Risk Management Framework for Shari’ah Compliant Banking

Banks shall ensure that their contract documentation complies with Shari'ah rules and principles, having regard to formation, termination and elements of the contract that could affect contract performance such as fraud, misrepresentation, duress or any other breaches of rights and obligations. 9.8 Banks must track incomes arising from Shari'ah non-compliance activities and assess the risk of recurrence in the future. Based on historical reviews and potential areas of Shari'ah non-compliance, banks may assess potential profits that cannot be recognized as eligible banks' profits. Banks shall seek its Shari'ah Committee ruling and direction with regard to the appropriate cleansing and disposal of non-Shari'ah compliant income. 9.9 Principle 5.0: Banks must have in place appropriate mechanisms to safeguard the interests of all fund providers. Where PSIAs funds are comingled with the banks' own funds, banks shall ensure that the bases for the asset, revenue, expenses and profit allocations are established, applied and reported in a manner consistent with the banks' fiduciary responsibilities. Banks must ensure that they perform in accordance with their fiduciary responsibilities to ensure that the bank is able to (a) meet the demands of current account holders for repayment of their funds; and (b) safeguard the interests of their PSIA holders. 9.10 Banks shall establish and implement a clear and formal policy for undertaking their different and potentially conflicting roles in respect to managing different types of investment accounts. The policy relating to safeguarding the interests of their PSIA holders may include the following with reference to the PSIAs Rules issued by SAMA: 9.10.1 Identification of investing activities that contribute to investment returns and taking reasonable steps to carry on those activities in accordance with the banks' fiduciary and agency duties and to treat all their fund providers appropriately and in accordance with the terms and conditions of their investment agreements, if any; 9.10.2 Allocation of assets and profits between the bank and their PSIA holders is managed and applied appropriately to PSIA holders having funds invested over different investment periods. 9.11 On an annual basis, banks shall undertake an assessment of SNCR as part of their Internal Capital Adequacy Assessment Plan (ICAAP) exercise. The SNCR should be carried out by the risk management function. Compliance with applicable laws and internal policies should reviewed by the Shari'ah compliance function, while independent review of SNCR should be conducted by the Shari'ah audit function. 10. Liquidity Risk 10.1 Principle 6.0: Banks must have in place a liquidity management policies and reporting framework taking into consideration liquidity exposures in respect of each category of current accounts, PSIAs on individual and aggregated basis. 10.2 Banks must also assess their ability to meet the liquidity needs arising from pre-agreed commitments, standby liquidity and credit facilities and potential materialization of guarantees, structured based on Shari'ah rules and principles. 10.3 Banks must maintain adequate liquidity resources to meet their obligations at all times, taking into consideration the nature of their business activities, products and their funding market environment. 10.4 Banks should review their liquidity risk profile and liquidity management policies periodically as market condition changes and implement appropriate measures to ensure that liquidity risk exposures are effectively managed. 11. Equity Investment Risk 11.1 Principle 7.0: Banks must have in place appropriate strategies, risk management and reporting processes in respect of the risk characteristics of equity investments, including Mudarabah and Musharakah investments.