In previous posts in this series, we have discussed in brief, the role of the Shariah board & the internal Shariah department at Islamic financial institutions. We mentioned that the Shariah board is appointed to guide the Islamic financial institution to ensure that all of its activities are in compliance with Shariah as interpreted by the Shariah board.
Just having a Shariah board is usually not enough to ensure that the Islamic financial institution is conducting all of its activities in compliance with the Shariah board’s directives and it is important for a Shariah audit to be carried out. This is in order to ensure that the opinions given by the Shariah board are actually being followed and to ensure that there has been no Shariah compliance breaches. Therefore, on an annual, semi-annual or quarterly basis, a Shariah audit should be conducted of the Islamic financial institution in order to ensure that the institution has been conducting its activities in line with the decisions of the Shariah board. The Shariah audit is conducted by the Shariah audit team similar to how internal audit is done in traditional institutions.
The Shariah audit is conducted on the various activities of the Islamic financial institution, with a sample of transactions being audited as it would normally be impossible to audit every single transaction. Based on the audited sample, the Shariah audit team produce Shariah audit reports highlighting the Shariah observations along with the severity of them. The Shariah audit reports will then be sent to the audited department for them to look at the observations raised, give their responses and have meetings with the Shariah audit team, if necessary.
The finalised reports are then raised to the Shariah board in order for the Shariah board members to study the Shariah observations raised by the Shariah audit team as well as the responses given from the audited departments. Based on the severity of the Shariah observations and input from the Shariah auditors, the Shariah board members will decide whether the transaction can be fixed from a Shariah perspective by recommending a corrective measure or if the matter is so severe, that it cannot be remedied from a Shariah perspective and therefore any income generated from that activity must be forfeited to charity. This basically means that the institution cannot take any of the income earned from the activity but rather has to transfer the income earned to the institution’s charity account. The amounts transferred to this account are distributed anonymously to various charitable causes approved by the institution’s Shariah board. The decisions of the Shariah board are then communicated to the audited departments in order for them to take the necessary corrective actions.
Therefore, we can see that another key difference between Islamic & conventional financial institutions is that Shariah audit is an important requirement for Islamic financial institutions whereas there is no such requirement for conventional financial institutions.
To read the previous post (#4) of this series, please click the link below: