Understanding Of Shariah-Compliant Unit Trust Funds

Similar to a conventional unit trust fund, a Shariah-compliant unit trust fund is a collective investment scheme, which pools money from investors with similar objectives in a special fund managed by professional fund managers. The pooled money will then be invested in a diversified portfolio of Shariah-compliant securities and other assets in accordance with the unit trust fund’s investment objective and as permitted under the SC Guidelines and regulations with the condition that all the investments must comply with Shariah requirements.

The main differences between a conventional unit trust fund and a Shariah-compliant unit trust fund exist in the following areas; objective of the fund, structure, investment strategy, operations and management, documentation, investment avenues and activities, and accounts and reporting.

The objective of a particular type of fund is normally to maximise returns that are usually composed of both capital and income growth. Achieving this objective will depend on, among others, the fund size, period of investment, investment strategy as well as the type of instruments that are invested in and the ability to manage risk. Accordingly, the objective of a particular Shariah-compliant unit trust fund is to achieve both capital and income growth within the scope of Shariah. Hence, the investment strategy will also need to be aligned with the objective of a Shariah-compliant unit trust fund.

As for the structure, a Shariah-compliant unit trust fund can be structured by applying various Shariah contracts such as Mudharabah, Wakalah Bil Istithmar, Wadiah and so on. In Malaysian context, the core contracts utilised in the process of structuring a Shariah-compliant unit trust fund are contracts of intermediation such as Wakalah or Mudharabah, which allow one party to act as an agent (manager) on behalf of a principal (capital owner) for an agreed fee or profit-sharing arrangement.

As for the operations and management of a Shariah-compliant unit trust fund, the manager ensures that the excess funds, such as liquid assets and cash, are invested/placed in Islamic money market instruments and as deposit with Islamic licensed financial institutions. All daily operations of a Shariah-compliant unit trust fund must comply with all the Shariah requirements of the Securities Commission and other relevant competent Shariah authorities. To ensure that the funds are managed and administered in accordance with Shariah requirements, unit trust management companies managing Shariah-compliant unit trust funds are required by the SC Guidelines to appoint a Shariah committee / Shariah adviser. The main function of the Shariah committee / Shariah adviser is to supervise and provide necessary advice to ensure that a Shariah-compliant unit trust fund offered to the public is managed and administered in accordance with Shariah requirements.

A Shariah-compliant unit trust fund’s trust deed and prospectus are drafted in accordance with Shariah requirements. Terminologies used in conventional trust deed and prospectus, which are not in compliance with the Shariah, such as interest-based instruments and interest income are avoided.

The investments of a Shariah-compliant unit trust fund include only instruments permitted by the Shariah such as Shariah-compliant equities and Shariah-compliant equity-related securities (such as Shariah-compliant warrants and options), sukuk, Islamic derivative products, Islamic structured products and Shariah-compliant deposit placements.

A Shariah-compliant unit trust fund is designed to provide investors with investment alternatives that comply with Shariah requirements. The investments exclude instruments deemed not permissible by the Shariah like all types of loan stocks, Shariah non-compliant securities, conventional interest paying bonds, interest bearing instruments and conventional futures and derivatives products.

TREATMENT FOR DISPOSAL OF SHARIAH NON-COMPLIANT SECURITIES FOR THE SHARIAH-COMPLIANT UNIT TRUST FUNDS

The SACSC advises on the timing for the disposal of securities in a Shariah-compliant unit trust fund which have been classified as Shariah non-compliant:

“Shariah-Compliant Securities” Which Are Subsequently Reclassified As “Shariah Non-Compliant”
These refer to those securities which were earlier classified as Shariah-compliant securities but due to certain reasons, such as changes in the companies’ business operations and financial positions, are subsequently reclassified as Shariah non-compliant. In this regard, if on the date this updated list takes effect, the value of the securities held exceeds the original investment cost, a Shariah-compliant unit trust fund which holds such Shariah non-compliant securities must liquidate them. To determine the timeframe to liquidate such securities, the Shariah adviser advises that such securities should be disposed of within one (1) month. Any capital gain arising from the disposal of the said Shariah non-compliant securities made with respect to the closing price on the announcement day can be kept by the Shariah-compliant unit trust fund. However, any excess capital gain derived from the disposal after the announcement day at a market price that is higher than the closing price on the announcement day should be channeled to charitable bodies1. The Shariah adviser advises that this cleansing process should be carried out within two (2) months from the above disposal date.

1 For Islamic investment schemes such as Islamic unit trust funds and others, the gain must be channeled to charitable bodies as advised by their Shariah adviser or the relevant fund management’s Shariah adviser.

On the other hand, a Shariah-compliant unit trust fund is allowed to hold investment in the Shariah non-compliant securities if the market price of the said securities is below the original investment cost. It is also permissible for the Shariah-compliant unit trust fund to keep the dividends received during the holding period until such time when the total amount of dividends received and the market value of the Shariah non-compliant securities held equal the investment cost. At this stage, the Shariah- compliant unit trust fund is to dispose of the holding within one (1) month.

In addition, during the holding period, the Shariah-compliant unit trust fund is allowed to subscribe to:

(a) any issue of new securities by a company whose Shariah non-compliant securities are held by the Shariah-compliant unit trust fund e.g. rights issues, bonus issues, special issues and warrants [excluding securities whose nature is Shariah non-compliant e.g. irredeemable convertible unsecured loan stock (ICULS)]; and
(b) securities of other companies offered by the company whose Shariah non-compliant securities are held by the Shariah-compliant unit trust fund,

on the condition that the Shariah-compliant unit trust fund expedites the disposal of the Shariah non-compliant securities. For securities of other companies [as stated in (b) above], they must be Shariah-compliant securities.

Shariah Non-Compliant Securities
According to the SACSC, since a Shariah-compliant unit trust fund invests based on Shariah principles, the Shariah-compliant unit trust fund is to dispose any Shariah non-compliant securities which the Shariah-compliant unit trust fund presently holds, within a month of knowing the status of the securities. Any gain made in the form of capital gain or dividend received during or after the disposal of the securities has to be channeled to charitable bodies. The Shariah-compliant unit trust fund has a right to retain only the original investment cost.

CLEANSING/PURIFICATION PROCESS OF THE SHARIAH-COMPLIANT UNIT TRUST FUNDS


Cleansing Process For The Shariah-Compliant Unit Trust Funds
Wrong Investment
This refers to the Shariah non-compliant investment made by the Manager. The said investment will be disposed of / withdrawn with immediate effect. In the event, the disposal/withdrawal of the investment resulted in gain (through capital gain and/or dividend), the gain is to be channeled to baitulmal or any other charitable bodies as advised by the Shariah adviser. If the disposal/withdrawal of the investment resulted in losses to the Shariah-compliant unit trust funds, the losses are to be borne by the Manager.

All costs incurred during the acquisition and disposal process, whether the investment has resulted in gain or losses, are to be borne by the Manager.
Reclassification Of Shariah Status Of Investments For The Shariah-Compliant Unit Trust Funds
A security may be reclassified as Shariah non-compliant in the periodic review of the securities by the Shariah adviser or any other relevant Islamic Shariah competent authorities. If the value of such Shariah non-compliant investment exceeds the original investment cost, such securities should be disposed as soon as practicable, which in any event such disposal should be done within one (1) month after the announcement day or receipt of such notice.

If the Shariah non-compliant investment is below the original investment cost, such securities is allowed to be kept until the total amount of dividends received and/or the market value/price equal the original investment costs. When the value of Shariah non-compliant investment equals the original investment cost, such securities should be disposed as soon as practicable, which in any event such disposal should be within one (1) month.

Any capital gains arising from the disposal of the Shariah non-compliant security made at the time of the announcement can be kept by the Shariah-compliant unit trust funds. However, any excess capital gains derived from the disposal after the announcement day at a market price that is higher than the closing price on the announcement day is to be channelled to baitulmal or any charitable bodies within two (2) months from the disposal date as advised by the Shariah adviser.
Purification Process For The Shariah-Compliant Unit Trust Funds
Zakat For The Shariah-Compliant Unit Trust Funds
The Shariah-compliant unit trust funds do not pay zakat on behalf of Muslim individuals and Islamic legal entities who are investors of the funds. Thus, investors of the Shariah-compliant unit trust funds are advised to pay zakat on their own.


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