The Disruption of Islamic Finance by Fintech: The Role of Digital Platforms in the Malaysian Islamic Banking Landscape

The Disruption of Islamic Finance by Fintech: The Role of Digital Platforms in the Malaysian Islamic Banking Landscape

Shazali bin Shaharudin, Muhammad Mukhlis bin Abdul Fatah^*, Mohd Yassir bin Jaafar, Nurshazwana binti Mohd Helmi, Muhammad Aiman bin Mohd Yunus, Miza Amirah binti Saedin

Faculty of Accountancy, University Technology MARA, Cawangan Melaka, Kampus Alor Gajah, Melaka, Malaysia

*Corresponding author

DOI: https://dx.doi.org/10.47772/IJRISS.2025.906000136

Received: 26 May 2025; Accepted: 31 May 2025; Published: 03 July 2025

ABSTRACT

New financial technology solutions are transforming traditional banking services at lightning speed and introducing fresh possibilities and hurdles in global banking markets. Malaysia’s Islamic banking sector is transforming their business through Fintech by providing modern digital systems that make banking easier for staff and customers. Electronic changes pose risks to Shariah rule compliance as well as customer privacy while the financial sector deals with unmet regulations. This paper shows how Fintech helps to change Islamic banking in Malaysia by using digital tools to bring more people into banking, make processes simpler, and ensure financial products follow Islamic law. Using discussions and content analysis, this paper looks at what professionals consider as important changes, obstacles, and growth possibilities within the Islamic banks. Our findings reveal that using modern tech platforms such as blockchain, Artificial Intelligence (AI) and digital wallets can improve Islamic finance’s development, but it require strong regulations to safeguard against safety threats and keeping the legal matters straightforward. The report presents practical guidelines for Islamic banks, fintech providers, and government officials to shape a robust Islamic financial technology environment that improves market competition and develops public financial knowledge and access.

Keywords: Financial Technology (FinTech), Malaysia Islamic Banking, Shariah Compliance, Regulatory Frameworks

INTRODUCTION

FinTech provides a solution to financial problems in the industry such as the introducing of mobile banking. All banking operations in the universe have been renovated through Fintech with the elimination of the destructive measures and explored avenues. FinTech has lengthened access to financial services, particularly in underserved regions, by providing mobile banking and peer-to-peer lending options (Qur’anisa et al., 2024). Similar to the issues concerning Malaysian Islamic finance, disruptions in the current landscape have been caused by FinTech solutions. These have come in the form of digital platforms that better operations while increasing inclusion in finance and optimizing customer experience. The main challenge, has been ensuring that Fintech adheres to the strict Shariah regulations governing the financial undertakings.

As Malaysia’s ambition in being a world leader in Islamic finance, Fintech plays an important role. New technologies such as blockchain, Artificial Intelligence (AI) and digital wallets promise to ensure not only operational efficiency but also innovation for the customer engagement. An example would be the increased efficiency in the process of producing Sukuk through Blockchain. Blockchain can streamline Sukuk issuance, enhancing transparency and reducing fraud, thereby increasing trust among customers and Shariah authorities (Farhan et al., 2024). Artificial Intelligence (AI) can also be tapped into understanding the customers’ needs better to serve them more effectively by Islamic banks. As with every advancement in technology, Islamic banks are placed under pressure to catch up with the times while remaining within the limits of proper ethics and standards set by economics according to Shariah. This has created a conflict of challenges to integrate Fintech with the world of Islamic banking.

Problem Statement: Fintech, even as it has the potential for disruptive change, has brought the application in Islamic finance issues and challenges that call for urgent and serious consideration. That is ensuring that any Fintech solutions will also be in compliance with the requirements of the Shariah prohibition riba (interest), gharar (uncertainty), and unethical practice, which is a daunting task. The necessity for clear understanding of Shariah-compliant contracts (e.g., mudharabah, musharakah) is critical for fintech lending (Fathorrozi & Hamzah, 2024). Automation in financial services like smart contracts, peer-to-peer lending, and digital payment systems does not, however, tend to have mechanisms that provide standard consistency with the requirements of these religious principles. It poses one of the operational and reputational risks that could face Islamic financial institutions intending to maintain their ethical commitments.

Another serious matter that reveals the threat of cyber security is that it exposes an Islamic bank’s continual to the digital links through which it should work. Islamic financial institutions must strengthen their risk management frameworks to mitigate the cybersecurity threats. This includes active supervision, adequate policies, and internal controls related to information technology (Kurniawan & Solihin, 2022). Weaknesses found in security systems probably undermine customer belief in Islamic banking institutions, preventing enjoying the last Fintech offerings with full confidence. Strong data privacy regulations on sensitive information should also be put in place as the world are currently becomes more reliant on cloud technology as compared to the previous technology.

Furthermore, it adds further complication to the regulation scenario in Malaysia. To drive Fintech innovation, Malaysian government has come up with various initiatives such as the Malaysia Madani Economy Framework and Shared Prosperity Vision of 2030. This initiative aims to foster innovation but lacks specific guidelines for Fintech integration into Islamic finance (Hossain et al., 2024). Yet there doesn’t exist a single guideline acknowledged anywhere in the entire world on how to integrate Fintech into Islamic finance. This could be because harmonized regulations across jurisdictions are lacking, which creates the barrier of cross-border transactions and limits scalability of Islamic Fintech’s.

In addition, there is also a great need for financial literacy among customers, regulators and even financial institutions. With limited information about Fintech and its implications for Islamic finance, this will prevent it from being effectively adopted and put into practice. Financial literacy is essential for understanding fintech services, which can enhance financial management behaviors among Muslim communities (Fadillah & Suryomurti, 2024). Therefore, this lack of awareness not only limits customers but also limits the potential of financial institutions themselves in creating innovative products.

This gap should be filled by government initiatives through regulators, Fintech providers and Islamic financial institutions working together. Hence, this requires a great deal of effort in harmonizing technological advances with ethical standards and creating a conducive regulatory environment as well as innovating it without compromising Shariah compliance.

Research Questions

• How do digital platforms help enhancing the operational efficiency and customer service in Islamic banking?
• What are the main challenges of Fintech that test Shariah compliance, with a special emphasis on automated systems and smart contracts?
• What steps should Islamic banks take to sustainably implement Fintech and find a balance between innovation, ethical requirements and regulations?

Objectives of the Study

• To assess the contribution of digital platforms toward improved operational capabilities and customer engagement in Islamic banking.
• To identify the main challenges that Fintech creates for Shariah compliance focusing on automated systems and smart contracts.
• To indicate how Fintech could be meaningfully integrated into Islamic banking in a manner that will sustain innovation while attending to ethical and regulatory imperatives.

The report addressing this objective will provide critical insight into the opportunities and risks associated with Fintech disruption in Islamic finance. It also underscored the importance of building a resilient, inclusive and Shariah-compliant ecosystem to help Malaysia achieve its aspirations and remain at the forefront of global Islamic banking.

LITERATURE REVIEW

Shariah Compliance in Fintech: Shariah compliance within the Islamic finance centers around the avoidance of prohibited activities such as riba (interest), gharar (excessive uncertainty), maisir (gambling) and haram (unethical) practices. Fintech innovations, particularly in smart contracts, peer-to-peer (P2P) lending, and automated financial systems, must align with these principles to gain acceptance within Islamic finance. The rapid development of Fintech has created significant gaps in the standardization of Shariah-compliant frameworks leading to challenges in ensuring these systems uphold the ethical standards mandated by Islamic law (AlMelaih AlFzari et al., 2024). Increased emphasis on transparency and the involvement of competent Shariah boards in designing and overseeing these technologies could help mitigate these risks (Yazid, 2023).

Additionally, while emphasis on avoiding riba (interest) and maysir (gambling) is critical, some argue that strict adherence may limit the potential for financial innovation and accessibility in the rapidly evolving Fintech landscape. Balancing compliance with innovation remains a challenge for the sector (Mohamad et al., 2024). Since this Fintech process falls under the risk-governance and compliance umbrella, observing the Shariah principle is very vital as it can ensure that financial transactions and all operations are held by Islamic ethical principles and legal framework that can mitigate risk (Razak et al., 2020). One of the intrinsic problems in ensuring Shariah compliance with Fintech is the incidence of gharar. In smart contract-driven financial transactions, the transparency of underlying terms, predictability of outcomes, and ambiguity in terms and conditions have become a major concern (Al-Haija & Syed, 2021) While smart contracts execute automatically upon the fulfillment of certain conditions some elements of the transaction might be hidden, which could introduce uncertainties that something Islamic law is not too interested (Widya Widya & Akhmad Syafi’i, 2024).

Regulatory Frameworks for Islamic Fintech: The regulatory landscape in Islamic finance thus becomes critical in the adoption and scalability of Fintech. As much as Malaysia has pioneer initiatives like the Madani Economy Framework to help develop an enabler-friendly environment for innovation in Fintech, the literature points at a gap from the global levels of harmonization (AlMelaih AlFzari et al., 2024). This lack of standardization makes it difficult for Islamic Fintech solutions to scale across borders, and cross-border transactions become cumbersome, with their potential limited (Mohamad et al., 2024). Regulatory framework is particularly pronounced in the integration of Fintech with Islamic banking practices, where financial products must adhere to both regulatory standards and Shariah principles (Alshater et al., 2022). This can create complexities when firms attempt to operate across different jurisdictions with varying regulatory requirements. The regulators and standard-setting bodies develop frameworks that balance innovation with legal and ethical considerations to ensure that Islamic financial institutions and Fintech providers work within a set of common standards that mitigate the risks of non-compliance with Islamic law and regulatory oversight (Aysan & Unal, 2023).In Malaysia, the Securities commission(SC) issued  framework for digital investment management  to facilitate equity crowdfunding, peer-to-peer lending and digital asset exchanges to promote innovation in the banking sector, manage disruption, mitigate risks, and ensure consumer protection. BNM also issued regulations on digital currency exchanges, electronic-know your customer requirements for fintech companies facilitating remittances and a regulatory sandbox framework for fintech businesses (Sherin Kunhibava & Aishath Muneeza, 2020).

Strategies for Sustainable Fintech Integration in Islamic Banking: Integrating Fintech into Islamic banking presents unique opportunities and challenges. The key to sustainable integration lies in the balance between technological innovation and the ethical imperatives of Shariah compliance. Blockchain technology, for instance, offers significant promise for improving transparency, accountability, and security in Islamic financial transactions (Unal & Aysan, 2022). By providing an immutable ledger and enhancing trust between parties, blockchain can help address concerns related to gharar and ensure that transactions are executed in compliance with Shariah principles (Rabbani et al., 2020). The success of Fintech in Islamic banking hinges on the collaborative efforts between Fintech providers, Islamic banks, and regulatory authorities, the importance of creating partnerships that ensure mutual understanding of the ethical, legal, and technological challenges (Farhan et al., 2024). Islamic Fintech Accelerator Programs, such as the one in Malaysia, exemplify this approach, providing a platform for innovation while maintaining a strong adherence to Shariah principles (Devanesan, 2023). These programs also encourage the creation of Fintech solutions that address real-world challenges in areas such as financial inclusion and access to banking services for underbanked populations (Muradova, 2024). In addition, impact investing and green financing are becoming focal points in the integration of Fintech with Islamic banking. The emphasis on ethical and sustainable investments aligns with the broader goals of Islamic finance, which promotes socially responsible and environmentally sustainable business practices (Meichio Lesmana et al., 2024). This alignment can be enhanced by using Fintech solutions to track the impact and sustainability of investments, ensuring compliance with both Shariah principles and broader environmental, social, and governance (ESG) criteria.

METHODOLOGY OF THE RESEARCH

Research Design: This is a qualitative research design that explores the integration of Fintech into Islamic finance in Malaysia. The approach here adopts case studies and thematic analysis in order to garner detailed insight into challenges and opportunities for this integration. The qualitative design is most apt in the expression of subjective experiences of the stakeholders and the complex interaction between technology, regulation, and Shariah principles. Based on these aspects, research will attempt to draw upon the best practices and outline areas of improvement with specific case studies of Malaysian Islamic financial institutions. The study would be based upon an in-depth analysis of the main issues related to Shariah compliance, operational challenges, technological advancements, and regulatory frameworks. This could all the better explain how Fintech can be aligned with the principles of Islamic finance and increase the value proposition while maintaining ethical and religious imperatives.

The research was sourced from a thorough review of the relevant academic literature, industry reports, regulatory guidelines and also case studies from leading Islamic financial institutions. Some of the key sources include reports and publications from Bank Negara Malaysia, which provide authoritative insights into regulatory frameworks and policies governing Islamic finance in Malaysia. Apart from that, white papers and industry insights from leading international Islamic finance institutions will be analyzed for best practices and innovative approaches toward product development and implementation. Peer-reviewed journals will also be a critical reference in exploring advanced topics of blockchain, cybersecurity, and FinTech applications in Islamic finance to ensure that the latest developments are considered in this study. This research will further contextualize strategic initiatives regarding Islamic finance through the study of policy documents, such as the Madani Economy Framework and Budget 2024 of Malaysia.

FINDINGS AND DISCUSSION OF THE ISSUE (CONTRIBUTION OF THE STUDY)

The phenomenal speed at which the Islamic finance sector in Malaysia is digitizing through the use of financial technologies (fintech) has shown that digital platforms can significantly improve operational capabilities and customer engagement. Innovations such as blockchain for the issuance of Sukuk and customer analytics powered by Artificial Intelligence (AI) enable Islamic banks to streamline their processes, enhance transparency, and deliver more personalized financial services. In this way, they have made Islamic banking more accessible and customer-friendly, especially to underserved populations. This present study shows the importance of digital platforms in fulfilling the aforementioned promise of increased efficiency and customer inclusiveness in the Shariah-compliance phenomenon. But evolving digital platforms continue to challenge Islamic banks to design their services and products to meet the changing requirements of Shariah in terms of end-customer solutions.

Nevertheless, these advantages still bring new challenges related to the ability of fintech systems to comply with Shariah, especially from the viewpoint of automated systems with smart contracts. Although such structures would achieve efficiency and reduced operational costs, the basic doctrines of Islamic finance, such as prohibition of riba (interest) and gharar (uncertainty). It highlighted how the rapid advancement of technology would over time set up compliance frameworks commensurate with Shariah, but leaves a big void for regulation and increased risk. Furthermore, it raises the stakes on other complicated issues of cybersecurity, such as data breach, because the very essence of Islamic banking revolves around trust. This therefore demonstrates the need for solid frameworks that facilitate innovation in funding while ensuring compatibility with Shariah conditions, making funding sources such as these turn out as truly Shariah compliant and fits within its confines.

Fintech integration into Islamic banking should rightly be innovative and cater to ethical and regulatory needs. An example of such a strategy can be controlling environments so that solutions can be tested by financial institutions on new technologies without losing sight of Shariah and regulatory compliance. In its additional advantages, these controlled environments leave Islamic banks and fintech provider areas to hone their solutions, test, and address compliance issues before full-scale implementation. Among those benefits is stakeholder education from customers to regulators on the most favourable effective risks of fintech in developing confidence and trust in its use. These approaches reflect prudent and carefully planned strategy inappropriately to introduce fintech into Islamic banking such that both innovation and ethical compliance are catered for.

This study makes comprehensive contributions by way of discussing the changing face of Islamic finance in the fintech environment and discussing the means through which these effects could be integrated to achieve sustainability in Islamic finance. Providing deep insight into the opportunities and challenges of using digital platforms in Shariah compliance, by identifying enabling pathways for realizing pragmatic fintech adoption in Islamic finance, is beneficial for industry practitioners and policymakers. In congruence with goals such as the Malaysia Madani Policy, these findings are expected to create a dramatized environment of balanced innovation with ethical governance. Finding this balance will ensure Malaysia’s positioning as a leader in Islamic finance globally without denying the position of its current financial ecosystem from continuous growth and inclusion.

CONCLUSION

This particular research outcome shows that using blockchain and AI increases the better work of Islamic finance in Malaysia through its openness and more people served by the proliferation of financial technology. While fintech speedily accelerates business operations in all sectors, special measures must be taken to ensure Shariah compliance in automated services with smart contracts. Laws lag behind technological advancements so rapidly that it becomes difficult to ensure that banks and customers safeguard Islamic law. An organisation should incorporate Fintech within Islamic banking by creating balancing strategies between technological advancement and Shariah compliance through test environments and continuous learning programs. In this regard, the results of this study will guide Islamic banks and their authorities on how to develop Shariah-compliant digital financial services in support of Malaysia’s vision to emerge as a new leading force in Islamic banking with its fair, ethical, yet innovative market.

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