“The 2030 Agenda for Sustainable Development, adopted by all United Nations Member States in 2015, provides a shared blueprint for peace and prosperity for people and the planet, now and into the future. At its heart are the 17 Sustainable Development Goals (SDGs), which are an urgent call for action by all countries—developed and developing—in a global partnership. They recognize that ending poverty and other deprivations must go hand-in-hand with strategies that improve health and education, reduce inequality, and spur economic growth—all while tackling climate change and working to preserve our oceans and forests.”
—United Nations SDGs website

The Sustainable Development Goals Report 2024 reveals that only 17% of the SDG targets are on track to be achieved, nearly half are showing minimal or moderate progress, and progress on over one third has stalled or even regressed. Another report titled ‘Progress Towards the Sustainable Development Goals’, authored by the Secretary-General of the United Nations and published in 2024, states that “if the commitment to leave no one behind is to mean anything, we must unlock much greater financing and fiscal space for developing countries and secure a more equitable, representative and effective international financial system.”

The financial system of a country comprises a network of institutions, markets, instruments, and regulations that facilitate the flow of funds both within and across borders. This system plays a critical role in the economy by mobilizing savings, allocating capital, facilitating payments, and managing risks.

The more prevalent financial system in most countries (let’s call it the ‘conventional financial system’) is based on principles of interest, risk, and return, operating within a framework of financial institutions, markets, instruments, and regulations designed to facilitate economic activities. The key features include:

  • Interest is charged on borrowed funds and is a primary way banks and financial institutions earn profit.
  • Financial transactions are conducted with an understanding of risk and potential return. Higher risk typically demands higher potential returns.
  • Financial institutions include commercial banks, investment banks, insurance companies, and other financial entities that operate based on profit maximization.
  • Financial markets include stock markets, bond markets, money markets, and derivatives markets where various financial instruments are traded.
  • The financial system is governed by a set of laws and regulatory bodies aimed at ensuring market stability, protecting consumers, and maintaining fair practices.
  • The instruments include equities, bonds, derivatives, loans, and other financial products.

 As an alternative to the conventional financial system, the markets are observing the growth of a financial system based on Islamic Shariah laws. Islamic finance is a rapidly growing sector within the global financial system, distinguished by its adherence to Shariah principles, which emphasize fairness, equity, inclusion, and the welfare of the community. This ethical foundation not only makes Islamic finance an attractive alternative to conventional finance but also positions it as a vital contributor to sustainable development.

This article explores the principles of Islamic finance, its alignment with the Sustainable Development Goals (SDGs), and its potential to drive economic growth and social well-being.

The Islamic financial system operates based on principles derived from Islamic laws, which prohibit certain activities such as charging or paying interest (riba), involving excessive uncertainty (gharar) in transactions, and investing in prohibited (haram) activities. The key features include: 

  • Charging or paying interest (riba)[1] is strictly prohibited. Profit and loss sharing, leasing, and trading are used instead.
  • Financial transactions emphasize sharing risk between parties. Profit and loss are distributed according to a pre-agreed ratio.
  • Transactions must be backed by tangible assets or services. Speculative activities and gambling are prohibited.
  • All financial activities and instruments must comply with the Shariah principles. Shariah boards oversee and ensure compliance.
  • The instruments are:
    • Murabaha (Agreed profit margin sale with cash or deferred payment of price): Cost-plus financing where the bank buys an asset and sells it to the customer at a profit.
    • Musawamah: A general kind of sale in which the price of the commodity to be traded is stipulated between the seller and the buyer without any reference to the price paid or cost incurred by the seller.
    • Salam (Advance payment – Deferred Delivery Sale): A type of sale whereby the seller undertakes to supply specific goods to a buyer at a future date in consideration of a price fully paid in advance at the time the contract of sale is made.
    • Ijarah: Leasing agreements where the bank buys and leases out an asset.
    • Mudaraba: A profit-sharing partnership where one party provides capital and the other provides expertise.
    • Musharakah: A joint venture where all partners contribute capital and share profits and losses.
    • Sukuk: Islamic bonds representing ownership in a tangible asset, project, or business venture.
    • Istisna: An exceptional mode of sale, at an agreed price, whereby the buyer places an order to manufacture, assemble or construct (or cause so to do) anything to be delivered at a future date.

It is also pertinent to mention here that there are other Islamic religious obligations like zakat (compulsory alms giving), sadaqa (voluntary alms giving) and waqf/awqaf (charitable endowments) that could contribute to social finance – these are not Islamic finance instruments per se but are included here to state that such finances also contribute towards achieving the SDGs.

Islamic finance operates on the principles of fairness and equity, ensuring that financial transactions are just and beneficial for all parties involved. This principal manifests in various Islamic financial instruments mentioned above that promote risk-sharing and prohibit exploitative practices. Also, inclusivity is a core tenet of Islamic finance, aiming to provide financial services to all segments of society, including the underserved and unbanked populations.

Alignment with Sustainable Development Goals (SDGs)

 Islamic finance principles inherently support several SDGs, including those focused on poverty eradication, economic growth, and reducing inequalities.

1. No Poverty (SDG 1):

  • Zakat and Sadaqah: Islamic finance mandates charitable giving (Zakat and Sadaqah), which can be directed towards poverty alleviation. Zakat funds are estimated to be significant, with the potential to substantially reduce poverty if effectively managed and distributed.
  • Microfinance: Islamic microfinance provides interest-free loans (Qard Hassan) to entrepreneurs and small businesses, promoting economic self-sufficiency and reducing poverty. 

2. Decent Work and Economic Growth (SDG 8):  

  • Musharakah and Mudaraba: Equity-based financing models like Musharakah (joint venture) and Mudaraba (profit-sharing) promote entrepreneurship and economic growth by providing capital without the burden of interest.
  • Sukuk (Islamic Bonds): Sukuk can finance large-scale infrastructure projects, creating jobs and stimulating economic growth. Unlike conventional bonds, Sukuk is asset-backed, ensuring tangible economic activity.

3.  Reduced Inequalities (SDG 10): 

  • Social Justice: Islamic finance prioritizes wealth distribution and social equity. Instruments like Zakat and Waqf (endowments) are used to support social programs aimed at reducing inequalities.
  • Ethical Investment: The prohibition of speculative and harmful investments ensures that capital is directed towards socially responsible and inclusive projects.

 5. Responsible Consumption and Production (SDG 12): 

  • Ethical Screening: Islamic finance mandates investment in ethical and socially responsible sectors, promoting sustainable business practices and responsible consumption.
  • Green Sukuk: Green Sukuk are Shariah-compliant bonds specifically aimed at funding environmentally sustainable projects, and supporting sustainable production practices.

Role of Professional Accountancy Organizations (PAOs)

 PAOs play a crucial role in the development, regulation, and promotion of Islamic finance. Their involvement is essential to ensure that Islamic financial practices adhere to high standards of transparency, accountability, and compliance with Shariah principles. Here are the key roles PAOs perform with respect to Islamic finance:

1. Standard Setting and Regulation 

​​​​​​​PAOs contribute to the establishment and enforcement of accounting and auditing standards that align with Islamic finance principles. These standards help ensure consistency, reliability, and transparency in financial reporting.  The Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) is a leading international standard-setting body for Islamic finance. It develops Shariah-compliant standards for accounting, auditing, governance, ethics, and Shariah compliance. PAOs often collaborate with AAOIFI to implement these standards at the national level. Various PAOs have played significant roles in this process, including:

a. The Institute of Chartered Accountants of Pakistan (ICAP) has played a pivotal role in the development of two key accounting standards: IFAS 1 for Murabaha and IFAS 2 for Ijarah, that were notified by the State Bank of Pakistan on August 24, 2005, and May 22, 2007, respectively. These standards were specifically designed to provide accounting clarity and consistency within the banking sector, particularly for institutions involved in Islamic finance. IFAS 1 addresses the accounting treatment of Murabaha transactions, ensuring transparent and standardized reporting, while IFAS 2 provides accounting guidelines for Ijarah contracts. By contributing to these standards, ICAP has significantly enhanced the framework for financial reporting in the Islamic banking industry in Pakistan, promoting better governance and compliance.

b. The Malaysian Institute of Accountants (MIA) has historically played a pivotal role in advancing Islamic finance by actively engaging in various initiatives. These include collaborating with relevant stakeholders and regional accountancy bodies to promote the adoption of IFRS and support the international convergence of standards within the Islamic finance sector.

2. Education and Training

 PAOs provide education and training programs to develop the expertise required to practice and understand Islamic finance. They offer certifications, courses, and Continuous Professional Development (CPD) programs to ensure that accountants are well-versed in Islamic finance principles and practices. The following are some examples of educational programs offered by PAOs and AAOIFI covering Islamic finance:

a. Certified Islamic Professional Accountant (CIPA): Offered by AAOIFI, this certification enhances the skills and knowledge of accountants in the Islamic finance sector.

b. External Shariah Audit and Governance Certification: Offered by ICAP for its members as well as non-members, this certification covers the latest developments in Shariah Audit and Governance, including best practices, international standards and regulatory requirements. It provides a comprehensive understanding of the Shariah Compliance, Audit and Governance Framework.  

3. Advocacy and Promotion

PAOs advocate for the adoption and integration of Islamic finance within the broader financial system. They engage with policymakers, financial institutions, and the public to promote the benefits and principles of Islamic finance. The International Federation of Accountants (IFAC) engages with PAOs to identify opportunities to explore links between Islamic Finance and the SDGs to help mobilize financial resources towards underfunded humanitarian and development needs. In 2021, IFAC launched an Islamic Finance thought leadership program, expanding its role and voice globally. This thought leadership program has two aims:

a. Engagement with Regulators: PAOs work with financial regulators to develop a supportive regulatory framework for Islamic finance, ensuring that it can grow alongside conventional finance. For example, ICAP collaborates closely with the Securities and Exchange Commission of Pakistan (SECP) and the State Bank of Pakistan (SBP) to provide expert support in the development and enhancement of regulatory frameworks. ICAP's involvement includes offering technical expertise, conducting consultations, and contributing to the formulation of policies that govern accounting, auditing, and financial reporting practices specific to the Islamic Financial Industry in the country.

b. Public Awareness Campaigns: PAOs raise awareness about Islamic finance and its potential to contribute to economic development and financial inclusion through seminars, conferences, and publications.

In November 2023, the Malaysian Institute of Accountants (MIA), in collaboration with IFAC and the World Bank Group, arranged a hybrid roundtable conference in Kuala Lumpur, Malaysia, focused on unlocking the potential of Islamic finance. The event brought together global perspectives on leveraging Islamic finance tools to achieve the SDGs.

In June 2024, IFAC, MIA, and the World Bank Group’s Inclusive Growth and Sustainable Finance Hub in Malaysia released a report titled ‘Unleashing the Potential of Islamic Finance: Global Perspectives on Achieving the SDGs with Islamic Finance Tools & Concepts’. The report highlights the opportunities presented by Islamic finance, provides practical examples of its usage in Malaysia, and outlines future pathways for addressing challenges and unlocking the full potential of Islamic finance to support the SDGs. 

4. Research and Development

 PAOs support research initiatives that contribute to the development of Islamic finance. They fund studies, collaborate with academic institutions, and publish research findings on new trends, challenges, and opportunities in the sector. Their contributions include the development of guidelines, comprehensive resources, and partnerships with academic institutions. For example:

 a. ICAP plays a crucial role in developing comprehensive guidelines for the scoping of Islamic financial products under IFRS Accounting Standards. The objective is to provide a basis for clear and consistent accounting practices for the unique financial instruments used in Islamic finance. By leading this initiative, ICAP ensures that the accounting framework for Islamic financial products is well-defined, facilitating greater transparency, compliance, and understanding within the financial industry.

b. The MIA has developed an extensive guide titled ‘Accounting for Islamic Finance’ to enhance understanding of the accounting practices specific to Islamic finance. This comprehensive resource serves as a valuable tool for professionals in the industry, offering detailed insights and practical guidance on the unique financial instruments and transactions used in Islamic finance. By providing this in-depth reference, MIA aims to support the consistent application of accounting standards and promote greater transparency and accuracy in financial reporting within the Islamic finance sector.

c. PAOs often partner with academic institutions to conduct research on Islamic finance and develop specialized courses and degree programs. For example, the MIA, in partnership with Universiti Sains Islam Malaysia (USIM), presented ‘White Paper on Shariah Audit’ in September 2023, to enhance Shariah governance in Islamic Finance.

5. Ethics and Governance

PAOs emphasize the importance of ethical behavior and good governance in Islamic finance. They develop ethical guidelines and governance frameworks to ensure that Islamic financial institutions operate in a manner consistent with Shariah principles. An example is the ethical and governance standards developed by the AAOIFI which have been adopted in many countries. The State Bank of Pakistan (SBP) has adopted AAOIFI’s Governance Standards and has also issued its own Shariah Governance Framework for Islamic Banking Institutions (IBIs). This Framework, together with the Governance Standards, provides a strong ethical foundation for the operations of IBIs [i.e., full-fledged Islamic banks, Islamic banking subsidiaries, and Islamic banking divisions of conventional banks] operating in Pakistan.

6. Support and Guidance

PAOs provide support and guidance to their members on issues related to Islamic finance. They offer advisory services, technical assistance, and resources to help accountants navigate the complexities of Islamic financial practices.

The involvement of PAOs in Islamic finance is multifaceted and essential for the sector's growth and sustainability. Through standard-setting, education, advocacy, research, ethical oversight, and support, PAOs ensure that Islamic finance adheres to high standards of practice, thereby promoting its credibility and integration within the global financial system.

Islamic finance, rooted in ethical and Shariah principles, aligns closely with the SDGs and offers a promising approach to advancing economic growth, reducing poverty, and promoting social equity. PAOs play a crucial role in this alignment through standard-setting, education, research, and ensuring Shariah compliance. By improving the Islamic financial system and its integration with the SDGs, these organizations contribute to building a fairer, more inclusive, and sustainable future.

[1]Riba, often translated as "usury" or "excessive interest," refers to the practice of charging interest on loans. In Islamic finance, riba is strictly prohibited because it is considered exploitative and unjust. Wealth should be generated through legitimate trade and investment rather than through interest on loans.

Farrukh Rehman

Farrukh Rehman joined the IFAC Professional Accountancy Organization Development & Advisory Group in January 2024. Previously he had served as Technical Advisor on the advisory group. He was nominated to the advisory group by the Institute of Chartered Accountants of Pakistan (ICAP).

Mr. Rehman is the President of ICAP and an elected member of the council of ICAP. He also served as its Vice President for the term 2017-18. He is currently the Chairman of the Accounting Standards Board and Sustainability working group. He previously led various ICAP committees, including the auditing, examination, education, financial sector and chartered accountants women committee.

Mr. Rehman is a member of the South Asian Federation of Accountants (SAFA) Board and member of SAFA's Accounting Standards Committee. He also represents ICAP at the BRI National Accounting Standards Cooperation Forum.

Mr. Rehman has a bachelor’s of commerce degree from Karachi University in 1991 and became Chartered Accountant in 1996. He became partner in A.F.Ferguson & Co (a member firm of PwC Network of Firms) in 2004 and has extensive experience in audit and assurance services.