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Journal of Islamic Accounting and Business Research

A critique on accounting for murabaha contract: a comparative analysis of IFRS and AAOIFI accounting
standards
Mezbah Uddin Ahmed Ruslan Sabirzyanov Romzie Rosman

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To cite this document:
Mezbah Uddin Ahmed Ruslan Sabirzyanov Romzie Rosman , (2016),"A critique on accounting for murabaha contract: a
comparative analysis of IFRS and AAOIFI accounting standards", Journal of Islamic Accounting and Business Research,
Vol. 7 Iss 3 pp. Permanent link to this document:
http://dx.doi.org/10.1108/JIABR-04-2016-0041
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A critique on accounting for murabaha contract: a comparative analysis of IFRS and AAOIFI
accounting standards

Abstract
Purpose - The purpose of this paper is to examine the accounting treatment and reporting of a murabaha
contract and its implication to the financial statements of Islamic banks. In addition, the paper also
explains the implication of time value of money on the measurement of a murabaha contract and the
concept of substance over form in recognising financial transactions.

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Design/methodology/approach - This study reviews the accounting treatment and reporting for a
murabaha contract as stated in the Financial Accounting Standards (FAS) of the Accounting and Auditing
Organization for Islamic Financial Institutions (AAOIFI) and the application of a murabaha contract as a
financial instrument based on International Financial Reporting Standards (IFRS).
Findings - The paper finds that, while IFRS-based financial reporting primarily focuses on economic
consequences of financial instruments, AAOIFI further takes into consideration the legal structure of the
instruments, which are based on Shariah precepts. The paper also finds that IFRS-based financial
reporting cannot always capture the distinctive structure of the murabaha and, hence, may lack
representational financial reporting. However, the IFRS recognizes the substance of a murabaha contract
as financing, and the majority of Islamic banks in Malaysia report it as one of financing and not as a
trading contract. For measurement, IFRS adopted the concept of time value of money where the profit
allocation is based on amortize cost, which is similar to measurement of conventional loan transactions
that apply the concept of effective interest rate. Meanwhile, AAOIFI uses a straight-line basis to allocate
the profit of a murabaha contract.
Originality/value - The paper criticizes both accounting treatment of a murabaha contract based on the
AAOIFI and IFRS and then suggests an extension of these treatments to be adopted to improve the
reporting.
Practical implications - The forthright discussion and the observations of the paper are expected to
assist regulators and standard setters in developing accounting standards that are in convergence but
also cater to the unique characteristics of Islamic financial transactions.
Keywords - Murabaha, financial accounting, financial reporting, AAOIFI, IFRS, time value of money,
financing, Islamic banks
Paper type - Research paper

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Introduction
International and national regulators and standard setters have made substantial efforts in recent times
toward developing a single set of financial reporting standards. Making the effort a success, the
International Financial Reporting Standards (IFRS) issued by the International Accounting Standards
Board (IASB) have already been adopted by 116 jurisdictions in the world requiring all or most of their
listed companies and financial institutions to apply IFRS requirements in preparation of financial
statements (IFRS Foundation, 2015). However, in relation to accounting treatments for unique Islamic
financial instruments, the main challenge is on the agreement of a single set of financial reporting
standards that is globally acceptable. A study conducted by the Asian-Oceanian Standard-Setters Group
(AOSSG) in over 132 Islamic financial institutions of 31 countries has identified that 38 per cent of Islamic
financial institutions apply a differential requirement for the financial reporting of Islamic financial
instruments (Ahmed, 2015). The Financial Accounting Standards (FAS) issued by the Accounting and
Auditing Organisation for Islamic Financial Institutions (AAOIFI) and the IFRS are the two primary
alternatives that mainly have been adopted or considered upon by national standard setters and
regulators. As the world moves toward convergence to IFRS, a critical question arises on the application
of IFRS for Islamic financial instruments due to absence of Shariah consideration in these standards and
the resulting divergence between accounting principles of IFRS and AAOIFI FAS.
The remaining sections of this paper are organized as follows. The next section deliberates the
background, which explains the general accounting concept and specific accounting concept of Islamic
financial transactions via definition and objectives. It also briefly highlights the disclosure requirement
for Islamic financial transactions, different treatments of two key accounting principles, which are
substance over form and time value of money, along with available alternatives toward conclusion of the
best approach in adhering to the accounting standards. The paper continues to explain the legal
structures of a murabaha contract to further examine and evidence the divergence of accounting
treatment between IFRS and AAOIFI. Next, the paper summarizes the discussions and findings of the
accounting treatment for Islamic financial transactions by looking at the arrangement of a murabaha
transaction, measurement of murabaha asset at acquisition and based on obligation of promise via
purchase order, followed by discounts on credit purchase, sale recognition, recognition of profit, as well
as murabaha receivables at the initial and end periods. Finally, this paper outlines conclusions and
recommendations for consideration.
Background
The American Accounting Association (1966) defined accounting as the process of identifying,
measuring and communicating economic information to permit informed judgements and decisions by
users of that information. Accounting is the language of businesses. The better one understands the
language, the better one can manage the financial aspects of a business. Many aspects of modern business
activities critically rely on accounting. The Conceptual Framework for Financial Reporting, Para QC4, of the
IASB states, If financial information is to be useful, it must be relevant and faithfully represent what it
purports to represent. The usefulness of financial information is enhanced if it is comparable, verifiable,
timely and understandable. These features allow users of financial statements to compare how an
entitys business performance varies across different years as well as comparing its performance against
similar entities in the same industry group.
When it comes to Islamic financial institutions, the main distinguishing feature of their businesses from
conventional counterparts is Shariah compliance, i.e., compliance with Islamic legal principles in all
aspects of business, including in financial reporting. One of the primary distinguishing factors of Islamic
finance is avoidance of interest in commercial dealings. Hence, legal structures of Islamic financial
instruments are fundamentally different than interest-based instruments, even though, in economic

substance, they may appear similar (MASB, 2012). Therefore, to ensure relevance and faithful
representation of Islamic financial instruments, there is need for different accounting treatment, as it
originates from the Islamic worldview and Shariah requirements.

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Abdul Rahman (2010) describes accounting for Islamic financial institutions as the process that provides
appropriate information to stakeholders of an entity, which will enable them to ensure that the entity is
continuously operating within the bounds of the Shariah and delivering on its socioeconomic objectives.
This suggests that accounting for Islamic financial institutions cannot be confined only within economic
consequences of transactions; it also needs to incorporate religious and social values. The differences
between traditional and Islamic values in financial reporting lie in the objectives of providing the
information; the type of information identified; how it is measured, valued, recorded and communicated;
and to whom the information will be communicated (Mohamed Ibrahim, 2009). The differences in
financial reporting are also due to the disclosures made by an Islamic financial institution: for example,
disclosures on the adherence or departure from Shariah (MASB, 2012). The AOSSG (2010) identified two
key accounting principles: (i) substance over form, (ii) and the notion of time value of money, which may
result in IFRS-based financial reporting for Islamic financial instruments being questionable.
The AAOIFI in its Objectives of Financial Accounting (Para 4/2) identified a number of differences
between the objectives of a traditional financial institution and an Islamic financial institution (AAOIFI,
2010). AAOIFI argues that the foundation of an Islamic bank does not permit the separation between
temporal and religious matters; thus, the religious rulings apply in all aspects of the banking activities.
AAOIFI reasons that those who deal with Islamic banks are concerned, in the first place, with obeying and
satisfying God in their financial and other dealings, which results in differing information needed than in
traditional banks. The AAOIFI further pointed out that the relationship between an Islamic bank and its
clients is significantly different than that of traditional banks; further, the functions of Islamic banks are
different.
Based on the issues raised in relation to the accounting principles used by IFRS, it is obvious that there
are differences in opinion between the AAOIFI and IFRS when applying accounting techniques to Islamic
financial transactions. Therefore, the question that arises is whether accounting for Islamic financial
transactions should (1) have its own exclusive standards and accounting treatments, which constitute a
parallel system of accounting along with its conventional counterpart, or (2) harmonise and be
comparable, but not necessarily identical, to its conventional counterpart, or (3) converge fully with
conventional accounting standards (Mohamed Ibrahim & Yaya, 2005; Abdullah, 2010).
Mohamed Ibrahim (2007) argues that there is a need for a different set of standards for Islamic financial
institutions, as they are not based on the capitalist worldview, which underlies the transactions that
current IFRS caters toward. He then opines that conventional accounting is based on providing
information that is useful in decision-making, while an Islamic counterpart is based on accountability to
God and Shariah compliance. This constitutes the difference in the objective of accounting itself. Naim
(2010), who considers that Islamic financial institutions are required to discharge their accountability in
accordance with the Shariah, also supports this view.
On the other hand, the Association of Chartered Certified Accountants (ACCA), together with KPMG in
their joint report (ACCA & KPMG, 2010), supports the harmonisation of both the AAOIFIs accounting
standards and IFRS, as they are complementary to one another, meaning that IFRS standards have to be
fine-tuned in order to accommodate Shariah principles. As the AAOIFI joined the Consultative Group on
Shariah-Compliant Instruments and Transactions of IASB (AAOIFI, 2014), steps have been taken in this
direction.

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Legal Structure of Murabaha Contracts


A murabaha contract is among the Islamic financial instruments that have been extensively discussed in
literature. The AAOIFI defines murabaha as the sale of goods at cost plus an agreed profit mark-up
(Financial Accounting Standard No. 2: Murabaha and and Murabaha to the Purchase Orderer, Appendix B,
Item 1/1). It further provides the characteristics, conditions, and the types of murabaha. It is worth
noting that there are two types of murabaha arrangements, both of which are recognised by the AAOIFI:
(i) murabaha, where an Islamic bank sells commodities to any willing buyer and, (ii) murabaha to the
purchase orderer, where an Islamic bank acquires an asset for an identified purchase orderer based on
the orderers specifications and sales the asset to the orderer. The latter arrangement is by far the most
common in modern Islamic finance and banking practices. In a murabaha to the purchase orderer
arrangement, two parties negotiate and promise each other to execute an agreement according to which
the orderer asks the purchaser to purchase an asset of which the latter will take legal possession. The
orderer promises the purchaser to purchase the asset from him and give the ordered a profit thereon. The
two parties would conclude a sale after the possession of the ordered to the asset (Financial Accounting
Standard No. 2, Appendix B, Item 1/2/1).
Sale on credit is not a requirement of a murabaha contract; however, availing credit facility from the bank
often is the primary motive of Islamic bank customers to purchase assets based on murabaha. In case of a
credit sale, a customer may settle the obligation at a lump sum payment or in any agreed number of
instalments. The selling price of a murabaha asset cannot be altered once the price is agreed upon
between the Islamic bank and the customer (ISRA, 2012). In present day Islamic banking practice,
murabaha is a form of financing that is often used to finance asset purchases.
Islamic Financial Transaction of Murabaha Contracts
Financial Accounting Standard No. 2 of the AAOIFI deals with the revenues, expenses, gains or losses, and
receivables arisen from a murabaha sale. In IFRS-based reporting, if the arrangement is treated as a
trading arrangement, the relevant standards will be IAS 2 Inventories for recognition of inventory costs,
IAS 18 Revenue for recognition of revenue and profit from a murabaha sale, and IFRS 9 Financial
Instruments for recognition and measurement of receivables arisen from credit sales. Hence, under IFRS
,the substance of the Islamic financial transactions based on a murabaha contract need to be examined to
determine whether it is a financing or trading arrangement. Meanwhile, under AAOIFI, there is a specific
accounting standard in relation to murabaha contract.
Measurement of Murabaha Asset at Acquisition
Based on AAOIFI Financial Accounting Standard No. 2, Para 2, murabaha assets are to be recognised at
historical cost at initial recognition. The historical cost is defined in as the purchase price or acquisition
cost of the asset and any other directly related expenses incurred by the bank in acquiring the asset: for
example, customs duties and other purchase taxes, transport and loading charges, insurance, etc. AAOIFI
overlooked any discussion of the types of overhead to be excluded or included in the cost of murabaha
assets. However, under IFRS, murabaha assets meet the definition of inventories as stipulated in IAS 2,
Para 6 and Para 8, as the murabaha assets are held for sale in the ordinary course of business of an
Islamic bank. Inventories are to be recognised at initial recognition at cost, which includes cost of
purchase, cost of conversion, and other costs incurred in bringing the asset in the present location and
condition (IAS 2, Para 10). IAS 2 elaborated upon the types of costs that can be included in the cost of
inventories and the types of costs to be excluded.

From the analysis, there is no apparent difference between the two standard setters in the measurement
criteria of murabaha assets at initial recognition. However, the lack of explanatory discussions by AAOIFI
may allow greater room for individual interpretation and, hence, result in differences in practice.
Subsequent Measurement of Murabaha Asset if Purchase Orderer is not Obliged to Fulfil Promise

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AAOIFI applied an economic consequences concept while determining accounting treatment for the
murabaha assets that are held by an Islamic bank to sell to the purchase orderer who is not obliged to
fulfil the purchase promise (Financial Accounting Standard No. 2, Appendix D). In such a case, murabaha
assets are to be measured at cash equivalent value, i.e., at net realisable value, if there is an indication of
nonrecovery of the costs (Financial Accounting Standards No. 2, Para 4). AAOIFI defines the cash
equivalent value as the number of monetary units that would be realised as of the current date (Statement
of Financial Accounting No. 2, Para 89). If there is a decline in assets carrying value, then Financial
Accounting Standard No. 2, Para 4, requires recognition of a provision to reflect decline in the value.
In IFRS-based reporting, IAS 2, Para 9, specifies that the inventories are to be carried at lower cost and net
realisable value. The net realisable value is calculated by deducting expected costs to sell from the
expected selling price of the inventories (IAS 2, Para 6). Any write-down of inventories to net realisable
value is to be recognised as an expense in the period the write-down occurs. Subsequent to a write-down,
if the net realisable value of same inventories increases, then the reversal of the write-down to is be
recognised to the extent of the previous write-down in the period in which the reversal occurs (IAS 2,
Para 34).
There is no probable difference between the two standard setters except that Financial Accounting
Standard No. 2 lacks clarification pertained to a number of issues that may allow differing interpretations.
AAOIFI has not specified whether the costs to sell inventories are to be deducted from determination of
net realisable value. It also has not specified how to deal with a reversal of a previous write-down.
Furthermore, the AAOIFI has not clearly stipulated whether the write-off provision is to be net-off against
the carrying value of the asset or to be recognised as a separate component in liabilities, even though the
former is the norm in IFRS-based reporting. Unlike IAS 2, Financial Accounting Standard No. 2 provided
only a narrow definition and discussion pertaining to determination of net realisable value of inventories
that may fail to accommodate the complex or unusual transactions.
Subsequent Measurement of Murabaha Asset if Purchase Orderer is Obliged to Fulfil Promise
Financial Accounting Standard No. 2, Para 3 of AAOIFI requires murabaha assets that are held for sale to
the purchase orderer who is obliged to fulfil a purchase promise, which is to be carried at historical cost,
unless the value declines due to damage, destruction, or other unfavourable circumstances. If the latter
happens, the requirement is to reflect the decline in the valuation of the assets at end of the financial
period. Similar to the previous section, the basis of conclusion for these stipulations by the AAOIFI is
economic-consequences driven.
IAS 2, Para 9, requires, as a general rule, inventories to be carried at lower cost and net realisable value,
and the net realisable value of inventories is calculated based on its expected selling price less costs to sell
(IAS 2, Para 6). But, if the inventories are held to satisfy a firm sale, then the net realisable value is based
on the contract price (IAS 2, Para 31).
There is no apparent difference between the two standard setters, as the contract price in a firm
murabaha sale will be higher than the cost. However, the term unfavourable circumstances referred to
in FAS 2, Para 3, may cause confusion in implementation of the standard, as AAOIFI did not specify
whether the term excluded decline in the market value due to nonphysical damage factors, which may

allow some to argue, decline in the market value because of competition or obsolescence, which are also
part of unfavourable circumstances, even though AAOIFI may have implied only the physical damage
factors.
Discount Received by Islamic Bank on Credit Purchase

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Financial Accounting Standard No. 2, Para 5 and Para 6 of the AAOIFI offer two alternative accounting
treatments if an Islamic bank receives a probable discount from a supplier on its credit purchase. In the
first alternative, the discount received is to be recognised against cost of the relevant assets, i.e., deducted
from the assets. In the second alternative, the discount received is to be recognised as revenue of the
Islamic bank if decided by the Shariah Supervisory Board (SSB) of the Islamic bank. In Financial
Accounting Standard No. 2, Appendix B, Item 3(f), AAOIFI explains that some Shariah scholars are of the
opinion that such a discount is to be deducted from Islamic banks selling price, i.e., reducing the profit of
Islamic bank. However, FAS 2 did not extend the discussion explaining how such a reduction in selling
price or profit to be recorded in the financial statements of an Islamic bank, especially if the sale was in
cash or the customers liability already settled.
In IFRS-based reporting, IAS 2, Para 11, requires trade discount, rebates, and other similar items to be
deducted from cost of inventory. IAS 2 did not refer to prompt payment discount in any of its stipulations.
Based on the comparison, it is evident that IFRS requirements can be in conflict with rulings given by the
SSB of Islamic banks. Nevertheless, if relevant inventories are still in the books of the Islamic bank, only
then the discount received can be deducted from the cost of inventory; otherwise, the bank has no other
suitable option but to recognise the discount received in the income statement as income. If this is so,
then there is no probable difference between the two standards. Even so, both of the standard setters
need to extend their discussion in this regard, particularly addressing the possible economic
consequences ensuing from Shariah precepts.
Sale Recognition Point
As per Financial Accounting Standard No. 2, Para 8 of AAOIFI, the time of concluding the sale contract is
the recognition point of murabaha sales. However, the standard did not clarify further at which point a
sale contract concludes, which may result significant confusion in practice and result in financial
reporting mismatch between reporting entities as of recognition of a murabaha sale.
IAS 18 includes a broad discussion on revenue recognition point from sale of goods; however, in terse, a
sale of goods is recognised primarily when the entity transfers significant risks and rewards of ownership
of the goods to the customer (IAS 18, Para 14-19).
The contract conclusion point from Shariah perspective and from traditional perspective may not be the
same. Hence, the identification of contract conclusion point from the Shariah perspective is an important
financial reporting issue for Islamic financial institutions, especially for recognition of a murabaha sale.
The absence of clarification in FAS 2 regarding the point at which a murabaha contract is concluded
allows for greater room of interpretations and, thus, may result different sale recognition point in AAOIFIbased reporting. Moreover, unlike IAS 2, Financial Accounting Standard No. 2 did not address many of the
practical circumstances that may arise in a sale contract.
Recognition of Profit from Murabaha Sales
If the murabaha sale is for cash or for credit that does not exceed the current financial period, then the
whole profit is to be recognised at the time of contract (Financial Accounting Standard No. 2, Para 8). If the

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credit period exceeds the current financial period, then the profit is to be recognised as deferred profit
and to be offset against murabaha receivables (Financial Accounting Standard No. 2, Para 9). FAS 2 allows
two alternatives in realising the deferred profit in the income statement. The preferred method is
proportionate allocation over the credit period irrespective of instalments receipt by the bank. The
alternative method, if allowed by the SSB of the Islamic bank, is to allocate the deferred profit based on
receipt of instalments (Financial Accounting Standard No. 2, Para 8). The alternatives are allowed by
AAOIFI due to the differences in juristic views on the timing of profit recognition (Financial Accounting
Standard No. 2, Appendix D).
However, in IFRS-based reporting, full profit is to be recognised at the time of sale if the sale is in cash or
if the credit term allowed is of short-term. However, if the credit term allowed is of long-term, then the
credit allowed can be seen as a financing arrangement and there probably will be no recognition of profit
at the time of sale as the receivables discounted to present value will be equivalent to the cost of the asset,
i.e., the amount of financing at present value made by the Islamic bank (IAS 18, Para 11a). The difference
between the discounted value and the nominal value will subsequently be recognised in an income
statement as profit through amortization and unwinding of discounting process of the murabaha
receivables (IAS 18, Para 11; IAS 39, Para 11; IFRS 9, Para 5.1.1 & Para B5.1.1).
There is no apparent difference between the two standards if the asset is sold for cash or the credit period
is of short-term. However, there will be a timing difference in profit recognition in the income statement if
the asset is sold for credit and the credit period extends to several financial periods, due to differences in
profit measurement technique and recognition criteria, as illustrated in Appendix 1. Even though in
cumulative the total profit recognised based on FAS and IFRS will be equal, if the preferred method is
adopted in AAOIFI-based reporting, the differences in the measurement techniques of AAOIFI and IFRS
would result in the reported profit in IFRS-based reporting to be higher in the income statement in the
earlier years but lower in the later years. This is due to the concept of time value of money is applied
based on effective profit rate calculation for murabaha financing. The cash basis profit recognition
alternative of AAOIFI also can be a differentiating factor between the two standards setters.
Measurement of Murabaha Receivables at Initial Recognition
Short- or long-term, the receivables are to be recognised at face value at initial recognition (Financial
Accounting Standard No. 2, Para 7) as that is the selling price of a murabaha asset and represents the
Islamic banks claim over the customer. The face value is defined in Financial Accounting Standard No. 2,
Para 9, as the selling price that is agreed between the Islamic bank and the client. For financial reporting
purpose, the deferred profit resulting from murabaha sale with long-term credit is to be deducted from
receivables in statement of financial position.
In IFRS-based reporting, at initial recognition of long-term receivables, the amount recognised is
determined by discounting the future cash receipts to present value (IAS 18, Para 11; IFRS 9, Para 5.1.1
and B5.1.1). The short-term receivables are not discounted if the effect is immaterial (IAS 39, Para AG84).
The measurement of long-term murabaha receivables at initial recognition is different between IFRS and
FAS, as the former measures the amount based on mere economic consequences, whereas the latter also
takes into account the Shariah consideration of determination of revenue and receivables. However, in
this regard, the financial reporting requirement of AAOIFI is designed in a way that there is no difference
between the IFRS and FAS in terms of net impact in the financial position of bank. There is no difference
in short-term because, in both cases, the receivables amount will be at face value, i.e., not discounted. No
difference in long-term because, in AAOIFI-based reporting, deferred profit is deducted from the face
value of receivables, the net of which at initial recognition is equal to the present value of receivables in

IFRS-based reporting, as in Appendix 1. This can be an ideal example of the convergence opportunity of
IFRS and AAOIFI standards.

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Measurement of Murabaha Receivables at Period Ends


At the end of financial periods, the receivables are recognised at their cash-equivalent value, which is
referred to in Financial Accounting Standard No. 2, Para 7, as the amount of receivables at end of the
period less any provision for doubtful debts. But, the cash equivalent value is defined in Financial
Accounting Standard No. 2 as the monetary units that would currently be realised. AAOIFI further allows
recognition of a general provision for investment risks in addition to provision of doubtful debts if the
Islamic bank or its SSB finds it necessary (Financial Accounting Standard No. 2, Appendix D). The
justification provided by AAOIFI for choosing cash equivalent value is based on the concepts of
representational faithfulness and the concept of matching revenue with expenses (Financial Accounting
Standard No. 2, Appendix D). However, the AAOIFI did not clarify its position on whether rebate or
deduction of part of profit for early settlement, if offered by a bank as part of customary practice or
regulatory requirement, shall be considered or ignored in a cash-equivalent value calculation. The AAOIFI
also did not clarify its position on how an Islamic bank shall deal with deferred profit in case of
receivables impairment.
As required by IFRS 9, Para 4.1.1, a financial asset can be subsequently measured either at fair value or at
amortized cost. Murabaha receivables appear to meet the definition of financial assets measured at
amortized cost because Islamic banks hold the financial asset to collect contractual cash flows, and the
contractual terms of the financial asset give rise to specified dates to cash flows that are solely payments
of principal and profit that very likely to be based on market interest rates of similar financing
instruments (IFRS 9, Para 4.1.2). If there is any objective evidence that the murabaha receivable
measured at amortized cost is impaired, then the loss is recognised directly or through use of an
allowance account (IAS 39, Para 58).
The AAOIFIs requirement to measure a period-end receivable balance at cash-equivalent value appears
to be similar to the measurement at fair value in IFRS-based reporting as the fair value definitions of both
standards seems to be similar. IAS 32, Para 11, defines fair value as the price that would currently be
received. Hence, there is possible contradiction between the measurement techniques of two standards
that may result in different receivables balance and impairment loss recognition. If there is no
impairment loss and the question of rebate is ignored, then in subsequent measurements, the net
receivables amount will continue to grow wider in IFRS-based reporting than in AAOIFI-based reporting
to a point of time after which the difference will start to become narrower. At end of the receivables
financing period, the balances will be nil in both sets of standards as in Appendix 1.
Conclusion
From the discussion, it is evident that none of IFRS of IASB or FAS of AAOIFI are comprehensive enough
to deal with particular accounting issues of an Islamic financial instrument: in this case, the reporting for
Islamic financial transactions adopting a murabahah contract. IFRS applies the concept of substance over
form and time value of money in the recognition and measurement of a murabaha contract. The
murabaha contract is recognised as murabaha financing, and the measurement is based on amortize
costs, which apply the concept of time value of money. In contrast, the AAOIFI recognises a murabaha
contract as a murabaha receivable to show that the transaction is a trading activity; however, it is not
clear whether the concept of time value of money is applied in the measurement, which is based on a
straight-line method. Even though IFRS issued by IASB covers the accounting issues in great detail, on
occasion the IFRS requirements conflict with the Shariah precepts, as identified by AAOIFI or juristic
opinion by SSB of the Islamic banks. Convergence or a separate set of standards, whatever the initiative

will be in the days to come, both standard setters can benefit from one another through sharing of
experience and of expertise in their respective areas. Further research is needed, especially in the
application of new IFRS 15 revenue from contracts with customers, which may have an impact on the
reporting of Islamic financial transactions based on a murabaha contract.

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Appendix 1
If an Islamic bank purchases an asset for RM 241,000 and sells the asset at 4.25% annualized profit rate,
whereby the selling price will be paid by the customer over 30 years in equal monthly instalments, the
resultant journal entries in the books of Islamic bank at initial recognition probably would be:

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AAOIFI
Purchase of asset from vendor
Dr Murabaha inventory 241,000
Cr Cash

241,000

IFRS
Purchase of asset from vendor
Dr Murabaha inventory
241,000
Cr Cash

Sale of asset to customer


Dr Murabaha receivables 426,807
Cr Revenue

426,807

Sale of asset to customer


Dr Murabaha receivables* 241,000
Cr Revenue
241,000

Dr Cost of sales
241,000
Cr Murabaha inventory

241,000

Dr Cost of sales
241,000
Cr Murabaha inventory

241,000

241,000

Deferred profit = Revenue - Cost of sales


= 185,807.

*Fair value of the receivables; i.e., present value of


future receivables (IAS 18: 11).

Statement of Financial Position


Murabaha receivables = 426,807 - 185,807
= 241,000

Statement of Financial Position


Murabaha receivables* = 241,000

Dr: Debit; Cr: Credit


In subsequent measurement, the journal entries probably will be
AAOIFI
Month

Dr Cash

1
1,185.58
2
1,185.58
3
1,185.58
4
1,185.58
5
1,185.58

356
1,185.58
357
1,185.58
358
1,185.58
359
1,185.58
360
1,185.58
I/S: Income Statement

Cr Murabaha
receivables*

Dr Deferred
profit

Cr I/S: Profit from


murabaha sales

1,185.58
1,185.58
1,185.58
1,185.58
1,185.58

1,185.58
1,185.58
1,185.58
1,185.58
1,185.58

516.13
516.13
516.13
516.13
516.13

516.13
516.13
516.13
516.13
516.13

516.13
516.13
516.13
516.13
516.13

516.13
516.13
516.13
516.13
516.13

Murabaha receivables*
balance net of deferred profit
in SFP
240,330.56
239,661.11
238,991.67
238,322.22
237,652.78

2,677.78
2,008.33
1,338.89
669.44
0

IFRS
Cr Murabaha
Cr I/S: Profit from murabaha
Murabaha receivables*
receivables*
sales
balance in SFP
1
1,185.58
332.03
853.54
240,667.97
2
1,185.58
333.21
852.37
240,334.76
3
1,185.58
334.39
851.19
240,000.37
4
1,185.58
335.57
850.00
239,664.79
5
1,185.58
336.76
848.81
239,328.03

356
1,185.58
1,164.80
20.77
4,700.61
357
1,185.58
1,168.93
16.65
3,531.68
358
1,185.58
1,173.07
12.51
2,358.61
359
1,185.58
1,177.22
8.35
1,181.39
360
1,185.58
1,181.39
4.18
0
* For comparison purposes, the phrase murabaha receivable is used for IFRS-based reporting; however,
Islamic banks in Malaysia that apply IFRS recognise it as murabaha financing.

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Month

Dr Cash