With a good reputation in handling complex banking disputes, debt recovery and asset tracing, the practice area has represented clients in various courts in the land including the High Court, Court of Appeal and the Supreme Court. Our Asset Tracing & Recoveries practice closely with a broad range of stakeholders including banks, financial intermediaries, distressed companies, creditors, private equity sponsors, and governments. As a full service law firm, the practice area is able to call upon lawyers from a wide range of related specialist areas including tax, employment and labour, banking & finance and restructuring & insolvency.
Our recent experience includes:
For more information about our Asset Tracing & Recoveries practice, please contact George Oraro SC (Founding Partner) or Noella Lubano (Partner). Alternatively, click here to download our Asset Tracing & Recoveries.
The Finance Act, 2018 assented to on 21st September, 2018, amended the Central Bank of Kenya (CBK) Act, 1966 to regulate Mortgage Finance Business (the business). The amendments include having new definitions and introduction of new powers to the CBK
These amendments came into effect on 1st October , 2018.
Increased CBK powers
With the introduction of new sections, CBK will now have power to license and supervise the business. This includes:
By Walter Amoko | Lena Onchwari
Amidst controversy and recriminations across board, the Finance Bill, 2018 (the Bill), was eventually passed on a special sitting of the National Assembly on 20th September, 2018 and the President assented to it on the 21st September, 2018.
While the political branches were considering the Bill, a Constitutional Petition challenging its propriety on multiple grounds including whether or not it had been presented to Parliament in time, as well as the constitutionality of bringing some of its provisions into force before its enactment, was being litigated before the Courts. A day before the Finance Act, 2018 (the Finance Act) was passed, the High Court delivered its decision, upholding two of the grounds the redoubtable Mr. Omtatah had pressed. One was the headline grabbing invalidation of the Provisional Collection of Taxes Act which allowed the Cabinet Secretary (CS) Finance, to enforce provisions of the Finance Act before it was enacted. Lady Justice Okwany held that under Article 94 of the Constitution, only Parliament could pass legislation, and it had to be done within the stipulated process which included such fundamental issues such as effective public participation in law-making. By allowing prior enforcement of provisions of a bill by way of orders issued by a Minister, however temporarily, not only does the Executive unlawfully usurp the exclusive non-delegable powers of Parliament but also undermined the salutary inclusive law-making process.
Click here to read an in depth summary of the key changes introduced by the Finance Act.
By Walter Amoko
Apparently defying expectations of the experts (i.e. the banking industry, economists, the Central Bank of Kenya (CBK) and the Treasury) all of whom poured scorn on the proposed intervention while acknowledging there was a problem that needed to be addressed, the President not only assented to the Banking (Amendment) Act, 2016 (the Act) but also assured the public of the Government’s commitment saying, “ We will implement the new law, noting the difficulties that it would present, which include credit becoming unavailable to some consumers and the possible emergence of unregulated informal and exploitative lending mechanisms. We will closely monitor these difficulties, particularly as they relate to the most vulnerable segments of our population. Whilst doing so, my Government will also accelerate other reform measures necessary to reduce the cost of credit and thereby create the opportunities that will move our economy to greater prosperity.”
While debate will continue to rage on over the propriety of the interest rate caps introduced by this legislation and the further identified reforms promised by the President, of immediate interest is what compliance with the law entails - what exactly would fulfilling the legislation’s object of regulating interest rates by capping interest charged on loans by banks and financial institutions and fixing the minimum rate to be paid on deposits require?
A recap of the legislation:
Rather unusually the Act is silent as to when it is to come into force. This is not a problem though, as by dint of Article 116(1) and 116(2) of the Constitution of Kenya, the Act shall be published in Gazette as an Act of Parliament within seven (7) days of receiving Presidential assent and will thereafter come into force within fourteen (14) days of its publication unless the Act stipulates a different date or time on which it comes into force.
As previously noted above, the term “credit facility” is not defined. However, the credit facilities to which the amendments apply are those provided by banks or financial institutions. Banks and financial institutions as defined under the Banking Act (Cap. 488) are restricted to institutions which carry out banking or financial services and are licensed by the CBK under the Banking Act. It follows that those institutions which are licensed and/or operate under different statutory regimes such as say microfinance institutions - see the Microfinance Act (Cap. 493D), will not be caught by the Act.
If, however the institution is a bank or a financial institution, then all its lending will come within the ambit of the amendment e.g. credit cards, hire purchase etc.
One of the more puzzling aspects of the legislation is whether or not it potentially has any retrospective effect i.e. does it affect arrangements or agreements reached prior to its enactment? It seems plain that the newly introduced Section 31A, requiring prior disclosure of all charges and terms of a loan relates to the future.
Perhaps not so clear are the interest rate cap provisions - Section 33B. Sub-section 33B(1) - which cut the swathe rather widely and may potentially have a retrospective effect in that banks and financial institutions are required when the Act comes into operation to set their interest rates in accordance with these sections, but this might be consistent with subsequent sections. Sub-section 33B(2) - states that, “a person shall not enter into an agreement or arrangement to borrow or lend directly or indirectly at an interest rate in excess of that prescribed by law,” while Sub-section 33B(3) imposes criminal penalties on banks or financial institutions which violate Sub-section 33B(2).
The canon against non-retroactive laws is a fundamental aspect of the Rule of Law, giving effect to the principle that liability or culpability should only be imposed on the basis of public laws to which subjects had prior notice. In addition, there is an express prohibition against retroactive laws in Article 50(2)(n) of the Constitution of Kenya, thus a retrospective reading of Sections 33(B)(2) & (3) would render them unconstitutional.
The Supreme Court has also held in the civil context, that a retroactive law is not unconstitutional unless it, " (i) is in the nature of a bill of attainder; (ii) impairs the obligation under contracts; (iii) divests vested rights; or (iv) is constitutionally forbidden. It seems, that any reading of Section 33(B)(1) which gives it retroactive effect would fall afoul of the second and third of these rules."
Also, it is a tenet of constitutional interpretation to avoid reading a statute in a manner that would give rise to constitutional infirmity. Thus, Section 33B should be read as non-retrospective.
It has been suggested that the new provisions cannot come into force until subsidiary legislation is promulgated by the CBK giving effect to them; there is no legal basis for this suggestion. While the Cabinet Secretary for Finance is indeed empowered to make regulation, there is nothing in the Act which requires such regulation for it to be operationalised.
It is still too early to make a call on the effect of the Act going forward. As we noted the Executive has committed itself towards its full implementation as well as to further financial sector reforms, to avoid any possible deleterious effects as well as to increase access to credit. While maintaining its reservations as to its wisdom, the CBK stated, “We continue to express concern on the adverse consequences of capping interest rates. These would include, inefficiencies in the credit market, credit rationing, promotion of informal lending channels, and undermining the effectiveness of monetary policy transmission,” however it has also been steadfast that reforms are required to increase access to credit at an affordable cost.
By Walter Amoko
Further to our legal alert titled the “Kenya Government-led banking shake-up: the Banking (Amendment) Act, 2016”, the Banking Amendment Act, 2016 has now been published in the Kenya Gazette Supplement No. 143 confirming the date of commencement as 14th September, 2016.
In addition to the provisions on commencement of statutes highlighted in our earlier article, Article 116(2) of the Constitution further provides that an Act of Parliament comes into force fourteen (14) days after its publication in the Gazette, unless the Act stipulates a different date or time at which it will come into force. Section 9(1) (as earlier highlighted) is therefore inconsistent with Article 116(2) of the Constitution of Kenya, 2010. Article 2(4) of the Constitution, however, provides that, “Any law… that is inconsistent with this Constitution is void to the extent of the inconsistency...” and as such the Constitutional provision on commencement prevails.
Assented into law on 13th September 2016, the Finance Act, 2016 (the Act) is expected to advance the theme for this year’s budget, “Consolidating gains for a prosperous Kenya.” The amendments to tax legislation such as the Excise Duty Act, 2015 (the Excise Duty Act), Income Tax Act, Cap. 470 (the Income Tax Act), Special Economic Zones Act, 2015 (the Special Economic Zones Act), Tax Procedures Act, 2015 (the Tax Procedures Act) and VAT Act, 2013 (the VAT Act), are targeted towards enhancing growth of certain key sectors including agriculture, construction, health, manufacturing, and tourism. The Government has also been on a campaign to improve the living standards of Kenyans by alleviating poverty and most importantly creating a regulatory framework that is geared towards protection of the environment, all evident in these amendments.
The amendments to the Excise Duty Act, 2015 are mainly targeted towards the manufacturing sector and consequently the following items are now exempt from excise duty:
The Government has taken a give and take approach when it comes to personal taxation. It has expanded the PAYE tax while increasing the personal relief amount by a meager ten percent (10%) entitled to an individual taxpayer from KES 13, 944 to KES 15, 360 per annum. Furthermore, individuals earning low incomes (of maximum KES 121, 969 per annum) will not be subjected to tax on any bonuses, overtime or retirement benefits they receive.
In an effort to encourage real estate developments to mitigate the housing problem in Kenya, a company that constructs at least 400 residential units annually, will be subject to corporation tax at the rate of 15% for that year of income. This is subject to the approval of the cabinet secretary for housing. In the event that the company is involved in different business activities, the rate of fifteen percent (15%) will only apply to the turnovers from its housing construction activities.
It is now possible to transfer properties or assets between spouses, former spouses, immediate family, including as part of a divorce of separation settlement) or a company where the spouse and immediate family members hold one hundred percent (100%) shareholding without having any capital gains taxation, which was initially applicable at the rate of five percent (5%).
Under the Tax Procedures Act, 2015 the Commissioner may now require a taxpayer to furnish the Kenya Revenue Authority with returns showing such information as the Commissioner may prescribe.
For a while now the Government has realised that despite the development of residential houses, very few landlords have been declaring their rental income. The Tax Procedures Act, 2015 has been amended to the effect that the Commissioner shall not assess principal, tax and penalties on a taxpayer before and during the year 2013. Moreover no penalties and interest will be raised in respect of 2014 and 2015, where the income is in respect of the gain or use of property earned by an individual, where the returns for the same years have been submitted latest 30th June, 2016.
In order to encourage repatriation of money for re-investment in Kenya, the Government will grant a tax amnesty to taxpayers who own assets and businesses in other jurisdictions. However, the taxpayer has to file income tax returns for the year 2016 by the end of the year. It is important to note that the Government has given assurances not to investigate or follow up on the source of income and assets.
The Commissioner shall repay overpaid taxes within a period of two years from the date of application for the refund, failure of which the amount due shall (or part thereof that remains unpaid for a period of two years shall attract an interest of one percent (1%) per month).
New timelines have been introduced in respect of certain actions to be undertaken by the Commissioner. Firstly, where a taxpayer has been unable to pay tax due and has notified the Commissioner of the same, the Commissioner shall, in writing accept, cancel, amend or reject the notification within thirty (30) days. A taxpayer’s application to the Commissioner for a refund of overpaid taxes, has to be made within five (5) years from when the tax was paid. On the other hand, the Commissioner shall notify the taxpayer, in writing of the decision in relation to the application within ninety (90) days of receiving the application.
There have been amendments to the Special Economic Zones Act to provide that tax incentives in respect of special economic zones shall be provided for under the country’s tax statutes, being the East African Community Customs Management Act (No. 1 of 2005), Income Tax Act, and the VAT Act.
The VAT Act, has now defined a hotel to include, “service and apartments, beach cottages, holiday cottages, game lodges, safari camps, bandas or holiday villas, and other premises or establishments used for similar purposes..”, bringing all such establishments within the VAT net. This however does not apply to premises with a lease that exceeds one month, student accommodation and medical staff quarters. In addition, any supply of taxable goods intended for the direct or exclusive use for construction of tourism facilities, recreational parks of at least fifty (50) acres, convention or conference facilities will be exempt from VAT upon recommendation by the Cabinet Secretary for tourism. In order to encourage both domestic and international tourism, the park entry fees paid by tourists will now be exempt from VAT. Furthermore, any commissions earned by tour operators will be exempt.
A good healthcare system is key to any economy, in Kenya the system has mainly been dominated by public hospitals. In order to encourage more private individuals to invest in this sector by constructing medical facilities, the Government has now exempted from VAT any goods that are used for direct and exclusive use in the construction of specialised hospitals, with accommodation facilities upon recommendation by the Cabinet Secretary for Health.
In an effort to reduce the cost of production for the manufacturing sector, petroleum products will remain exempt for VAT purposes for another twelve (12) months after September, 2016. These include aviation spirits, gas oil, kerosene, motor spirits and liquid gas.
In an effort to boost the agricultural sector, some specific raw materials used in the manufacture of animal feeds will now be exempt from VAT, it is anticipated that this will make animal feeds more affordable for farmers and reduce their cost of production.
In case of any queries in respect of these developments, please contact our lawyers (listed below) or your main contact at our firm.
The Finance Act, 2016 (the Finance Act) has amended the Capital Markets Act ((Cap. 485A) the Capital Markets Act), in a bid to facilitate the issuance of regulations to govern online foreign exchange trading and to bolster the legal framework for the country’s first commodities exchange. The Capital Markets Act now includes a definition of online forex broker under Section 2. Furthermore, Section 12 has been amended to enhance the Cabinet Secretary’s powers to make rules and regulations on disclosures in securities transactions that relate to online forex trading activities and online forex brokers, among others. The term commodities exchange has been inserted immediately after the term securities exchange in Sections 19, 19A, 20, 21, 22A and 23 of the Capital Markets Act, thereby making the regulation of the commodities exchange substantially similar to that of the securities exchange. In keeping with this objective, Section 25A (1) has been amended by inserting the words commodities or derivatives immediately after the word securities wherever it appears in the said section.
In addition, the Finance Act has amended Section 31 of the Banking Act ((Cap. 488) the Banking Act) which regulates the publication of information to allow the institutions licensed under the Sacco Societies Act, 2008; public utility companies and any other institution mandated to share credit information to exchange such information on non-performing loans as may be specified by the Central Bank of Kenya (CBK) in its guidelines. By virtue of amendments to Section 34(2) of the Banking Act, the CBK is now required to consult with the Cabinet Secretary before exercising its powers to intervene in the management of a financial institution. The said section has been amended by inserting the words in consultation with the Cabinet Secretary immediately after the phrases, Central Bank may.
Moreover, stiffer penalties for failure to comply with any directions of the CBK under the Banking Act or the Prudential Guidelines have been introduced in the amendments to Section 55(2) of the Banking Act as follows:
She has advised local and international clients from various target sectors such as energy, oil, manufacturing and financial services in arbitration & mediation, constitutional law, land disputes, debt recovery, banking & commercial litigation, and insolvency matters.
Eva recently advised a bank on enforcement of third party securities under the Insolvency Act, 2015 as well as advising an oil company on its prospective claim against the National Land Commission for denial of fair administrative action under the Constitution in its compulsory acquisition of the oil company’s land.
Eva has a Bachelor of Laws (LLB) from Moi University and a post-graduate diploma in Law from the Kenya School of Law.
A capital market is a medium for the buying and selling of equity securities (shares) and debt securities (bonds), in order to raise medium to long-term financing. A company may issue securities either through shares or bonds to raise money. Bonds may also be issued by entities who are in need of long-term cash such as national governments. Securities are issued at a primary market and traded in a secondary market. In a primary market, a company would have face-to-face meetings with investors in order to place its securities. Alternatively, a company may work with an investment bank which would act as an intermediary and underwrite the offering. In a secondary market the original investors may sell the securities they have purchased to third parties. The trading of securities in a secondary market is opened up to all participants in the market. One of the main functions of a capital market is to spur economic growth by providing a medium where the demand for funds may be matched with the supply of funds. Capital markets should be supervised and controlled by regulatory bodies to ensure that the highest levels of professionalism and ethics are maintained by all participants.
Islamic Capital Markets
Islamic capital markets (ICMs) refer to capital markets where sharia’h complaint financial assets are transacted. ICMs function as a parallel market to the conventional capital market by helping investors find sharia’h compliant investments. ICMs also play a complementary role to the Islamic banking system in broadening and deepening the Islamic financial markets. There are presently no Islamic–only securities exchanges. ICM instruments are traded on many of the world’s leading securities exchanges (where conventional market instruments are traded). ICMs do not have an organised regulatory authority because they are in the infant stage so the conventional capital market authority in any given country or region ordinarily supervises the ICM as well. An example of this is Malaysia, where the Securities Commission of Malaysia has a sharia’h council that is specifically responsible for sharia’h related matters of ICM activities. Regulatory agencies in other nations with active ICMs have followed suit, including Kenya In a typical ICM, transactions are carried out in ways that do not conflict with the teachings and tenets of Islam. There is certainly an assertion of Islamic law that ICMs are free from activities prohibited in Islam such as usury/interest (riba), gambling (maisir), ambiguity (gharar) and speculation (qimar).
There are various factors that have led to the increased demand for ICM products, including the increase of wealth among Muslim investors (especially from nations that are part of the Gulf Cooperation Council i.e. Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and United Arab Emirates); the growth of the Muslim population in regions such as Africa, Asia, Middle East and South America, especially in Asia and Africa, which currently account for over ninety five per cent (95%) of the world’s Islamic population and which are projected to grow by a further thirty five per cent (35%) by the year 2030. These regions also contain large ‘unbanked’ populations, which can be harnessed by Islamic banking models. Growth in the retirement population is also creating demand for Islamic pension and asset management products whilst there is also an increased awareness about Islamic banking and finance and a rise in per capita income and wealth held by Muslims in line with the trends in other faith-based groups. Africa is currently ranked as the third fastest growing Islamic finance region in the world after Asia and Middle East according to the African Development Bank. This growth signifies an increased demand for sharia’h compliant products and services.
The Global Islamic Finance Report (GIFR) 2010, was the first publication to report that the Islamic financial assets had exceeded USD 1 trillion by the end of 2009. GIFR 2017 reports that the global Islamic financial services industry stood at USD 2.293 trillion at the end of December 2016 which is USD 150.01 billion more than 2015 when the industry stood at USD 2.143 trillion. GIFR 2017 states that the assets under management of the banks offering Islamic financial services was USD 1.719 billion which is seventy five per cent (75%) of the total Islamic financial assets. There are expectations of the market size growing to USD 3.4 trillion by end of 2018, an eighty one per cent (81%) growth according to the Islamic Financial Services Industry Stability Report 2016. The second largest sector in terms of assets under management is Islamic bonds (sukuk), which comprises fifteen per cent (15%) of the global Islamic financial services industry. In the first half of 2015, the global sukuk amount outstanding stood at USD 291 billion, while Islamic funds assets figure was USD 71.3 billion. Islamic investment funds have not yet seen any significant growth and so is the case for takaful ( insurance) and the emerging business of Islamic microfinance.
The Kenyan Approach
Kenya is positioning itself as a hub for sharia’h financial services in East and Central Africa. The country’s Muslim population is estimated to be about eleven per cent (11%) of the total population while the non-Muslim population may also be keen on taking up Islamic finance products. This outstrips the two percent (2%) penetration of Islamic finance in the global economy hence the reason why Kenya has potential for Islamic finance products and services. Currently, the Capital Markets Authority (CMA) has registered two (2) Islamic Collective Investment Schemes and one (1) Islamic Fund Manager.
The strategy to accelerate Islamic finance uptake is underpinned by the ambition to transform Kenya into an International Finance Centre as part of the implementation of the Capital Market Master Plan, which is a Vision 2020 flagship project. As part of this strategy, the CMA was admitted by the Council of the Islamic Financial Services Board (IFSB) as an associate member of the IFSB based in Kuala Lumpur, Malaysia. The decision to admit the CMA was made at the 29th IFSB Council meeting held in Cairo, Egypt on 14th December, 2016. The role of the IFSB which is a global standard setting body is to promote the development of a prudent and transparent Islamic financial services industry.
In line with the Government’s aspiration to position Kenya as an Islamic finance hub in the region and deepen the application of Islamic finance within the economy, the CMA has achieved various milestones, including:-
Another significant development in Islamic finance in Kenya is the appointment of members of the Islamic Finance Consultative Committee (IFCC) by the National Treasury. The IFCC is an industry stakeholder committee whose main objective is to provide support and feedback on the proposed Islamic finance policies and regulatory changes to facilitate operations in this complementary form of finance. The IFCC is a key governance committee that shall be next in line to the apex committee – the Islamic Finance Steering Committee (IFSC). The IFCC may refer issues that require urgent resolution to the IFSC for expeditious guidance.
In the long term, CMA intends to integrate sukuk issuance within the national public debt management framework so that it is used to raise funds by Government (issuer) on condition that the underlying transaction is structured based on various sharia’h principles or contracts. In addition, CMA should allow for the following products
to investors who are interested in investing in ICMs:
Sharia’h compliant derivatives products which are either exchange-traded such as Futures and Single Stock Futures (provided the underlying shares are sharia’h-compliant) or Over the Counter which can either be Islamic profit rate swap; foreign exchange swap and cross currency swap.
Sharia’h compliant securities, Islamic indexes, Islamic unit trusts, Islamic venture capital/private equity, Islamic exchange traded fund, Islamic fund management, Islamic real estate investment trusts, Islamic structured products and Islamic stock broking.
In recent years, the rapid growth of Islamic banking products, not only in Kenya but globally, has been significant enough that the International Monetary Fund (IMF) commissioned a working paper in 2014 on the need for legal and prudential regulation of the sector. The working paper relied on a survey of a wide spread of areas including the Middle East, Indonesia, the United Kingdom, North Africa and Sub-Saharan Africa. More recently, in January 2017 the IMF published a Multi-Country Report (the Report) in which it recognised that the legal framework in Kenya has not adapted to the specificities of Islamic banking and that there are remaining gaps in the shari’ah governance framework in Kenya. While the Report made reference to the 2014 working paper and noted that a significant number of banks and financial institutions were offering Islamic banking products, with Kenyan banks being the key players in the market, there was a growing need for regulation of the sector to ensure that Islamic banking was being practised within the accepted parameters of shari’ah compliance.
The concept of Islamic banking is rooted in certain elements that are prohibited since they are innately haram (or forbidden) in Islam and for this reason the said elements must be excluded from any contract between contracting parties, as such a contract would be rendered non shari’ah compliant if it incorporates these elements. The said elements include riba (interest), gharar (uncertainty), maysir (gambling) and qimar (speculation). From a financing perspective, a bank offering Islamic banking products to its customers would thus need to ensure that the said elements do not form part of any financing transaction for a contract to be considered shari’ah compliant.
In essence, the unique nature of shari’ah compliance from a financial perspective immediately poses challenges that current regulatory legislation such as the Banking Act (Cap. 488) and the Central Bank of Kenya Act (Cap. 491) (the CBK Act) do not sufficiently deal with. The Kenya Deposit Insurance Corporation Act, 2012 which aims to protect depositors of troubled banks, is equally not well suited to cater for depositors of banks that provide Islamic banking products, as well as conventional banking as deposit premiums from account holders of purely Islamic financial products are not segregated from premiums of regular deposit holders. The premiums from Islamic banking products would need to be aligned to the takaful insurance model which is an Islamic alternative to commercial insurance and also emphasises avoidance of riba, maysir and qimar.
The need for a regulatory framework has become even more pressing, based on the fact that international banks offering Islamic products are keen on breaking into the Kenyan financial market in order to exploit the full potential of Islamic banking, the most recent entry being that of Dubai Islamic Bank, which is one of the largest banks in the United Arab Emirates. It has recently been granted a licence to operate in Kenya.
The Malaysian Model
The regulation of the shari’ah model in the Kenyan context should draw significant inspiration from the Malaysian model of regulation which started with a primer for the Islamic banking business with the enactment of the Islamic Banking Act, 1983 and later made strides toward incorporation of regulation of shari’ah based financial activity by amendments to the Central Bank of Malaysia Act, 1958 in the year 2003 to incorporate provisions for regulation of the Islamic banking industry by amongst other things, establishing a Shari’ah Advisory Council (SAC) as the authority for ascertainment of Islamic laws that would be applicable to shari’ah financial products. On 1st July 2013 the Islamic Financial Services Act (IFSA) was enacted and it repealed the IBA to give way for a consolidated and contract based framework for Islamic finance.
The SAC in Malaysia initially played the role of a referee for court or arbitration proceedings and while the rulings of the SAC were binding on arbitration proceedings, they were only of persuasive value to the courts. The repeal and replacement of the Central Bank of Malaysia Act , 1958 with the Central Bank of Malaysia Act , 2009 changed this position and made it mandatory for courts to take into consideration the rulings of the SAC.
The challenges that a SAC would face in the Kenyan context would be in having the commercial division of the High Court consider rulings by the SAC which would be decided on Islamic finance principles as opposed to other sources of law such as English contract law, and common law as it does now. However, the obstacle is surmountable on the basis that Malaysia, like Kenya, has a system where only matters related to Muslim marriage and divorce matters are adjudicated upon by Kadhis, while all commercial matters are adjudicated upon by secular courts. In so far as an interpretation of Islamic law is not at odds with the English contract law position, the commercial courts in Kenya would be able to apply the principles espoused by a SAC to an adjudication before it.
The need for a SAC is underpinned by fact that shari’ah law has its primary sources being the Quran (the Holy Scripture) and Sunnah (the way of the prophet Mohamed). The model is much like English law which has its primary foundations in statute and subsidiary legislation, the application of which, over time, has developed common law as a secondary source. In Islamic law, the branch of religious knowledge known as fiqh (understanding) informs the theoretical basis and jurisprudence of shari’ah law which in turn is developed by itjihad (interpretation) of the primary sources. The different schools of fiqh inform the interpretation of the principles of Islamic law and the application of these principles through a SAC would be vital in codification and regulation of the sector as it will result in a blue print of the dos and don’ts for the drafting and structuring of Islamic finance contracts by banks. With a SAC in place, law firms would also be in a better position to advise on accepted practice and viability of the structuring of Islamic finance contracts on accepted industry practice within SAC and regulator acceptable guidelines.
The Interpretation Challenge
In Islamic banking, one of the core contracting principles is that a sale is allowed as it is a real transaction and provides for a fair distribution of risk and results in real value while riba is forbidden. The application of the principle can be seen in the most basic home financing agreement, also known as the diminishing musharkah agreement in Kenya. This involves a back to back buying and selling where the customer of the bank will first sell the asset to the bank at a spot price and the bank will immediately sell the asset back to the customer at a higher price, on a deferred payment basis. The model sits squarely within the principles of Islamic banking as the parties are contracting on an ascertainable asset which will result in a profit for the bank on the deferred payment basis and the transaction will result in ascertainable value for the customer thereby knocking out the forbidden elements of riba, gharar and qimar. The bank will usually protect its interest by registering a charge over the property.
A separate form of the diminishing musharakah contract exists known as the bay al’ inah, which is a form of personal financing where the customer has nothing to sell but is in need of obtaining cash in the form of personal financing, In the bay al’ inah contract the bank, as the original owner, will sell the asset to the customer on a deferred payment basis and the customer, being the new owner, will immediately sell the asset back to the bank, at a lower spot payment price in order to obtain personal financing. In this case there is no charge over the asset as it is a mode of personal financing and the same will usually be secured by a pledge or personal guarantee. This form of Islamic finance is from the Shafi fiqh and is validated by some scholars as it conforms with the essential elements of a sale i.e. the subject matter is ascertainable and the transaction involves profit on a deferred payment basis. On the other hand, some schools of thought and some Shafi scholars have disapproved of it on the basis that it involves two sales in one and is a legal device intended to circumvent the prohibition of riba.
The Report recognises that the Central Bank of Kenya has accommodated Islamic banks by exempting them from provisions of the CBK Act that prohibit trading or investment in consideration of their business, but does not provide adequate guidance on the Islamic concepts applicable in Kenya.
The introduction of regulation and the establishment of a SAC will ensure that there is a uniform application of the principles and concepts of Islamic banking and with authoritative determinations from a panel of experts, plus, a sure footed regulatory and governance structure and law firms would also be able to authoritatively advise clients on the best practice on structuring finance agreements, without running the regulatory risk of being adjudged as having breached essential shari’ah compliant elements. This form of regulation would also ensure bank customers that the Islamic finance products that they are subscribing to, fit within established guidelines and they do not run the risk of being subjected to contracts that have been innovatively disguised as shari’ah compliant.
In conclusion, the regulation of the Islamic banking sector would not only prevent it from possible and perceived breaches but would ensure its robust development in the Kenyan market.
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