181st SAC Meeting 2017

The 181st Meeting of the Shariah Advisory Council (SAC) of Bank Negara Malaysia

The SAC of Bank Negara Malaysia at its 181st meeting on 27 October 2017 ruled on the
following:

1) Practice of insurance coverage for ijarah financing

SAC Ruling

SAC ruled that for the first year of ijarah financing, Islamic financial institutions (IFI) should ensure
takaful be the first option for the coverage plan. IFIs are required to promote the subscription of takaful
in the second year of financing and thereafter. Customers are given the flexibility to take up insurance
under the following circumstances:
i. Takaful protection is not offered in particular sectors or classes;
ii. None of the available takaful operators approve the customer’s application for takaful
protection; or

iii. The cost of insurance coverage is significantly more competitive compared to takaful.
SAC also agreed that in the case where the insurance coverage is subscribed based on the above
circumstances, the amount of insurance premium may be included in the total ijarah financing.

Background

Based on Shariah principle, Islamic financing Shariah issue

should be covered by takaful protection plan.
Is it permissible for ijarah financing to be
However, flexibility to obtain insurance may be
covered by insurance?
given under certain circumstances.
Nevertheless, since the asset in ijarah
Illustration:
financing is owned by IFI, the responsibility to
Relationship between financing and takaful/insurance
ensure that the asset is covered by takaful coverage
coverage is more apparent.
The Ijarah Policy Document stipulates that the 1. Customers apply for vehicle financing
based on the concept of al-ijarah
asset owner may obtain takaful coverage for thumma al-bai’ (AITAB)
managing risk related to damages and losses. 2.

G 16.7 The lessor may mitigate specific risks 2. Customers subscribe to

relating to loss, damage or impairment of takaful / insurance
coverage for the financing
the leased asset through a takaful applied. perlindungan
coverage. insurans bagi pembiayaan
yang diambil
In practice however, there have been cases
Takaful / Insurance IFI is the owner of the vehicle
where ijarah assets are covered by insurance, Company leased
and not takaful.

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 181st SAC Meeting 2017

Key Highlights of the SAC Discussion

What are the current practices relating to protection in ijarah financing?
Most ijarah financing is covered by takaful.
However, there are circumstances where customers opt for insurance coverage for ijarah
financing specifically for vehicle hire-purchase. This approach is taken based on the following
considerations:
i. It is at the liberty of the customers to choose either takaful or insurance coverage;
ii. In the case of the vehicle financing, auto dealers have dedicated panels of insurance
partners;
iii. IFIs emphasise the need for takaful coverage only for the first year of financing, without
stressing on the need for takaful coverage to be maintained in subsequent years;
iv. The large volume of customers makes it difficult for IFIs to keep track of the takaful
coverage throughout the financing tenure. Moreover, the cost of coverage is fully borne
by the customer; or
v. Insurance companies offer insurance at a more competitive price to customers.

Can ijarah assets be covered by insurance?

In principle, ijarah assets should be covered by takaful. This will also strengthen the takaful
industry and to promote the development of Islamic finance sector.
However, there are situations where it is difficult for customers to acquire takaful coverage for
ijarah asset. Hence, customers should be given the flexibility to subscribe to insurance based on
the following factors:
i. Takaful protection is not offered in particular sectors or classes;
ii. None of the available takaful operators approve the customer’s application for takaful
protection; or
iii. The cost of insurance coverage is significantly more competitive compared to takaful.
This approach takes into consideration the stage of readiness of takaful operators in offering
certain products with specific underwriting expertise in certain risk classes.
This is in accordance to the Hadith of Rasulullah PBUH:
1
‫ وإذا هنيتكم عن شيء فدعوه‬، ‫فإذا أمرتكم بشيء فأتوا منه ما استطعتم‬
“Whenever I order you something, obey it the best as you could and whenever I
forbid you from something, avoid it.”

This is also in accordance to the following fiqh maxim:

2
‫املشقة جتلب التيسري‬
“Hardship begets facility”

1
Muslim, Sahih Muslim, Dar al-Mughni, 1998, p. 698, hadis no. 412.
2
Al-Suyuti, Al-Ashbah wa al-Naza’ir, Dar al-Kutub al- `Ilmiah, 1983, p. 76 - 77.
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 181st SAC Meeting 2017

Can the insurance premium be included as part of the ijarah financing?

As described above, there are certain situations when customers are given the flexibility to obtain
insurance coverage for ijarah assets. In such cases, the premium amount may be included as
part of the ijarah financing amount.

Are there any views that allow for ijarah assets to be covered by insurance where the cost of
protection for insurance is more competitive compared to takaful?
The Shariah Advisory Council of the Securities Commission Malaysia ruled that an ijarah asset
shall be covered by takaful coverage. However, if the takaful company does not have the
capacity for such coverage or if the takaful coverage is not commercially viable, the ijarah asset
may be covered by conventional insurance3.

Basis of Ruling

The ijarah financing and insurance contracts are two separate and distinct contracts. Therefore,
there is no prohibition for the ijarah asset to be covered by insurance.
The insurance coverage is to protect the lessee from any liability related to the risk of asset
utilisation.
It is difficult for IFIs to keep track of all customers. There will be legal implications if the
requirement of protection plan for ijarah financing is confined to takaful only as customers may
choose to subscribe to insurance over takaful.
The flexibility in providing customers the option to choose insurance coverage takes into
consideration a few factors including the state of readiness of takaful operators in offering
products for all types of ijarah assets, underwriting expertise for takaful operators for certain risk
classes and others.

3
Ruling of Shariah Advisory Council of Securities Commission, p. 38.
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 181st SAC Meeting 2017

2) The party bearing the risk in cases where the takaful / insurance compensation is
insufficient to cover the balance of the ijarah financing in the event of total loss

SAC Ruling

The SAC ruled that the customer may promise to bear the cost of damage of the leased asset in
the event of total loss and bear the remaining amount of the ijarah financing. In this case, if the
takaful / insurance compensation is insufficient to cover the balance of the ijarah financing, the
customer shall be responsible to bear such amount as per the promise given.

Background

For the purpose of managing various risks Shariah issues

related to the ijarah asset and its utilisation, Who is responsible to bear the
the customer agrees to obtain takaful remaining balance of the ijarah
coverage, and in certain cases insurance. financing in the case where the takaful /
insurance compensation is insufficient
In the case of total loss, the takaful
to cover such amount?
operator/insurance company will only
compensate for the amount of loss based on Factors to consider for the above issue
the market value of the asset or the sum are:
insured, whichever that is lower.
i. Ijarah asset belongs to the IFI.
In this case, there are situations where the ii. In the event of total loss, the sale
compensation amount is inadequate to cover contract (at the end of the financing)
the remaining balance of the ijarah financing. cannot be executed as the ijarah
asset has no value or is nonexistent.
Illustration :
Difference between financing amount and
takaful benefits

Covered
Financing

by
Amount

takaful

Covered
by takaful

Year 1 Year 7 Year 9

Key Highlights of the SAC Discussion

Is the concept of wa`d (promise) to bear the total loss in line with the objective of ijarah
contract?
Based on the discussions of classical scholars, the objective of an ijarah contract is for the
lessee to enjoy the usufructs of the leased asset and the lessor in return receives the rental
payment. Hence, the promise from the customer to bear the total loss of the ijarah asset is
permissible as it does not affect the objectives of the ijarah contract.
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 181st SAC Meeting 2017

What is the basis of allowing for customers to be responsible for the remaining balance of
the ijarah financing?

The basis of allowing the application of wa`d took into consideration the following factors:
1. Wa`d is a concept that is accepted in Shariah and is widely applied in most financial
products;
2. Although the ijarah asset belongs to the lessor, the contracting parties may agree that the
lessee bear the takaful/insurance cost. This arrangement does not contradict the objective of
the ijarah contract;
3. An ijarah asset especially the movable asset is in the possession and control of the lessee
throughout the ijarah tenure. In this context, most of the risk is related to the usage of the
ijarah asset by the lessee. Undeniably, there are circumstances where the damage is not
caused by the negligence of the lessee.

Basis of Ruling

Although the ijarah asset belongs to the lessor, the contracting parties may agree that the lessee
shall bear the takaful/insurance cost. This arrangement does not contradict the objective of the
ijarah contract. This is based on the hadith4:

‫املسلمون على شروطهم إال شرطا أحل حراما أو حرم حالال‬

“Muslims are bound by the conditions in which they agreed upon, except for the one
that permits the haram (forbidden acts) and forbids the halal (permissible).”
This approach is also in line with the following fiqh maxim5:

‫األصل رضى املتعاقدين ونتيجته هي ما التزماه بالتعاقد‬

“The original ruling for a contract is the consent of the contracting parties and its
effect is based on what have become the rights and duties as agreed in the contract.”
The documentation of the ijarah contract stipulates that the lessee agrees to acquire sufficient
protection to cover the remaining amount of the ijarah financing at any particular time.
This deliberation considered the commercial aspects of ijarah financing, where the determination
of the rental price took into account the entire risk and liability of the contracting parties in
agreeing to enter into the contract. The difficulty for the asset owner to ensure all lessees comply
with the terms and conditions of the ijarah contract throughout the financing tenure is also taken
into consideration.

4
Abu Daud, Sunan Abi Daud, Bait al-Afkar al-Dawliyyah, 1999, p. 398, hadis no. 3594.
5
Ahmad al-Zarqa’, Syarh al-Qawa`id al-Fiqhiyyah, Dar al-Qalam, 1989, p. 482.
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 181st SAC Meeting 2017

3) Types of damage that lead to termination of ijarah contract

SAC Ruling
The SAC ruled that the types of damages that affect the ijarah contract are permanent major defect
that prevent the lessee from enjoying the entire usufruct of the ijarah asset. The effects of such
damage are as follows:
i. the ijarah contract is dissolved; or
ii. the contracting parties may agree to continue with the ijarah contract by substituting the
ijarah asset with a new one or repairing the existing asset.

Background

The Shariah Standard on Ijarah outlines that Shariah issue

the lessee is entitled to dissolve the ijarah What are the damages that entitle the
contract or request for substitution or lessee the right to dissolve the ijarah
replacement of the leased asset in the case contract?
where a defect of the ijarah asset is
discovered by the lessee after entering into
the contract.

Key Highlights of the SAC Discussion

What are the views of the classical scholars regarding the type of damage that entitles the
lessee to dissolve/terminate the contract?
Classical scholars view that the termination of ijarah contract may only be carried out in the case
of major damage that deny the entire usufruct which is the subject of the contract6.

Basis of Ruling
The lessee is entitled to terminate/dissolve the ijarah contract or request for a replacement of the
asset in the case of a permanent major defect which prevents the lessee from enjoying the entire
usufruct of the leased asset.
This view is in line with the views of scholars, in the case where there is a defect to the ijarah
asset which prevents the lessee from enjoying the usufruct of the asset during the ijarah tenure,
the lessee has the right to dissolve the contract.

6
Wizarah al-Awqaf wa al-Syu’un al-Islamiyyah, Al-Mawsu’ah al-Fiqhiyyah al-Kuwaitiyyah, v. 1, p. 271.
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 181st SAC Meeting 2017

4) The issue of force majeure in ijarah contract

SAC Ruling

The SAC agreed that the original ruling for the cost of maintenance and takaful/insurance coverage
of an ijarah asset is the responsibility of the asset owner. Nevertheless, the contracting parties may
negotiate and agree on the party who shall bear such costs including the cost of coverage in the
cases of force majeure. In the event where the damage caused by force majeure is beyond the
available takaful/insurance plan offered in the market, it is the responsibility of the IFI as asset
owner to bear the loss.
Nevertheless, the burden of proof shall be upon the lessee. If the lessee fails to provide proof
against his negligence, the lessee will be responsible for the damage of the ijarah asset.

Background

Based on the policy document of ijarah, Shariah Issue

where the damage is due to force majeure, it
is the responsibility of the asset owner to To what extent shall the asset owner be
repair the ijarah asset. responsible towards the ijarah asset in
the force majeure situation?
In this regard, the IFIs are exposed to the
high risk pertaining to force majeure situation
whereas the ijarah asset especially the
moveable asset is within the possession and
control of the lessee.

Key Highlights of the SAC Discussion

What is meant by force majeure?
An unavoidable event and beyond the reasonable control of the contracting parties which
prevents parties from fulfilling any of their obligations under the contract. Examples of force
majeure events are7:
Act of God, such as earthquake, cyclone, floods, lightning, hurricanes and other natural
calamities;
Act of man, such as war (declared or undeclared), invasion, act of a foreign enemy, hostilities
between nations, act of terrorism, strikes, civil insurrection or military usurped power, nuclear
contamination, embargo and confiscation by government.
What are the implications of force majeure towards the industry?
Following the discussion with the industry, there are issues raised related to force majeure:
i. Absence of a clear legal definition of force majeure;
ii. Lack of clarity in terms of the authoritative body to declare force majeure situations in case of
its occurrence; and
iii. Currently there is no takaful operator which has the comprehensive underwriting expertise in
the force majeure class.

7
World Bank Group, Force Majeure Clauses – Checklist and Sample Wording, the World Bank, http://ppp.worldbank.org/ppp/library/force-
majeure-clauses-checklist-and-sample-wording , 19 Oktober 2017.
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 181st SAC Meeting 2017

Consequently, offering of ijarah based products by IFIs will be less competitive compared to
other contracts such as tawarruq or conventional products. This is due to the following reasons:
a. IFIs are exposed to higher risk;
b. Potential moral hazard risks such as false claims by the customers;
c. Increase in operational cost such as documentation; and
d. Higher prices will be imposed on customers.

Basis of Ruling

The ownership of an ijarah asset belongs to the lessor. Therefore, in the case where takaful and
insurance are not offered for certain remote force majeure cases, the asset owner shall be
responsible for the loss/damage.
Based on the agreed conditions of the ijarah contract, the lessee/customer is responsible to
acquire takaful/insurance coverage available in the market. This approach is based on the hadith
of Rasulullah PBUH:
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‫املسلمون على شروطهم إال شرطا أحل حراما أو حرم حالال‬
“Muslims are bound by the conditions/terms in which they agreed upon, except for
the one that permits the haram (forbidden acts) and forbids the halal (permissible).”
There is an element of oppression and injustice towards the lessee if the lessee is obliged to
acquire a takaful/insurance plan in which the risk coverage is not offered in the market.

This ruling is enforceable according to the enforceability date of the Policy Document of Ijarah.

8
Abu Daud, Sunan Abi Daud, Bait al-Afkar al-Dawliyyah, 1999, p. 398, hadis no. 3594.
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