Pakistan’s SECP issues Guidelines for offering Islamic Financial Services

  • Market Insight 16 January 2023 16 January 2023
  • Middle East

  • Finance

On 28 April 2022, Pakistan’s Federal Shariat Court (FSC) announced a verdict in a long-pending case on riba (interest), declaring the present interest-based banking system as against the principles of Shariah and directed the government to facilitate all lending activity under an interest-free system. The legality of riba charging mechanisms in commercial transactions has been a matter of extensive debate in Pakistan for decades, with the FSC issuing an earlier judgment on the subject as far back as in 1991.

The FSC is the only constitutional authority in the country designed to prevent enactment of un-Islamic laws by the bicameral legislature of Pakistan. It has the power to examine and determine whether the laws of the country comply with Shariah principles. If a law violates the Quran, Sunnah or Hadith, it issues judgments that direct the authorities away from its enactment.

In the April 2022 judgment, the FSC ruled that the federal government and provincial governments must amend relevant laws and issued directives that the country's banking system should be free of riba by December 2027. This is also in continuation of the constitutional goal in Pakistan of establishing a functioning commercial and banking system which is compliant with Shariah principles. In pursuance of these objectives, the Securities and Exchange Commission of Pakistan (SECP) issued the Guidelines for Offering Islamic Financial Services 2023 (the Guidelines). 

The scope of the Guidelines

The Guidelines are designed for conventional financial institutions intending to convert themselves into Islamic financial institutions, either at once or in phases. The Guidelines cover all of SECP’s regulated sectors, except for any financial service exclusively regulated by the State Bank of Pakistan (SBP). Thus, the Guidelines are framed to facilitate growth of Shariah-compliant financial products in the financial services market regulated by the SECP, which include Islamic capital markets, Takafuls, Modarabas, Non-Banking Finance Companies (NBFCs), pension and private funds, and Real Estate Investment Trusts (REITs) etc.

It should be mentioned that the Guidelines do not create newer authorities, overseeing bodies or legislative enactments; they merely provide a step of steps for financial institutions that are intending to convert themselves into Shariah compliant financial institutions. The steps are as follows:

  • the financial institution must initiate the conversion process with the approval of its board of directors. The board of directors will empower the management to form a dedicated team or department to prepare the conversion plan and lead the conversion activities;
  • the financial institution will then prepare a conversion plan in light of the Shariah principles and the Shariah screening criteria provided in the Shariah Governance Regulations 2018;
  • the financial institution will also appoint or engage a Shariah supervisory board to review and vet the conversion plan and oversee its implementation. The Shariah supervisory board means a board constituted, appointed, or engaged by the Islamic financial institution to advise it on matters concerning Shariah principles and rules and Islamic products; and
  • seek approval from the board of directors for the conversion plan. At this stage the financial institution may also voluntarily intimate the SECP for information and disclose the approved conversion plan to the relevant stakeholders. The Shariah supervisory board may also be mandated to oversee the progress and report any issues to the board of directors for necessary corrective action.

Once the financial institution has satisfied the criteria Shariah screening criteria provided in the Shariah Governance Regulations 2018, the financial institution may seek and obtain a Shariah compliance certificate from the SECP, pursuant to Regulation 4 of Shariah Governance Regulations 2018.

Islamic window

The Guidelines also introduce the concept of Islamic windows in all regulated sectors. These Islamic windows allow financial institutions to provide Islamic financial services by following an institution within institution model. This means that the Islamic window can pursue its activities without unnecessary and undue interference or influence from the management of the parent financial institution. The Islamic windows can also operate separate branches, maintain separate books of accounts and prepare a supplementary set of financial statements. Moreover, the Islamic window can receive funds from its parent financial institution under a Shariah-compliant contract. However, it may not place funds with its parent financial institution or with any other conventional financial institution, either directly or through a third party.

Other key considerations

While enacted in pursuance of the FSC’s April 2022 judgment, the Guidelines are essentially based on ideas of gradualism and proportionality. The underlying intention is more evolutionary instead of radical. The Guidelines, strictly speaking, do not carry the force of law which the rules and regulations of the SECP enjoy, and are instead enacted to provide a pathway for financial institutions seeking to bring their activities in line with the principles of Shariah. 

For more information on the Guidelines and how it might impact your business, please contact us.


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