Islamic banking law is being prepared in Azerbaijan

Azerbaijan plans to launch Islamic banking products starting in 2026. Under the Central Bank's special regulatory regime, the process of bringing the first products to market has already begun, while work on improving the legal and regulatory framework continues in parallel.

This was stated by Shahin Mahmudzade, Chairman of the Central Bank, in an exclusive interview with Trend.

In the interview, the Chairman spoke about the measures taken to bring Islamic banking products to the Azerbaijani market, the relevant legislative amendments in this area, incentive mechanisms, international cooperation and other issues.

Sh. Mahmudzade first stated that concrete steps have already been taken to bring Islamic banking products to the Azerbaijani market. He recalled that under the Central Bank's special regulatory regime, from 02.02.2026 for the next 1 year, "Rabitabank" OJSC is already offering customers products in line with Islamic banking principles: attracting funds from legal entities and individuals on the basis of "Mudaraba", and financing the fixed assets and working capital goods of business entities through the "Murabaha" mechanism:

"In addition, starting from April of this year, for the next 1 year under the special regulatory regime, "Azerbaijan International Bank" is expected to offer customers the "Murabaha" product for the financing of real estate and movable property registered in the official registry of resident legal entities and individual entrepreneurs.

After the proposed amendments to the legislative acts on Islamic banking enter into force, under the "alternative window" model, banks are expected to offer a type of order-based contract for production or construction - Istisna, a sale-based (purchase-and-sale) financing type - Murabaha, a lease-based financing type - Ijara (the analogue of financial leasing in conventional banking), a financing (deposit) type based on the sharing of profit and loss between the bank and the customer - Mudaraba, and a deposit-based product similar to a demand deposit - Wadiah, while non-bank credit organisations (NBCOs) are expected to offer only Istisna, Murabaha and Ijara".

It should be noted that the Central Bank of Azerbaijan had planned to submit the amendments to legislation related to Islamic banking to the government by the end of 2025. The Chairman also spoke about the work being done on amendments to the Civil Code, the Law "On Banks" and the Tax Code.

"This is also one of the important areas. Currently, the relevant amendments proposed to the Civil Code, the Tax Code, and the Laws of the Republic of Azerbaijan "On Banks", "On Non-Bank Credit Organisations", "On State Duty", "On Credit Bureaus" and "On Privatisation of State Property" have been submitted for legal expertise. It is planned to submit the draft amendments to the government as soon as possible. At the same time, after the adoption of the draft amendments to the Code and Laws, it is planned to define a prudential regulatory framework at the next stage in order to manage the risks arising from the introduction of Islamic financial products", Sh. Mahmudzade emphasised.

The Chairman of the Central Bank also touched on the issue of exempting Islamic financial transactions from VAT. He noted that this serves to equate the financial services provided under alternative (Islamic) banking with conventional banking services in terms of tax regime and to ensure tax neutrality between conventional and alternative banking. Sh. Mahmudzade said that this issue is reflected in the draft legislative amendments that have now been prepared and, as he had stated, it is planned to submit the draft to the relevant state bodies in the near future.

"Offering Islamic banking products under the "Islamic banking windows" or "alternative window" model increases financial inclusion and generates additional income for banks by attracting a new customer segment and introducing new products. At the same time, the expansion of deposit types will help increase banks' liquidity", the Chairman of the Central Bank noted.

Sh. Mahmudzade also recalled that there is no bank in Azerbaijan operating fully on Islamic principles, and clarified whether full-fledged Islamic banks could be established in the near future:

"The choice of model requires a phased approach. As I have already mentioned, in the near term the introduction of Islamic banking is planned under the "Islamic windows" model. The question of establishing Islamic banks may be considered at the next stage, taking into account the practical results of introducing Islamic financial products in the country and the dynamics of market development".

Sh. Mahmudzade also spoke about the steps taken to create a regulatory framework for sukuk issuance in the country. He said that, currently, with the support of the Islamic Development Bank , a technical assistance project is being implemented by the Central Bank to create a legal framework for sukuk, an Islamic financial instrument:

• "Unlike conventional bonds, sukuk does not create a pure debt relationship; it represents the investor's ownership right in a specific asset or project and thus links financing directly to real economic activity. This feature makes it an instrument that provides additional financial resources for business entities, strengthens investor confidence and diversifies access to the capital market. For small and medium-sized businesses (SMEs), sukuk can, through financial institutions using structured mechanisms, contribute to the growth of their resources and easier access to long-term financing. In terms of infrastructure projects, sukuk can create an alternative financing channel in capital-intensive sectors such as energy, transport, industry and real estate by providing a long-term and stable source of financing. International experience shows that project-based sukuk structures are widely used in financing large infrastructure projects and, by attracting investor interest, allow financing costs to be diversified".

Sh. Mahmudzade also noted that, against the backdrop of the possible emergence of a sukuk market, cooperation with international financial institutions could open up additional opportunities in terms of strengthening regulatory and institutional capacity and exchanging technical knowledge and experience. He stressed that in the medium and long term this approach could contribute to the gradual expansion of Azerbaijan's capabilities in Islamic finance instruments in the region and to building foreign investor confidence.

In addition, the Central Bank has identified international cooperation as a priority area in the development of Islamic finance. In this regard, Sh. Mahmudzade also spoke about the possible introduction in Azerbaijan of regulatory models, Sharia supervision mechanisms and staff training programmes based on the experience of the Islamic Development Bank and countries such as Pakistan and Malaysia. According to him, studying international experience plays an important role in this process:

• "Thus, alongside the formation of a regulatory and institutional framework for the introduction and development of Islamic finance, creating human capital with the necessary knowledge and skills in this field is considered one of the main priorities. To this end, the advanced experience of countries such as Turkey, Pakistan and Malaysia is being studied, and, within cooperation with the Islamic Development Bank, experience exchange, knowledge sharing and participation in staff training programmes are carried out on a regular basis, and this is planned to continue at the next stages as well".