The Need for an Islamic Bankruptcy Code Student editor Esther Agbaje (HLS ’17) suggests that sukuk (commonly called Islamic bonds) are insufficient to handle bankruptcy in financial systems operating with respect to Islamic law, or sharīʿa compliance. Banks and other financial institutions or municipalities that issue sukuk intend for these instrument to organize debt and therefore to be insulated from default. This idea seeks to implement the Islamic law financial principle of profit/loss sharing, designed to limit exposure to default by making both parties invested in the success of the venture. Thus, the Accounting and Auditing Organization for Islamic Financial Institutions – the premier regulatory authority in the Gulf for financial institutions engaged in Islamic finance – defines sukuk as “not debts from the issuer,” but as “fractional proportional interests in underlying assets, usufructs, services, projects or investment activities.” Usingsukuk for sharīʿa-compliant financing, the East Cameron Gas Company defaulted in 2008.With this example, Agbaje argues that sukuk offer an imperfect means of organizing debt or debt-organization schemes, the latter of which can often fail. In short, the East Cameron Company failed to pay its sukuk holders, investors that had loaned money to the company. In the end, a Chapter 11 (U.S. Bankruptcy Code) reorganization reset things by “transform[ing] the sukuk holdings into preferred stock options,” leaving the sukuk scheme Islamic in name only. If sukuk is not protected from default, then it stands to reason that other debt structures within Islamic finance are likely to be susceptible to failure using sukuk. The logical conclusion, Agbaje argues, is that countries that want to rely on Islamic financial instruments still need to develop (or borrow) bankruptcy codes to both support Islamic finance principles and to standardized regulations for handling loan defaults in cases of insolvency. Read more. Image Credit: SHARIAsource

REPORT :: East Cameron Gas: A New Frontier in Sukuk? This report assesses the attempts of a major oil company, East Cameron, to operate a large oil and gas company with respect to Islamic finance principles (so-called sharīʿa compliance). The bankruptcy proceeding that follows hints at the difficulty and potential conflicts of interest in creating sharīʿa-compliant financial instruments that permit company independence without sufficient mechanisms to avoid default. Read more. Image credit: Public Domain/Flickr

STANDARDS:: Auditing and Accounting Organisation for Islamic Financial Institutions’ (AAOIFI) Sharīʿa Standards for Financial Institutions (2010) In 2007, the Auditing and Accounting Organisation for Islamic Financial Institutions (AAOIFI) considered about 85% of sukuk (commonly called Islamic bonds) to be non-sharīʿa-compliant. In 2010 they released these comprehensive guidelines on Islamic finance, including a section on sukuk (pg. 303), which outlines factors to consider when creating Islamic bonds. One such factor is industry, which affects how the terms of the sukuk should be decided. Read more. 

See the full newsletter.