Islamic Banking in Europe

The Regulatory Framework in Germany


Dr. Kilian Bälz, LL.M.

Attorney, Frankfurt/Main


Germany is a market with large potential (1)

Muslim population of some 3 million;

Comprehensive overhaul of welfare/pension system: increasing importance of private saving/pension funds;

Frankfurt is among the most important financial centres of the world, attracting international investors;

Stable regulatory environment for financial services;

Integration into the common market for financial services of the EU;



Germany is a market with large potential (2)

German industry provides many good opportunities for private equity investments (not limited to industries that, in the past, were labelled „New Economy“);

Increasing ethical awareness of investors: Socially responsible investment has gained much momentum in recent years;

Political neutrality.

The Regulatory Environment for Islamic Financial Institutions in Europe (1)

U.K.: long-standing interest of the regulator in Islamic banking and Islamic financial products - challenge of accommodating Islamic banks is not resolved;

Germany: The first Islamic financial products were launched in 2000 - Islamic banking has only recently attracted the attention of the public at large;

Detrimental side effects of discussion on „hawala banking“: hawala banking may NOT be confused with Islamic banking!


The Regulatory Environment for Islamic Financial Institutions in Europe (2)


Uniform regulatory standards standards

all financial institutions, as a matter of principle, are subject to the same regulatory rules;

universal banking system: no distinction between commercial banking and investment banking;

little flexibility to cater for the special needs of Islamic financial institutions (in contrast to dual system, such as Malaysia and Bahrain);

however: long-standing tradition of mutual saving funds („Raiffeisen“) and mutual insurance companies („Versicherungsvereine auf Gegenseitigkeit“).


What are the special needs of Islamic Financial Institutions in a secular environment?

To offer competitive products:

competition of Islamic with conventional products;

Muslims may not be put at a disadvantage.

To safeguard Sharî‘a compliance:

is the very basis of Islamic finance

constitutes the competitive advantage of Islamic banks.

Compliance with applicable laws:

regulatory requirements;

mandatory principles of contract law.


The Regulatory Framework in Germany

Sources of law: national legislation and EU directives:

            -           common market for financial serives in the EU;

            -           mutual recognition of regulators;

Banking Act („KWG“): broad definition of „banking activities“ in § 1 KWG;

Investment Companies Act

            -           establishment of investment funds in Germany;

            -           distribution of foreign investment shares (EU investment funds/non-EU funds);

Insurance Supervisory Act („VAG“): applicable, also, to mutual insurance companies;

Money Laundering Act: amended in the light of 9/11.

The Regulator: BAFin

As from 2002, single regulator: Federal Agency for the Supervision of Financial Services („BAFin“);

„One stop shop“:

            -           banking;

            -           insurance;

            -           investment;

            -           securities trading;

            -           financial services.

Based on the English model;

Close co-operation with other European regulators (mutual recognition and sharing of information).

Mandatory Provisions (1)

Consumer protection:

Standard contractual terms („AGB“): murabaha

Special consumer legislation: home financing.

Unfair competition:

distribution of Islamic financial products;

advertising: §§ 1 and 3 of the Law against Unfair Competition („UWG“) - appeal to religious beliefs permissible? More tolerant tendencies following the „Benetton Case“ of the Federal Constitutional Court.

Mandatory Provisions (2)

Corporate law:            

until quite recently, German courts held that a corporation incorporated under German law has to have its real seat in Germany and that, vice versa, a corporation with real seat in Germany must be incorporated under German law;

of importance in connection with investment vehicles;

recent decision of the ECJ („Überseering“): future of the „real seat theory“ to be awaited.


Carrying Out Banking Activities in Germany (1)

Application for a banking license § 32 KWG:

Sufficient funding;

Place of Business in Germany;

Trustworthy and experienced management;

Trustworthiness of any holder of a „significant participation (exceeding 10%);

Adequate business plan and organisation;

If the bank is a banking subsidiary, it is required that the parent company is „effectively supervised.“

Procedure can be a time consuming and lengthy.


Carrying Out Banking Activities in Germany (2)

Banking subsidiary: will be treated as German bank (requirement of license according to § 32 KWG);

Branch (§ 53 KWG);

Representation/cross boarder activities:

            -           non EU banks (§ 53a KWG);

            -           EU licensed banks (§ 52b KWG - „European               Passport“): principle of mutual recognition>> no l                        license of German regulator required/principle of                        home country supervision/limited supervision in                      Germany;


Establishing an Islamic Bank in Germany (1)

Corporate governance issues: Safeguarding compliance with Sharia rules          

            -           two tier system: „Vorstand“ (administration) and                        Aufsichtsrat“ (supervision, advice);

            -           optional: advisory boards;

            -           wording of objects clause to include Islamic                   orientation of the financial institution;

            -           integration of Sharî‘a standards (e.g. AAOIFI) in                       business policy (code of conduct, board regulation).

Establishing an Islamic Bank in Germany (2)

Regulatory requirements:

Broad definition of „banking activities“. As a consequence, an Islamic bank, even if only offering a limited product range, will require a banking license;

Capital adequacy requirements;


Limitations on significant participations;

Deposit insurance („Einlagensicherung“).

Distribution of Islamic Investment Shares

At present, the investment shares of two Islamic funds are distributed in the German market (both EU incorporated)

Precise definition of Sharia rules/investment policy

Self-restraint as regards advertising, also in order to reduce risk of prospectus liability.

Advisory role of Sharia board


Murabaha Financing

„Symphony Gems“: according to the London High Court, a murabaha agreement, if properly drafted, is enforceable under English law;

Situation in Germany: in contrast to UK, no experience with disputes regarding Islamic financing agreements;

Choice of English law;

Application of the §§ 307 seq. of the German Civil Code dealing with unfair terms in standard contracts.

Contact Details


Dr. Kilian Bälz, LL.M.

ärtnerweg 2
Tel. +49 (0) 69-95514-444
Fax+49 (0) 69-95514-198