Islamic banking in Kenya: a case for a change in laws



There has been a steady growth in the Islamic finance industry in Kenya. The country currently has two fully fledged Islamic banks and several other conventional banks with Islamic windows offering Islamic banking products and services.

The legal environment has slightly changed since the fully fledged Islamic banks commenced operations in 2008. Banks in Kenya are mainly regulated by the Banking Act and the Central Bank of Kenya Act.

As readers may be aware, Islamic finance prohibits the charging or payment of interest. Consequently, Kenya, in an attempt to regulate Islamic banking operations and products, made slight changes to its Banking Act. Initially, the Banking Act only made reference to ‘interest’. The Banking Act was subsequently amended in 2008 by adding the phrase “or a return in the case of an institution carrying out business in accordance with Islamic law” when referring to interest chargeable on a savings account.

Application of Muslim law

The Constitution is the supreme law of the land. Islamic finance products, on the other hand, are to be governed by Shari’ah. In Kenya, the judiciary is the arm of the government that interprets the law.

Article 170(5) of the Constitution states that the jurisdiction of a Kadhi’s court shall be limited to the determination of questions of Muslim law relating to personal status, marriage, divorce or inheritance in proceedings in which all the parties profess the Muslim religion and submit to the jurisdiction of the Kadhi’s court. As such, the jurisdiction of the Kadhi’s court does not extend to contractual relations.

The Kadhis’ Courts Act further reiterates this point by providing that a Kadhi’s court shall have and exercise the following jurisdiction, namely the determination of questions of Muslim law relating to personal status, marriage, divorce or inheritance in proceedings in which all the parties profess the Muslim religion.

The Judicature Act provides the sources of law in Kenya which include the Constitution, written laws, the substance of the common law, the doctrines of equity and the statutes of general application in force in England on the 12 August 1897 and African customary law. It should be noted that Shari’ah, Islamic or Muslim law is not referred to in the Judicature Act.

The Banking Act

There are several products offered by Islamic banks and these include a murabaha and a diminishing musharakah. A murabaha, simply put, is an Islamic banking product where the seller (a bank) and buyer (the bank’s customer) agree on the mark-up for the items being sold to the buyer by the seller. This presupposes that a bank engages in the trade of various items. However, the Kenyan Banking Act as currently drafted prohibits banks from engaging in wholesale or retail trade.

A diminishing musharakah arrangement may be used in the event that a bank’s customer wished to acquire immovable land. A bank and the customer would, in this instance, own the property jointly. This property would be divided into several units and the customer would periodically purchase the bank’s units over time until such a time that the customer would wholly own the property. This arrangement, defining a diminishing musharakah, is a challenge to effect under current banking laws in Kenya. Further, the Banking Act prohibits banks from purchasing or acquiring or holding any land or any interest or right therein except such land or interest as may be reasonably necessary for the purposes of conducting its business, or for housing or providing amenities for its staff, where the total amount of such investment does not exceed such proportion of its core capital as the Central Bank may prescribe.

The Central Bank of Kenya Act empowers the Central Bank of Kenya (CBK) to make regulations and as such the CBK has passed regulations known as the ‘Prudential Guidelines for the Institutions Licensed under the Banking Act’. The Guidelines on Prohibited Business under the Prudential Guidelines reiterates the position stated by the Banking Act, prohibiting banks from engaging in trade. The reason given for this prohibition is that the bulk of funds held by an institution constitutes depositors’ funds. For this reason, it would be imprudent for an institution that has been licensed to carry on banking, financial or mortgage finance business to venture into trading, or investments that may be risky, thereby jeopardising a depositor’s funds.

The Banking Act provides that an institution in Kenya shall not conduct its business or part thereof in a fraudulent or reckless manner or otherwise than in compliance with the provisions of the Banking Act. ‘Reckless’ has been defined in the Banking Act to include “transacting business beyond the limits set under the Banking Act or the Central Bank of Kenya Act”. If courts interpret that murabaha or diminishing musharakah transactions are “beyond the limits” set under the Banking Act or the Central Bank of Kenya Act, then all officers of the institution shall be liable jointly and separately to indemnify the institution against any loss arising in respect of the advance, loan or credit facility.

Without doubt, the provisions of the Banking Act discussed above would hinder an Islamic bank from operating in Kenya. So far, the Central Bank has sought to accommodate Islamic banks in Kenya simply by exempting them from these provisions. These exemptions have been said to last for a period of five years and the affected banks have had to reapply for exemptions once the initial five year period expired.

Land laws

The key land laws in Kenya are the Land Act, 2012 and the Land Registration Act, 2012. It would be a challenge to strictly effect a diminishing musharakah arrangement in Kenya under the current land laws. In the case of a direct acquisition of land under a diminishing musharakah arrangement, as noted, the bank would acquire certain immovable property that the customer is interested in and would then periodically sell portions of it to the customer until such a time as the customer wholly owns the property.

In Kenya, for one to be deemed an owner of immovable property, one has to be registered as the proprietor of that property at the relevant Lands Registry. In the case of a diminishing musharakah, this would mean that the bank would have to subdivide the property into smaller portions and over time transfer these portions to the customer. In Kenya, subdivisions are required to be registered at the relevant Lands Registry and subsequent transfers of the subdivided portions registered in the new owner’s name (in this case, the customer). It would not only be impractical to subdivide the property into so many units but also costly (as each transfer of the subdivided portion would attract its own registration fees) and time consuming (as transfer forms will need to be prepared and registered for the transfer of each subdivided portion).

The Stamp Duty Act

Stamp duty is payable in respect of each transfer of immovable property in Kenya from one party to another. Seeing as the customer would be purchasing the immovable assets from an Islamic bank in ‘instalments’, strictly speaking, each transfer of each subdivided portion would attract stamp duty. A valuation would have to be undertaken by the government valuer to ascertain the value of each subdivided portion for purposes of calculating the stamp duty payable on each subdivided portion of the immovable property at the point it is to be transferred by the bank to the customer. This would not only be quite time consuming but also labour intensive and unnecessarily expensive.

Value Added Tax Act

Value added tax (VAT) in Kenya is charged on the supply of goods and services which are considered taxable under the Value Added Tax Act of 2013. The nature of a murahaba arrangement is such that an Islamic bank procures an item and subsequently sells it to the customer. In the event that the item is ‘vatable’, the transaction will trigger VAT both at the point the bank is acquiring it and at the point the bank is ‘selling’ it to the customer. As a result, the cost of acquisition of an asset under an Islamic finance arrangement will be considerably high for the customer. Thus, the cost of financing an asset under a murabaha would appear to be prohibitive from a VAT perspective.

Sale of Goods Act

In the case where a murabaha transaction is interpreted to be one creating a seller-buyer relationship, the Sale of Goods Act would apply if the assets constitute ‘goods’.

The Sale of Goods Act sets out the obligations and responsibilities of a seller which include an implied warranty or condition as to the quality or fitness for any particular purpose of goods supplied under a contract of sale in the following cases: (i) where the buyer (customer), expressly or by implication, makes known to the seller (bank) the particular purpose for which the goods are required, so as to show that the buyer relies on the seller’s skill or judgment, and the goods are of a description which it is in the course of the seller’s business to supply (whether they be the manufacturer or not), there is an implied condition that the goods shall be reasonably fit for that purpose; (ii) where goods are bought based on a description from a seller that deals in goods of that description (whether they be the manufacturer or not), there is an implied condition that the goods shall be of merchantable quality; and (iii) an implied warranty or condition as to quality or fitness for a particular purpose may be annexed by the usage of trade. Ideally, an Islamic bank is not a trader but a financier. It should not, therefore, be required to be conversant with the requirements set out under law in the event it is financing the purchase of assets such as a motor vehicle or petroleum products.


It is important to note that the Shari’ah imposes certain requirements for a contract to be valid. Due to the varying schools of jurisprudence of Islam, these requirements may not all be the same. It is therefore possible for a contract to be valid under the tenets of one madhab of the Shari’ah and not under another madhab. It is also possible for a contract to be valid under Shari’ah and not under the prevailing laws of a country. If the validity of such a contract falls to be determined by a civil court in Kenya (as it should), the question then would be: how would the court decide it? To what sources of law would a judge deciding the case refer? Those set out in the Judicature Act discussed above? Further, if at all the courts were persuaded to defer to Shari’ah, given the fact that there are conflicting opinions from the different tenets of Islam, which opinion or fatwa would the court adopt? If there is a conflict between Islamic law and the civil laws applicable to the matter, which should take precedence? These are all questions to which answers might only be forthcoming from developing case law.

The Central Bank of Kenya, from the look of things, seems to recognise both murabaha and diminishing musharakah products as financing arrangements. There are, however, no express laws in place catering for the manner in which Islamic banking and finance products are to be structured and governed. Substantial amendments will need to be made to the Banking Act, the Stamp Duty Act, the Land Act, the Land Registration Act and the Value Added Tax Act to provide certainty in the event of a dispute.


Juliet C. Mazera is a consultant at Oraro & Company Advocates. She can be contacted on +254 20 271 3636 or by email:

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Juliet C. Mazera

Oraro & Company Advocates

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