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Legal Risks Faced by Investors in Dealing with Islamic Financial Legal Risks Faced By Investors in Dealing with Islamic Financial Transactions and Mitigation Actions/Strategies to Keep Off Legal Risks: The Case of Murabaha Transaction Mohammad Almohana University of Exeter Degree of Doctor of Philosophy in Law January 2017 1 Abstract Background: This research project is based on the subject of legal risks that has faced by investors in dealing with Murabaha Islamic transaction. This research project portrays background history of Sharia law and about Murabaha Islamic transaction. In the context of this Islamic transaction, legal risks and actions/strategies to deal with risks of Murabaha has represented under this research study. Aim and Objectives: The main aim of the research is thus to explore the legal risks associated with Murabaha transactions, and to identify ways of mitigating such risks. The research objectives are directed to represent about Murabaha transaction, risks involved in Murabaha transaction and solutions/actions to mitigate risks. Methodology: The data collection process has initiated with collection of secondary sources, along with the examination of contracts formed between banks and clients. This will be helpful in acquiring relevant information about the legal risks involved in Murabaha Islamic financial transaction. Results and Analysis: It has been analysed that legal risks in Murabaha Islamic financial transaction has negatively impacted interests of the parties involved in it. In contrast to the other investment options, it is considered as a highly risky due to high probability of bad debt risk. It has been analysed that banks can prevent harm from risks involved in this transaction through effective financial strategy. Conclusion: It can be concluded that Murabaha transaction is highly risky investment option in Islamic banking that have involved different legal risks, such as credit risk, liquidity risk, mark-up risk, operational risk, unauthorised agreement risk, transparency risk, commodity risks and others. It can be concluded that lack of new amendments in the Sharia system is the big issue that emerges risks in Murabaha financial transaction. It is crucial for Islamic banks and other parties involved in Murabaha to do proper scrutiny and processing prior undertaken this Islamic financial transaction. 2 Acknowledgement On the successful completion of this research project, I am highly grateful to my supervisor, who has provided a good support and assistance. I am also thankful for family members, friends and relatives, who have provided moral support to me. Above all, I am highly thankful to Almighty Allah for staying me blessed. 3 Table of Contents Abstract ................................................................................................................. 2 Chapter 1: Introduction ......................................................................................... 7 1.1Introduction ................................................................................................... 8 1.2 Aims, OObjectives, and Research Gap ..................................................... 45 1.2.1 Research gap ......................................................................................... 46 1.3 Islamic finance and its history: the origins of a modern phenomenon ....... 47 1.4 Differences between the Saudi regime and Sharia law ............................. 50 1.5 Islamic jurisdiction...................................................................................... 62 1.6 Principles of Islamic finance ...................................................................... 64 Prohibition of riba ......................................................................................... 69 Prohibition of gharar .................................................................................... 70 Prohibition of maysir .................................................................................... 73 Principle of risk sharing ................................................................................ 74 Principle of materiality .................................................................................. 76 Principle of avoiding exploitation in financial transactions ........................... 77 1.7 Risks in Islamic finance ............................................................................. 79 1.8 Murabaha .................................................................................................. 86 The functioning of Murabaha financing ........................................................ 88 Advantages of Murabaha ............................................................................. 98 Risks associated with Murabaha transactions ............................................. 99 Actions for managing risks associated with Murabaha .............................. 101 1.9 Research Questions and Sub-Questions ................................................. 101 1.10 Research methodology .......................................................................... 102 MurabahaResearch Approach ................................................................... 103 Research design ........................................................................................ 104 Contract review and analysis ..................................................................... 105 Details of contracts and their justification ................................................... 105 Data analysis method ................................................................................ 107 Limitations of selected research methods .................................................. 108 Ethical considerations ................................................................................ 109 1.11 Organisation of dissertation ................................................................... 110 1.12 Conclusion and Transition ..................................................................... 111 Chapter 2: Saudi Legal System ........................................................................ 114 2.1 Introduction .............................................................................................. 114 2.2 Overview of Saudi Arabia ........................................................................ 114 4 2.3 Defining Sharia ........................................................................................ 116 2.3.1 Sharia’s Legal Sources ..................................................................... 117 2.3.1.1 The Primary Sources of Sharia: the Quran and the Sunnah .......... 117 2.3.1.1.1 The Quran ................................................................................... 117 2.3.1.1.2 The Sunnah ....................................................................................... 118 2.3.1.2 The Secondary Sources ....................................................................... 119 2.3.1.2.1 Ijma ................................................................................................. 119 2.3.1.2.2 Qiyas .............................................................................................. 119 2.3.2 Islamic Schools (madhhab) ...................................................................... 120 2.3.2.1 The Hanafi School ............................................................................. 121 2.3.2.2 The Maliki School .............................................................................. 122 2.3.2.3 The Shafii School ............................................................................... 122 2.3.2.4 The Hanbali School ........................................................................... 123 2.4 Saudi Arabian Banking and Financial Laws ................................................ 123 2.4.1 The Banking Control Law (BCL) ....................................................... 124 2.4.2 The Capital Market Law (CML) ......................................................... 125 2.5 Authorities responsible for the regulation and supervision of Islamic Banking and Financial Activities in Saudi Arabia ........................................... 126 2.5.1 The Saudi Arabian Monetary Agency (SAMA) .................................. 126 2.5.2 The Capital Market Authority (CMA) ................................................. 127 Chapter 3: Findings and Analysis...................................................................... 129 3.1 Introduction .............................................................................................. 130 3.2 Religion, law, and banking in Saudi Arabia .............................................. 132 3.3 Introduction to legal risk of Murabaha – a legal and financial analysis .... 134 Mitigating legal risks .................................................................................. 139 3.4 Findings from the Analysis of the Contracts ............................................. 143 Risks related to Al Bilad Bank Contracts .................................................... 145 Risks related to Al Rajhi Bank Contracts: A Glimpse into the Uses and Abuses of Islamic Law ............................................................................... 150 3.5. Critical analysis of the contracts ............................................................. 152 3.6 Conclusion ............................................................................................... 155 Chapter 4: Analysis of the Legal Risks Associated with Murabaha Contracts and Actions to Mitigate Legal Risks
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