a review implies an audit typeinvestigation that does not meet the full requirements of Generally Accepted Auditing Standards (GAAS) (O Regan,2004)

GSIFI No.2 on Shari ah review states that Shari ahreview is an examination of the extent of an IFI scompliance in all its activities with the Shari ah (AAOIFI,2002)

Shariah reports indicate an audit not a review


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W ho should Conduct Shariah Audit?

NewProfessionals

calledShariahauditors??

ExternalFinancial

auditors??

ShariahSupervisory

Board??

IslamicJurists

(Ulama)?

Internalauditors

undersupervision

of SSB??


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Qualification & Competence Requirements

Trax Associates, Sept 2003

Degree/Professionalqualification in accountingand specialized certification

in Shariah audit??

Degree/Professionalqualification inaccounting & Fiqh(Islamic L aw)??

Degree/Professionalqualification inaccounting??

?


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P rocesses &P rocedures??

Contracts &agreements??

Environmentalimpact of

operation??

Humanresource

Management??

Scope of Shari ahAudit

BusinessP olicies??

Scope of Shariah Audit

Socialcontribution??

Marketing &advertising??

Zakat calculation& payment??


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To W hat Extent & W hen Should ShariahAudit be Performed?

Every single activity?To the extent deemedsatisfactory by theauditors?Using sampling

method?

Throughout financialyear?During new product application?

At the end of financial

year?

To what extent? When?


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Respondents Background

1 . Muslim accounting academiciansMuslim lecturers teaching at the Accounting Program in

public universities in peninsular Malaysia

2. Muslim audit practitionersMuslim audit practitioners in peninsular Malaysia

3. Shari ah scholars

Members of the Shari ah Committee or Shari ah SupervisoryBoard (SSB) of the Islamic commercial banks (ICB) and

Islamic subsidiaries of commercial banks (ISCB) in Malaysia


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F INDINGS & ANALYSIS


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Response Rate

No. Respondents

Total Distributed Total

Received Total Used

ResponseRate (%)

No % No % No %

1. Accounting lectures187 52.1 62 62 60 61.2 33.2

2. Auditors126 35.1 27 27 27 27.6 21.4

3. Shari ah Committee

46 12.8 11 11 11 11.2 23.9

Total 359 100 100 100 98 100 27.9


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Research Question No.1

Awareness of the term Shariah Audit

No.

Statement

Acctg.L ecturers

AuditorsShari'ahscholars

Overall

N % N % N % N %

1 . Awareness of the term Shari ahAudit :Yes

Not Sure No M issing

289

221

46 .715

36 .61 .7

75

14

1

261 8.551 .83.7

7-31

6 3.6-

27.39.1

4 214

393

4 2.814 .339.83.1

60 100 27 100 11 100 98 100


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Research Question No.1The Importance of Developing the Discipline of ShariahAudit


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Research Question No.2Who should perform Shariah audit for IFIs


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Research Question No.2C ompetence and Qualification R equirements of Shariah

Auditors

No

Statement

Acctg.L ecturers


Overall

Kruskal-Wallis

Test(Asymp.

Sig.)

N Mean

M

edian

N Mean

M

edian

N Mean

M

edian

N Mean

M

edian

6 . It is important for a body to setup qualification andcompetence requirements for Shari ah auditors

5 9 4 .6 8 5 27 4 .4 8 5 9 5 5 95 4.65 5 .023

7. Minimum qualification of theShari ah auditor :a)Degree/Professional inaccounting

b)Degree/Professional inaccounting & Fiqh (IslamicLaw)c)Degree/Professionalqualification in accounting andspecialized certification inShari ah audit

38

4 3

54

3.7 6

4 .4 2

4 .54

4

5

5

21

24

24

4 .29

4 .08

4 .37

4

4

4 .5

4

6

1 0

3.7 5

4 .5 0

4 .90

4

4 .5

5

6 3

73

88

3.9 4

4 .31

4.53

4

4

5

.1 93

.09 4

.07 6


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Research Question No.2Who should appoint Shariah auditors for IFIs

No StatementAcctg L ecturers Auditors

Shari'ahscholars

Total

N % N % N % N %5 a. Shareholders of the respective IFI through its

AGMYes

No6

54

1 090

720

25 .974 .1

38

27.372.7

16

8216 .383.7

60 100 27 100 11 100 98 100

5 b. Bank Negara of MalaysiaYes

No5

558.3

91 .74

2314 .885 .2

29

1 8.281 .8

11

8711 .288.8

60 100 27 100 11 100 98 100

5 c. Islamic Financial Service Board (IFSB)Yes

No2337

38.361 .7

16

11

5 9.34 0.7

1

1 09.1

90.94 05 8

4 0.85 9.2

60 100 27 100 11 100 98 100

5 d. A newly established regulatory andsupervisory body dedicated to oversee the

practice of Shari ah auditYes

No46

1476 .723.3

14

1 351 .94 8.1

5

6

45 .554 .5

6533

66.333.7

60 100 27 100 11 100 98 100


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Research Question No.3Areas to be audited under Shariah audit


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Research Question No.4To what extent Shariah Audit should be performed?

No Statement

Acctg.L ecturers

Auditors Shari'ah scholars Overall

N % N % N % N %

9a. Every single activity 20 33.9 5 1 8.5 4 44 .4 29 30. 5

9b. As assumed satisfactory by theauditors

1 9 32.2 6 22.2 2 22.2 27 28. 4

9b. Using sampling method 20 33.9 16 5 9.3 3 33.3 39 41.1

59 100 27 100 9 100 95 100


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Research Question No.4

When Should Shariah Audit be Performed?

No Statement

Acctg.L ecturers


Overall

N % N % N % N %1

0a. Throughout financial year 325

3.315 5

7.7 3 33.3 50 52.6

1 0b. During new product application - - 3 11 .5 1 9.1 4 4 .2

1 0c. At the end of financial year 28 46 .7 8 30.8 5 55 .6 41 4 3.1

60 100 26 100 9 100 95 100


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CONCLUSION


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Conclusion Research Question No.1

W hile the subject of Shari ah audit is gradually attractingthe attentions from relevant parties such as scholars inthe field of Islamic finance, however generally it has yet tobecome a popular subject to the academic individuals inthe accounting field and to the audit professionalsespecially.

Despite the respondents varying degree of awareness, it is very encouraging to discover that the respondentshighly regarded the importance to develop the disciplineof Shari ah audit.

W hile many of the respondents tend to agree towardsdefining the term Shari ah audit based on the definition of Shari ah review by AAOIFI, several other respondentshave instead see the inappropriateness of such association.


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Shari ah audit should be performed by new professionalscalled Shari ah auditors who are specifically certified inShari ah audit

Shari ah auditors must be appointed by a new

independent body dedicated to oversee the practice of Shari ah audit

It is seen strongly important to establish and standardizethe qualification and competence requirements forShari ah auditors who are supposed to have minimumdegree / professional qualification in accounting andspecialized certification in Shari ah audit



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Among the areas of the business activities that areperceived as mostly important in Shari ah audit work are ; Zakat calculation and payment, contracts and agreements,processes and procedures, financial system & reporting,

and business policies.



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Since the term Shari ah compliance implies a broaderunderstanding, responsibility and accountability (i.e. inthis world and hereafter), there could be a dilemma of whether the audit to attest such compliance is sufficient by relying on the sampling method or the extent deemedsatisfactory by the auditors, or we should go beyond thoseassumptions by checking and assuring every single activityof the IFIs are in compliant with the Shari ah precepts andconducting the Shari ah audit throughout financial year.



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D iscuss e d th e rol e of Supr e m e A udit Institutions ( S AI ) in th e Islamic countri e s.

Th e scop e of Supr e m e A udit Institutions ( S AIs ) in th e Islamic countri e s n ee d to be ex pand e d to play an e ff e ctiv e rol e in r e alizing th e o bje ctiv e s of an Islamic e conomy w hich stands for fr ee dom, justic e , fairn e ss, prot e ction of pu b lic int e re st and e limination of and corruption.

Illustrat e d th e n ewe r ex p e ctations of th e S AI which cov e rs 15 ar e as,nam e ly accounta b ility, transpar e ncy, corruption and fraud, p e rformanc eauditing, e valuation of polici e s, audit of ex p e nditur e manag e m e ntsyst e ms, audit of privatization, e valuation of r e gulators, audit of pu b licd eb t, e nvironm e ntal audits, l e ad e rship rol e in r e forming gov e rnm e ntaccounting, audit of social s e rvic e s and pu b lic administration, and lastlyth e fram e work for r e alizing Shariah goals through th e S AI.

Among th e e le m e nt of fram e work for r e alizing Shari ah goals throughSupr e m e A udit Institution is to train th e auditors.Th e S AI ( p e rhaps to apply to th e re gulator of Shari ah audit practic e ing e n e ral ) would n ee d to d e t e rmin e th e knowl e dg e and skill r eq uir e m e nts ofits staff for th e ex pand e d rol e outlin e d in his study.

b ack

Literature Review Khan (2001)


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Provid e d analysis on th e factors aff e cting th e notion of th e ind e p e nd e nc e of SSB ve rsus th e ex t e rnal auditors

It is n e ce ssary that b oth SSB and th e ex t e rnal auditors ar e p e rc e ive d ind e p e nd e nc e to e nsur e th e cr e di b ility of financial stat e m e nts

Th e p e rc e ive d ind e p e nd e nc e of th e SSB is ve ry much influ e nc e d b y moral valu e s whil e that of ex t e rnal auditors is larg e ly aff e ct e d b y e conomic factors.

Anoth e r inc e ntiv e for SSB s ind e p e nd e nc e is du e to th e be lie f that a rational manag e m e nt would be ve ry kee n to adh e re to r e ligious pr e ce pts sinc e th e cost it would be ar for a r e port e d b re ach would be mor e than th e cost it can impos e on th e SSB.

He opin e s that id e ally b oth SSB and ex t e rnal auditors should be from on eorganizational b ody sinc e Islam do e s not re cogniz e any s e paration be tw ee n b usin e ss and re ligion.

sugg e st e d that accounting principl e s compati b le with Islamic law must bed e ve lop e d as guidanc e for thos e who conduct th e financial audit for Islamic financial institutions or Islamic e nt e rpris e and be familiar with th e various r e ligious rulings which hav e a be aring on th e financial matt e rs of th e b ank.

back

Literature Review Karim (1990)


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Shari ah compliance is essential for the Islamic banks giventhe impact that their products may no longer be acceptableif they fail to comply.Emphasized that one of the relevance of the Islamicbanking industry s infancy is highlighted by the continuedlack of an internationally accepted framework of uniformand comprehensive accounting standards or auditingguidelines.

Argued that the role of external auditors in the Islamicbanks is seen to be complex due largely to the lack of experience of most external auditors on the Shari ahprinciples

Believed that establishment of rules and regulations wouldenhance the effectiveness of the banks and ensure itscompliance to the Shari ah.

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Literature Review Simpson & W illing (2000)


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W rote a book in Indonesian language on Auditing from theIslamic PerspectiveProvided discussion on the development of accounting andauditing in the Islamic sphere and urged for the MuslimIntellectuals to develop the discipline of Islamic auditing asit is inline with the development of Islamic FinancialSystem.

Stressed the importance of formulating a philosophicalfoundation of the auditing theory from Islamic perspectiveas he elaborated that the absence of a philosophicalfoundation would lead to the variation and lack of focus inthe development of Islamic auditing as a discipline and inpractice.

Among other future initiatives to be taken with regards toIslamic auditing are: 1) to transform the social system intoShari ah based system where currently Muslim society arevery much tied to the W estern ideology and civilization, and2) to harmonize the practice among all the Muslims.

back

Literature Review Harahap (2002)


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The M alaysian Practice

The following is the result of interviews conducted by mystudent Sister Nawal Kassim who is undertaking a PhD in Accounting under my supervision.

22 respondents comprising external auditors, Sharia supervisoryboard members and staff of shariah compliance units / internalauditors of 9 IFIs and 6 Islamic branches of conventional banks in

Malaysia.Interviews covered:

d e finition and re sponsi b ility,organization of th e shariah complianc e function

Re porting structur e s of shariah complianc e unitsscop e of audit,

audit proc e dur e s,ind e p e nd e nc e , q ualifications and authority of SSBs.


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Ma l a ysian P r a ctice- Defi n iti nPreference for shariah review as opposed to audit (in line withaaoifi definition.)One respondent (head of Islamic bank audit dept of localIslamic branch) consider no need for separate audit unit as

procedures and processess are the same as conventionalauditing minority view

Another respondent (shariah compliance unit) said that theresponsibility for the shariah audit is the responsibility of theShariah supervsory board or in Malaysia known as the ShariahCommittee

Another respondent (external auditor) is of the view that

shariah compliance audit is an internal matter nothing to dowith external auditor because:Not required by lawLack of expertiseW ill increase audit cost


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Practice- Organization of the shariahcompliance function

Many different structures as illustrated below :


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M alaysian Practice- Audit Scope

Most IFIs audit compliance of products only.Cost consideration of extending scopeNewcomers and therefore need to compete by developing newproducts

(discuss Implication on audit report on activities andoperations)

Education of staff needed before scope expansionPerceived to be difficult

Other scope under research stageExtension of scope in agendaDiscussion on going on staff compliance with sharia dress codes

and marketing of productsNot in favour of social and environmental or performance audit as considered not within scope and lack of public awareness

Fear workload increase without adequate resourcesCapitalist mentality- shariah audit is a business unit to make profits.


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M alaysian Practice- Audit Procedures

Begins at proposal stageUse of checklist with non-compliance parametersdevelopment by shariah division and endorsed bySSBKey Risk indicators

Use shariah policy, guidelines, circulars and fatwas.Non compliance reported to SS B on a monthly basis


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Ex post audit

Documents reviewed includeConcept papers, structure and terms sheet Documentation examined include agreements, letters of offer, policies and procedures, corporateadvertisements / brochures and pamphlets

The above documents are compared withFatwasCentral bank regulationsCompany s shariah compliance audit manual

Non compliance are noted as comments and queriesand post audit monitoring is carried out.Observation: lack of audit judgment, very mechanicalprocess is evidence.


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Authority , I ndependence and Qualifications issues

Internal audit teams who conduct shariah audits arenot Muslims nor shariah qualified except in a veryfew cases.However, they claim to be exposed toconcepts / policies and ethics of IslamThey work with shariah qualified officers in theshariah department or compliance unit Use shariah compliance checklist handed down fromHeadQuarters but modified for Malaysian

environment SSB is dominant in the process as they must endorsethe work of the SC units


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Authority , I ndependence and Qualifications issues

However, there seems to be overdependence on theorganizational units to carry out most of the audit work due to:

SSB members are part timeMostly academics who are busy

Therefore their Independence and reliability of theevidence on which their report is based is put intoquestion.SSB meetings discuss Shariah compliance matters in

addition to product development approvals

Recommendations for f t re de elopment of


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Recommendations for future development of Shariah Auditing

There is need for integrated education of shariah auditors andaccountants to produced competent shariah accountants andauditors

Accountants can be certified in shariah audit (short term)Shariah / madrasah / hafiz students with a strong grounding in Arabic andislamic studies should follow an integrated curriculum in both Arabic and

English with accounting, auditing, business, fiqh muamalat and usulul fiqhsubjects as well as Islamic economics, finance, accounting etc

Shariah auditing needs to evolve to cover marketing, personnel, systems,processes, social and environmental areasSSB functions should be decomposed into advising and directing and the reviewfunction should be split to an independent outside professional group known asshariah public accountants and auditors who are independent of the companyand the SS B.

AAOIFI needs to update its GSIFI standards to differentiate review from audit aswell as broadening the scope of shariah audit and develop standards on relatedaudit procedure and better audit report standard.There needs to be a professional body for Shariah accountants and auditors.


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WASSALAMU ALAIKUM THANK YOU!

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