Sharī’ah is the backbone of the Islamic banks (IBs) in which they operate. Failure to observe Sharī’ah compliance therefore triggers negative repercussions in IBs. Over the last two decades, a number of cases have been brought to court to challenge the legitimacy of Islamic banking products. In some cases, these challenges have resulted in financial loss for IBs. In view of this, Bank Negara Malaysia (BNM) has initiated commendable efforts to create a Sharī’ah non-compliant risk culture in IBs. However, ensuring Sharī’ah compliance is not a simple and straightforward matter. As IBs continue to witness a remarkable growth and product complexity, Sharī’ah non-compliance incidents and disputes are likely to emerge. This research investigates various forms of potential Sharī'ah non-compliant (SNC) events, and the Sharī’ah methodology adopted to deal with them, in IBs in the practice of tawarruq financing in Malaysia. The research also identifies the SNC event determinants and the various mechanisms for their mitigation. The research employs the Hanafi and the majority of the jurists (jumhËr) approaches in dealing with an invalid contract to examine the treatment of SNC events in tawarruq financing. A self-administered questionnaire was distributed to 16 respondents to explore SNC events in 16 Islamic commercial banks which related to the practice of tawarruq financing in Malaysia. The research also includes a series of structured interviews with practitioners, regulators, Sharī’ah advisors and researchers/academicians. Analytic Network Process (ANP) is adopted to prioritise the SNC event determinants as well as measures for their mitigation. The research found that some practices of tawarruq in Malaysia did not comply with the Shari’ah, mainly due to improper sequencing of contracts and absence of commodity. The research suggested that the key SNC event determinants in tawarruq financing were lack of understanding and knowledge, inadequate control mechanism and reporting, ineffective functional structure, incompatibility of system to the execution of Islamic products, improper document execution and sequence, and inadequate internal policies and governing rules. Finally, the research proposes a Sharī’ah methodology and mitigation mechanism for IBs to deal with SNC events in the practice of tawarruq financing in Malaysia. The findings of the research are expected to serve as a reference source to industry players and regulators in formulating an appropriate policy and framework to enhance Sharī’ah governance and compliance practices in IBs in Malaysia.

Many Muslim economists and investors believe that the increase of debt-based financing products of Islamic banks contradicts the very function of these financial institutions, i.e investments. This belief has exposed Islamic banks to a number of criticisms, casting doubt on whether these institutions are really Islamic financial intermediaries. The researcher tries to define and explain the debt-based contracts and compatibility with Islamic laws which include, terminologies like Bai’ Murabahah, Tawarruq, Bai’ Salam and Istisna’. The researcher concludes that Bai’ Murabahah to the purchase orderer with the binding promise feature is “permissible with dislike” in facilitating people's transactions, especially after it has proven its ability to finance the most important economic sectors. The researcher has preponderated the view that prohibits commodity murabaha ( Tawarruq); the latter is only permissible under the extreme conditions of necessity, the extent of which is to be determined by the Shariah committee of the Islamic bank. The research upholds the permission of Bai’ Salam and Istisna' and their economic importance. The research also tries to bridge the gap between the opponents and proponents of debt-based products by looking at the economic value of these products in the Malaysian Islamic banking system. The research focuses on three variables: the ratio of debt-based products to GDP, the role of debt-based products in deposit attraction and lastly, the ability of these products to generate money. The research views that 96% of total financing during the period of 2006-2013 were based on Malaysian Islamic banking system compared with the development of the Malaysian banking system and Malaysian financial institutions. The study has shown positive correlation between debt-based products and the Malaysian GDP, proving that these products have covered several sectors including agriculture, manufacturing, mining and quarrying, construction. Contrarily, the study has also shown a negative correlation between debt-based products on one hand and money supply and inflation on the other.