Islamic Finance in India?

The subcontinent, which houses the world's second largest Muslim population, resisted Islamic finance for a long time, but demand has become too big for the authorities to ignore; Suprio Bose, Islamic Business & Finance's India correspondent, updates us on the country's progress.

Various developments over the past year have reinforced our view that Islamic finance is gaining traction in India and could outgrow markets in other jurisdictions in years to come. Interestingly enough, none of the recent developments have been the result of a concerted effort by anyone person or authority. Rather these have taken place at different points in time and can be described as serendipitous. For ease of convenience, we have listed some of the more important developments in chronological order, along with a brief analysis of its impact on the Indian market.


Readers may be aware that, in 2011, a writ petition in the High Court of Kerala was filed against the decision of the Kerala Government to invest in a non-banking financial entity (NBFC) through one of its state sponsored entities. The objection of the petitioner was that a state cannot participate in an 'Islamic' venture, as it violates the secular principles enshrined in the Constitution of India. This petition was finally dismissed by the court on the grounds that Islamic finance is not restricted to any one particular community and can benefit the economy as a whole. While the High Court's decision was positive, the issue of the Reserve Bank of India (RBI), the country's Central Bank, allowing Islamic NBFCs to operate in India, resulted in a negative fallout.

In 2013, the RBI cancelled the licence of All India Credit Limited (AICL) on the grounds that an NBFC conducting risk participation-based financing cannot be in compliance with the Fair Practice Code Guidelines. These guidelines require NBFCs inter alia to charge 'interest' on their loans, based on their internal interest-based model and stipulate an annualised rate of interest upfront. AICL has challenged RBI's order in the High Court of Mumbai and the matter is sub-judice. The decision of the RBI did create consternation amongst market participants and was considered a set-back. The fall out of the RBI order was that market participants started using alternate entities for financings, which would not come within the regulatory purview of the RBI.


The SEBI (Alternative Investment Funds) Regulations, 2012 (AIF Regulations) were introduced with the objective of regulating pooled investment vehicles in India. Shari'ah practitioners were quick to realise that AIFs can be used to set-up dedicated Shari'ah-based investment funds under the AIF Regulations. Also, SEBI in the past has been forthcoming in permitting Shari'ah-based products to be launched in India. It had early on allowed Shari'ah-based mutual funds, portfolio management products and exchange traded funds to be floated. Therefore, getting an approval from SEBI for a Shari'ah-based AIF would not be an issue. The Indian market has already witnessed a handful of Shari'ah-compliant investments by venture capital funds and Shari'ah-based investments in Indian real estate. We expect more Shari'ah-compliant AIFs to be set-up in the coming months. This will create an additional source of financing for projects and ought to bolster the infrastructure sector.

The third development has been the launch of the National Waqf Development Corporation Limited (NAWADCO) on 29 January 2014, by the Ministry of Minority Affairs, Government of India. We understand that the objective of NAWADCO is to facilitate and mobilise financial resources for the development of Waqf properties for community development purposes in a joint venture with the State/Union Territory Waqf Boards and the Mutawallis. Many of the Waqf properties are prime commercial property and can generate considerable returns, if managed properly. These returns can be channelised for the socio-economic development of deprived sections within the Muslim community. With the recent amendments made to the existing legislation concerning management of Waqf properties in India, administration of Waqf properties is expected to be more transparent.


We understand that the Ministry of Minority Affairs, Government of India intends to launch a pan India Shari'ah-compliant mutual fund. The objective of this fund is to canalise investments from the Muslim community and other 'deep pocket' investors into minority welfare schemes. While the concept of a Shari'ah-compliant mutual fund is not new in India, this would be the first instance where the Government of India is directly involved in a Shari'ah-compliant product. The impact of these initiatives could be far reaching. It demonstrates the Government's seriousness in creating an Islamic finance market. This will also help in creating awareness in the country, besides setting a precedent for more 'mainstream' Shari'ah-based products and structures to be launched.

We also understand that Essel Finance (promoted by the Essel Group) is planning to launch a Shari'ah-compliant fund for foreign investors in real estate. We understand that this fund shall have to have a total corpus of $100 million only and shall be set up in partnership with various fund houses in Malaysia. Additionally, an Indian Shari'ah consultancy firm is in the process of setting-up a domestic Shari'ah-compliant fund on behalf of a company backed by the Kerala Government. As per media reports, this fund shall have a corpus of INR 2500 million only. With the advent of established corporates and deep pocketed investors, we can expect the Indian Shari'ah-compliant AUM market to develop and grow in terms of sophistication and size.


Perhaps most significant of all, the RBI has granted an NBFC licence to Cheraman Financial Services Limited (Cheraman). Cheraman was earlier named Al Barakha and was the subject of the litigation in Kerala. Although, there has been no official communication from the RBI, it does appear that the RBI may be softening its views on Shari'ah-compliant NBFCs in India. Coincidentally, the present Governor of the RBI, Raghuram Rajan in an earlier report had recommended allowing interest-free banking and products in the country, which many read as a reference to Islamic banking and finance.

Lastly, the present Prime Minister of India, Dr. Manmohan Singh had promised the introduction of Islamic finance in India and we understand that the Ministry of Finance is examining the feasibility of the same.

We are bullish on Islamic finance and expect the market to pick up in the next few years. In order for the market to become really significant and attract offshore Islamic liquidity, it is necessary that relevant amendments to the tax and stamp duty laws are made. Further, a positive pronouncement from the RBI for enabling Shari'ah-compliant NBFCs would also help.