Please refer to IBD Circular No.1 of 2008 on Risk Management Guidelines for Islamic Banking Institutions (IBIs), which provides a set of principles of best practices for establishing and implementing effective risk management in IBIs. At present, it has been noted that there is a lack of uniform practices across the Islamic banking industry regarding management of Shari’ah Non-Compliance Risk (SNCR). On the other hand, increasing size of the industry, nature of its operations, and diversified portfolio of products & services necessitate that IBIs should broaden their focus on management of SNCR.

2.       With a view to reinforce the best SNCR management practices, it has been emphasized that SNCR management shall be an essential element of an IBI’s overall risk management framework. In this respect, followings instructions are being issued:

1. Board of Directors (BoD) of an IBI shall approve and ensure existence of SNCR management as a part of overall risk management framework in line with the size, complexity of their business activities and operations.

2. Senior management shall ensure implementation of the SNCR management framework.

3. BoD or any of its designated sub-committee, responsible for risk management shall also be responsible for monitoring of SNCR in order to keep an eye on risk profile at the enterprise level. Further, the senior management or its existing risk management committee shall also be responsible for close monitoring of SNCR at operational/management level.

4. Necessary steps should be taken to ensure that relevant members of BoD/senior management should possess requisite knowledge and understanding of the risk management of SNCR.

5. SBP’s instructions regarding the Shari’ah rules & principles, including Shari’ah standards and decisions, rulings, fatawa of the Shari’ah Board of an IBI may be used as a main reference for identification of SNCR and controls in different products, services and business activities. However, identification of SNCR may not be limited to these sources/references only. In addition, the observations and discrepancies highlighted by an IBI’s Shari’ah Compliance Department (SCD), Internal Shari’ah Audit Unit (ISAU), external Shari’ah audit and SBP’s inspection team shall also be used for identification of weaknesses in different business activities and operations with respect to SNCR.

6. IBIs shall delineate the appropriate reporting mechanism, including frequency, thresholds/limits for reporting of SNCR events and transactions to the BoD or its sub-committee and risk management committee of senior management.

7. IBIs shall maintain a proper database of all (a) actual losses, (b) potential losses due to Shari’ah non-compliant events/transactions and (c) cases which were initially declared as Shari’ah non-compliant and subsequently rectified/recognized. Actual and potential losses have been defined in Annexure-A.

8. IBIs shall submit details of actual losses incurred due to Shari’ah non-compliant events/transactions to the IBD, SBP on a quarterly basis, within 15 days after end of respective quarter at [email protected]. Reporting format is given in Annexure-A.

3. All IBIs are advised to align their existing risk management framework with these instructions by September 30, 2021.

4. Please acknowledge the receipt.

Encl: Annexure-A