Research Paper (printed copy)

An Appraisal of the Principles Underlying International Financial Reporting Standards (IFRS): A Shari'ah Perspective Authors: USIM: Dr. Zurina Shafii Nurazalia Zakaria Dr. Amir Shaharuddin ISRA: Dr. Beebee Salma Sairally Dr. Mohamed Fairooz Abdul Khir Lokmanulhakim Hussain Mazrul Shahir Md Zuki
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The vision of establishing a common set of accounting standards to be used throughout the world has today received the public support of many international organisations, including the G20 countries, the International Monetary Fund (IMF), the World Bank, the Financial Stability Board, the International Organisation of Securities Commissions (IOSCO) and the Basel Committee on Banking Supervision. The International Financial Reporting Standards (IFRS), previously known as International Accounting Standards (IAS), represent the set of global accounting standards that are currently being used in more than 120 countries worldwide. IFRS are principles-based standards as they establish broad rules that apply to transactions and events—instead of setting bright-line thresholds or limits—thus allowing for judgement to prevail when applying the standards to a company’s financials.

In relation to Islamic financial transactions, the key challenge is agreement on a single set of high-quality accounting and reporting standards that is acceptable to all the relevant players in the global Islamic finance industry. Currently there are two main contenders for the role:

(1) IFRS issued by IASB; the MASB in Malaysia subscribes to this approach and has issued the IFRS-compliant MFRS in November 2011, which is equally applicable to IFIs as from January 2012; or

(2) Financial Accounting Standards (FAS) issued by the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI).

As the move towards convergence to IFRS is increasing the world over, inevitably the question becomes more pertinent as to whether the accounting for Islamic financial transactions should also converge towards IFRS adoption. This research paper attempts to shed light on a basic issue: whether the key underlying principles of IFRS are acceptable from the Shari’ah perspective. This paper accordingly aims to undertake an appraisal of the key underlying accounting principles of IFRS based on the classical fiqh literature and Shari’ah resolutions from local and international organisations. Particularly, four IFRS principles are examined that serve as important guides to preparers of accounts and have a significant impact on Islamic financial transactions: substance over form, the time value of money, fair value measurement, and recognition based on probability.

Based on the analysis of the accounting principles from various sources, the paper finds that the abovementioned accounting principles generally do not contradict the Shari’ah.

• With regard to substance over form, the majority of scholars from Hanafis, Maliks and Hambalis considered the intention and meanings of the contracts, unless there is a legal impediment (mani’ shari’) that opposes their consideration. Shafei’s scholars, however, under certain circumstances favoured the principle of form over substance. The SAC of BNM has adopted the majority view of recognising both substance and form; however, in the event of any conflict between the two, the principle of substance over form prevails.

• With regard to the time value of money, the concept is said to have a strong basis in the Qur’an. The application of the concept is acceptable in contracts of exchange whereby the deferred price ought to be higher than the spot price in order to uphold the element of justice (‘adl) between the contracting parties. However, it is not acceptable to charge an extra sum for the deferred repayment of a qard (loan). In other words, the principle of the time value of money from the Shari’ah perspective is only applicable in exchange contracts, not in loan contracts. This view is equally upheld by the SAC of BNM and other fatwa-issuing authorities. However, another Shari’ah issue regarding the time value of money about which no specific fatwa has been issued is the discounting process and whether it is permissible to use the interest rate in the discounting technique when determining fair value.

• Pertaining to the principle of fair value, a review of the classical fiqh literature revealed many instances where the principle was given consideration by jurists in deducing rulings. For example, the fair value benchmarked with the market price was used to determine the subsistence (nafaqah) of the agent-manager while travelling in a mudharabah contract. Scholars also agree on the role of experts and the use of estimation techniques in determining the fair value when there is no clear market price for a commodity. Nonetheless, the controversy apparently prevails on the use of discount rates within the estimation techniques.



• As regards the principle of probability, while it is recognised that certainty is the highest level of confidence in Islam, it was noted that jurists have established certain parameters in adopting the concept of probability in fiqh. The SAC of BNM also resolved that the application of the probability principle in Islamic financial reporting is permissible as it does not contradict the general fiqh principles. Other fatwa-issuing bodies have not yet issued any specific fatwa on the principle.


The paper also briefly highlights the main Shari’ah issues that arise in the application of these IFRS principles in Islamic financial transactions. Further research is, however, required to deliberate on the arising Shariah issues in greater depth. This paper is regarded as Part One of the research project examining the applicability of IFRS to Islamic financial transactions from the Shari’ah viewpoints. Part Two of the research will provide a detailed discussion on specific Shari’ah issues that arise in the application of these IFRS principles in Islamic financial transactions.

An Appraisal of the Principles Underlying International Financial Reporting Standards (IFRS): A Shari'ah Perspective