Retail Suitability File: Guaranteed Income, a Mortgage and Purification Disclosure
A 58-year-old retail client has $850,000 in a conventional pension and $120,000 in cash. She wants a Shariah-compliant portfolio producing 'at least 5% guaranteed' annual income to supplement retirement in seven years. She describes herself as moderately conservative, has no dependants, and wants to avoid any haram income. She also wants a Shariah-compliant mortgage to buy a second property and asks whether takaful can replace her life insurance. The adviser's risk questionnaire scores her 42/100 (conservative). A proposed portfolio is 70% Shariah-compliant equities, 20% sukuk, 10% commodity murabaha, with expected income 3.1% and expected volatility 11.8%. The adviser's note says 'guaranteed' can be used because the sukuk is asset-backed. The client signs a Shariah preference declaration that does not mention purification or mortgage. The firm's compliance team flags the file.
1. Identify the suitability, Shariah and documentation failures in the file.
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The file has four failures. First, the proposed 70% equity allocation is inconsistent with a conservative score of 42/100 and a seven-year horizon; expected volatility of 11.8% is high for a client who describes herself as moderately conservative. Second, the expected income of 3.1% does not meet her 5% target, yet the file does not show a discussion of the shortfall or the additional risk needed to close it. Third, the word 'guaranteed' is misleading. A sukuk is asset-backed, but asset backing does not guarantee market value, income or repayment; sukuk can default or be traded below par. Fourth, the Shariah preference declaration is incomplete: it omits purification, the mortgage structure and takaful. The file also lacks a documented explanation of how haram income will be avoided and purified, and it does not show that the client understands the trade-off between her income target and her risk tolerance. Compliance should require a new suitability report and a corrected Shariah declaration.
2. How should the adviser respond to the client's request for a 'guaranteed' 5% return and to the proposed 70% equity portfolio?
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The adviser must correct the guarantee language in writing. No Shariah-compliant market portfolio can guarantee a 5% annual return; sukuk and equities carry credit, market, liquidity and reinvestment risk. The adviser should explain that asset-backed does not mean capital-guaranteed, and that a guarantee from a third party would itself need Shariah review because it may create gharar or riba-like obligations. The adviser should then show scenario analysis: a lower-risk portfolio with 35% to 45% equities and a larger sukuk and Islamic liquidity allocation may reduce volatility, but expected income may fall to around 3% to 3.5%. If the client needs 5%, she may need to save more, delay retirement, spend capital, or accept higher risk; the adviser should document the choice. The 70% equity portfolio should not be recommended for a conservative client without a clear risk acknowledgment. If the client insists on the higher allocation, the adviser should record the override and obtain compliance approval.
3. What should the adviser document regarding the mortgage, takaful and purification before proceeding?
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For the mortgage, the adviser should document the structure: murabaha or diminishing musharaka, the ownership and risk-transfer mechanics, the profit rate, early settlement terms, late-payment charges and whether any penalty goes to charity. The client should confirm that the property is for her own use and that the rental or imputed income treatment is understood. For takaful, the adviser should explain that it is not identical to conventional life insurance: contributions go into a tabarru fund, surplus may be distributed, and the arrangement must avoid gharar and riba. The adviser should document whether takaful replaces or supplements her existing cover and whether the cover amount is adequate. For purification, the client should sign a declaration stating the method, frequency and charity recipients, and confirming that she wants non-compliant income removed. If she refuses purification, the adviser should explain the consequence and either exclude non-compliant holdings or decline the mandate. All three items should be reflected in an updated suitability report and Shariah preference declaration before any transaction.