Raising the bar for Shariah excellence: Inside IDLC Islamic’s distinctive practices

Islamic finance referring to it as an 'interest-free' banking system is technically right; however, it does not tell the whole story. The essence of Islamic finance is that it advocates for ethical economic practices. The focus of Islamic finance is on asset-backed transactions and the sharing of risk and the fairness of the contracts entered into by parties. Thus, authenticity in Islamic finance is not just about the use of Shariah-compliant contract names. Rather, it is about the actual structure and implementation of such contracts and their documentation. True Shariah compliance is about the actual implementation and operation of the contracts and the systems put in place to govern the same at all stages.

International bodies such as the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) have formulated elaborate Shariah compliance guidelines for Islamic financial institutions (IFIs) that help keep the actual transactions in the financial system aligned with Islamic ethical principles; however, for this to be achieved effectively, it requires a strong institutional commitment.

Strong demand, uneven standards

In the past two decades, Islamic finance in Bangladesh has experienced a surge. Islamic deposits currently form about 23% of the total deposits in the banking system. Similarly, Islamic financing currently forms about 28% of the total financing. However, full-fledged Islamic banks currently form only about 18% of the total banking network. This points us to an important fact. The demand for Islamic financial services is rising much more rapidly than the supply of full-fledged Islamic financial institutions.  At the same time, however, the rapid expansion also sparks concerns regarding the level and extent of Shariah compliance. In many markets, including Bangladesh, financial transactions may become excessively form-based. In this case, the genuineness of Islamic finance may erode over time. In this context, transparency-focused organizations have a competitive advantage.

Differentiated practices at IDLC Islamic

Several practices have been introduced by the Islamic finance window of IDLC Finance PLC to enhance Shariah integrity and operational transparency.

Strengthening Transparency in Mudarabah Deposits through Profit Sharing Ratios

In Islamic deposit products structured under Mudarabah, depositors provide capital while the financial institution acts as the fund manager. Profits generated from Shariah-compliant financing are then shared between the two parties according to a predetermined ratio. At IDLC Islamic, deposit products follow the Profit Sharing Ratio (PSR) approach which aligns AAOIFI guidelines. Under this method, profit is distributed according to clearly defined sharing ratios agreed upon between the institution and depositors. This method enhances transparency because it links depositor returns directly to the performance of Shariah-compliant financing.

Linking variable returns to real economic performance

Another key feature of Islamic finance is that financial returns should reflect real economic outcomes. Unlike conventional interest-based systems, returns are not predetermined. This principle also affects how institutions treat non-performing investments. When an investment becomes non-performing, accounting standards require the institution to suspend income recognition until recovery occurs. At IDLC Islamic, the impact of suspended income on depositors' profit is managed through diversified financing pool management and careful risk oversight. Depositors' profit should reflect the genuine performance of the projects financed. As a result, depositors' returns may vary depending on the performance of the portfolio. Although this introduces some variability, it reinforces a central ethical principle of Islamic finance.

Adoption of Ijarah Muntahia Bittamleek (IMBT) mode

For asset-based financing in Bangladesh, the structure known as Hire Purchase under Shirkatul Melk (HPSM) is widely used. Both HPSM and Ijarah Muntahia Bittamleek  (IMBT) share a similar objective. They involve joint ownership of an asset followed by its eventual transfer to the client. However, their treatment of ownership differs in important ways. Under typical HPSM practices, a portion of the financial institution's ownership is gradually transferred to the client with each installment payment. These ownership transfers often occur automatically within accounting systems without a separate buy-sale transaction. From a Shariah perspective, this approach may raise concerns. To address this issue, IDLC Islamic uses the AAOIFI recognized IMBT structure. Under this arrangement, the IFI remains the owner of the asset during the lease period. Ownership is transferred to the client only after the lease obligations are fulfilled and through a clearly documented sale, usually at a nominal price.

Sharing Takaful costs according to ownership ratio

Ownership principles also apply to Takaful (Islamic insurance), coverage for leased assets. Because assets financed under IMBT involve shared ownership during the financing period, the cost of Takaful coverage should ideally be shared in proportion to ownership. In practice, however, it is common across the industry for the entire cost to be passed on to the client. In this case, IDLC Islamic follows a different approach. Where Takaful coverage is required, the institution shares the cost with the client in proportion to their respective ownership in the asset. This practice reflects the Shariah principle that the owner of an asset should bear responsibility for risks associated with ownership.

Direct vendor payment in Murabahah transactions

Murabahah financing is fundamentally a trade-based transaction. The financial institution first purchases an asset and then sells it to the client at a disclosed profit margin. In some market practices, financing funds are disbursed directly to the client, who then purchases the asset independently. At IDLC Islamic, Murabahah transactions are carried out through direct vendor payments. The institution purchases the asset from supplier and pays him directly. The asset is then sold to the client under a Murabahah agreement. This sequence ensures that the institution genuinely assumes ownership before selling the asset. It also helps ensure that funds are used for their intended purpose. Each stage of the transaction is carefully documented to maintain proper Shariah sequencing.

Segregation of Islamic funds and dedicated operational infrastructure

Operating Islamic finance within a hybrid financial institution requires clear separation between Islamic and conventional funds. At IDLC Islamic, this segregation is maintained through dedicated core banking software (CBS), separate asset pools and bank accounts, and clearly defined operational procedures. These systems keep Islamic financing funds insulated from conventional financing activities. Such segregation allows accurate profit calculation, enhances transparency for regulators and depositors, and strengthens confidence that deposits are managed in accordance with Shariah principles.

Investing in professional expertise

Strong Shariah compliance also depends on knowledgeable professionals. For this reason, IDLC Islamic invests in developing its human capital. Team members are encouraged to pursue internationally recognized certifications in Islamic finance. These include programs such as Certified Shariah Advisor and Auditor (CSAA), Certificate of Proficiency in Shariah Standards (CPSS), Certified Islamic Professional Accountant (CIPA), and Certified Islamic Banking and Finance Professional (CIBFP). Through these initiatives, IDLC strengthens its internal capability to implement Shariah principles effectively. At the same time, it contributes to the broader development of Islamic finance expertise in Bangladesh.

The future of Islamic finance in Bangladesh will depend not only on growth but also on credibility. By maintaining high operational standards and encouraging dialogue on best practices, IDLC Islamic aims to contribute positively to the continued development of Islamic finance in Bangladesh. It also believes that practices such as external Shariah audits and external Shariah ratings can further enhance compliance and transparency. In this regard, regulatory initiatives from the central bank, including the development of appropriate guidelines and the engagement of independent audit firms, could play an important role.

M Jamal Uddin is CEO & Managing Director, IDLC Finance PLC