IB1005IB1005DEPOSITS AND FINANCING DEPOSITS AND FINANCING PRACTICES OF ISLAMIC FINANCIAL PRACTICES OF ISLAMIC FINANCIAL INSTITUTIONSINSTITUTIONSCHAPTER 2 : DEPOSITS 1CHAPTER 2 : DEPOSITS 1

COMPILED BYHAMDAN HJ IDRIS, BSc Econs, MBA (Islamic Banking & Finance)

Certified Professional Trainer (MIM)Industry Expert

INCEIF

PRESENTED BYHJ MAHMUD HJ BUNTAT, MBA (AUOL, UK), DBM (Swansea Inst., UK), CIL (UIA)

Part-time Lecturer (INCEIF)Former Head of Islamic Banking Division, OCBC Bank (Malaysia) Bhd

Chapter 2: Deposits 1 Chapter 2: Deposits 1

Rate of Return FrameworkIn Malaysia, BNM introduced a framework for the

rate of return (ROR) to standardize the methodology in the calculation of the various rates of return to depositors, in order to generate a mechanism for the distribution of profits between the bank and its customers. Islamic Financial System, 2003 (pp.191-2):

The objectives of the framework included;

Setting a minimum standard in calculating the rates of the return.

Provide a standardized reference for IFI in deriving RORs.

Provide BNM with ability to measure the performance of the IFIs.

The objectives aim to assess whether the RORs accurately reflect the performance of the IFIs; permit BNM regulation and supervision in determining appropriate prudence and fairness in the distribution of profits to depositors.

• Standardizing a ROR mechanism provides transparency in determining distributable funds, including the disclosure of income and expense items.

The introduction of the framework supports the application of the mudharabah (profit-sharing) contract in IFI deposit activities.

Conventional banking is based on the lender-borrower relationship, whereas the mudharabah contract is based on the investor-entrepreneur relationship whereby the depositor assumes the role of capital provider and the IFI assumes the role of entrepreneur.

Any profit generated from the invested capital is

shared, whereas any loss is borne by the depositor.

DepositsDeposits

The public places their money in bank deposits for two main purposes:-

The transaction purpose and the investment. To fulfill transactional purpose, Islamic banks

offer al-wadiah yad damanah deposit means safe-keeping (wadiah) with guarantee (daman).

In return for the safe-keeping and deposit protection services depositors allow the bank to use their money in its financing operations.

But the bank has no legal obligation to pay

depositors a fixed monetary return but may do so only on voluntary ground.

There is no mention of any form of return in the

contract.

Prerogative to do so in the form of gifts (hibah).

Providing hibah is necessary to motivate depositors to place their savings in Islamic banks. According to the Mejelle, hibah is giving the ownership of property to another without an equivalent counter value.

Otherwise they will lose deposits to banks that pay interest.

The al-wadiah yad dhamanh contract says that the bank will provide deposits protection and honor all withdrawals on call provided that it is allowed to use deposits to generate earnings.

• Giving hibah on al-wadiah dhamanah deposits is necessary because there is no free lunch in business

an Islamic bank cannot promise to give depositors a fixed contractual income as doing so runs against the principle al-wadiah yad dhamanah itself.

Wadiah concept (Guaranteed safe custody)

Profit at the sole discretion of the

Bank

Customer (Investor)

Guardian

Financing Investments

Projects

(2) Profits

(1) Invest

Workflow ofWorkflow of Wadiah Savings AccountWadiah Savings Account

• If a bank wishes to give away hibahs, it must be done voluntarily when it finds fitting to do so, especially when business is bullish.

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