Islamic banking continues to grow as a cornerstone of ethical finance. Built on the principles of shared risk and P&L, real economic activity, and socially responsible investment, it offers an alternative to conventional banking models. Yet as global regulatory standards such as IFRS 9 gain traction, Islamic financial institutions (IFIs) face a growing challenge: how to remain compliant with international accounting norms without compromising core Shariah principles.
This tension is not assumed. It impacts accounting classification, credit risk modeling, profit recognition, and audit readiness. With local implementations of IFRS 9, such as PSAK 71 and PSAK 413, emerging in jurisdictions with large Islamic finance sectors, the need for practical, scalable solutions has never been greater.
Shariah finance: The ethical foundation
Islamic finance operates under clear ethical rules:
- Interest (riba) is prohibited. Profits must come from trade or investment in tangible assets
- Risk and reward are shared between parties, often through profit-sharing or partnership contracts
- Uncertainty (gharar) and speculative activity (maisir) are avoided
- All transactions are asset-backed and must align with ethical investing principles
These rules are not just legal; they reflect a broader worldview of fairness, trust, and social responsibility. However, complexity emerges when applied within international financial reporting frameworks, especially IFRS 9.
Where principles and standards collide
1. Classification under IFRS 9
IFRS 9 classifies financial instruments based on the business model and the nature of cash flows. The Solely Payments of Principal and Interest (SPPI) test is a critical gatekeeper: if an instrument doesn’t generate traditional interest, it likely won’t qualify for Amortized Cost treatment.
This creates challenges for standard Islamic contracts:
- A Murabaha contract involves buying an asset and selling it at a markup, but since the return is not “interest,” it often fails the SPPI test
- A Musharakah or Mudarabah partnership is even further from SPPI criteria, with returns based on shared profit
As a result, many Islamic instruments must be reported at Fair Value Through Profit or Loss (FVTPL), which can increase P&L volatility. In some jurisdictions, such as Indonesia, under PSAK 413, which aligns with IFRS 9, this creates real accounting consequences for Islamic institutions.
2. Expected Credit Loss (ECL) modeling
ECL under IFRS 9 (and equivalents like PSAK 71) is based on statistical forecasting of future losses using historical data, credit ratings, and probability of default.
But in Islamic banking:
- Contracts may not define default similarly, especially for profit-sharing structures
- Historical loss data may be limited or not captured in the same format
- Shariah governance sometimes limits the use of probability-based modeling
This makes standard ECL approaches hard to apply. For instance, a Mudarabah contract with a non-guaranteed return does not align with traditional credit loss models. Institutions must often adapt, estimate, or simulate these risks with limited precedent.
3. Timing and profit recognition
Islamic banks often recognize profit upfront, particularly in Murabaha contracts, even if payments are deferred. IFRS 9, however, requires recognition aligned with risk and economic substance, usually via amortization over time.
The result is dual accounting logic:
- One method for internal Shariah compliance and local regulatory expectations
- Another for external financial reporting and IFRS-based disclosures
Maintaining both perspectives in parallel adds operational strain, increases reconciliation effort, and affects KPIs and capital adequacy reporting.
The cost of dual compliance
Reconciling Islamic finance principles with global standards is not just an accounting issue; it’s a resource issue. Institutions must:
- Maintain parallel accounting treatments
- Implement custom classification and impairment models
- Ensure auditability of decisions that reflect dual logic
- Respond to regulatory divergence across jurisdictions
This becomes an unsustainable burden in environments without strong automation, data governance, or risk modeling capabilities. As Islamic finance grows, crossing over $4 trillion in global assets, stakeholders demand greater transparency, comparability, and reporting clarity.
Building bridges: technology as an enabler
The option is not binary, nor is it to pick one framework over the other. It’s to invest in the right infrastructure to bridge them.
OneSumX for Finance supports Islamic financial institutions with data-driven solutions that can:
- Map all Islamic Financial instruments
- Perform credit risk analysis, including stress testing and credit exposure analysis
- Perform P&L analysis in line with the Islamic P&L sharing principles
- Classify instruments based on business rules, including Shariah-specific logic
- Model ECL with flexibility for Islamic contract types and limited data environments
- Automate dual reporting, reconciling Islamic and IFRS views side by side
- Ensure regulatory traceability, even across overlapping or conflicting standards
This creates the foundation for consistent, transparent, and efficient reporting, without compromising ethical integrity.
A pragmatic way forward
Islamic finance seeks a balance between faith and function, ethics, and economics. IFRS 9 demands rigor in accounting and risk. Together, they’re not incompatible but require a thoughtful, strategic approach.
That approach begins with understanding the differences, investing in the right tools, and empowering teams to focus on value, not reconciliation.
Want to learn how OneSumX can support Islamic finance institutions with IFRS 9 and PSAK 413 compliance? Contact us to schedule a conversation.
