Al huda lahore_20-10-2008_principles of islamic finance by muhammad khaleequzzaman

Islamic Modes for Agricultural
Financing
PRINCIPLES OF ISLAMIC
FINANCE
Lahore 20th October, 2008
Al – Huda Training Programme
Muhammad Khaleequzzaman
Head Islamic banking Department
Int’l Islamic University Islamabad

Principles of Islamic Finance

Prohibitions & Permissions
1. Prohibition of Riba:
Riba means excess– Predetermined/fixed/time related
Excess of weight or measure in one of the two homogenous
articles in a contract of exchange
– An increment on loan received by the lender (benefit of delay)
- Riba al Nasi’ah (Riba al Jahiliyyah, Quranic Riba)
– Discrepancy appropriated through exchange of goods (arising
from weight or measure subjec to conditions) -Riba al Fadl

Resolutions of The Azhar Islamic Research Academy Egypt,
The Council of Islamic Ideology Pakistan, and The Islamic
Fiqh Academy of OIC have concluded that: The bank interest
in all its forms is Riba


A. Qur’an
1. Surah al-Room – [Undesirability of Riba was revealed
where Allah (SWT) conveyed His displeasure on such
transactions] (30:39) “That which you give as riba to
increase the people’s wealth increases not with God:
but that which you give in charity, seeking the
goodwill of God multiplies manifols”


2. Surah al-Nissa – [In response to provocations of Jews
and recounting their sins, including charging of Riba,
Allah (SWT) tells them about the punishment and
rewards for the clear minded] (4:161-162) “And for
their taking riba although forbidden for them, and their
wrongful appropriation of other people’s property, we
have prepared for those a painful doom for these
disobedient persons. However, We will give a great
reward to those among the jews) who are clear
minded about the truth, without a grain of doubt, and
who believe in the Quran and all other revealed books,
establish salah, give zakat, and believe in allah and
the day of judgment”


3. Surah Aale-Imran – [Riba was expressly prohibited for
Muslims] (3;130) “O believers, take not doubled and
re-doubled riba, and fear Allah so that you may
prosper. Fear the fire which has been prepared for
those who reject faith, and obey Allah and the prophet
so that you get mercy”


4. Surah al-Baqarah – [In response to adversaries of
Islam’s question of paralleling profit and Riba, Allah
(SWT) permitted sale and prohibited Riba, and that the
matter of already charged Riba was with Allah] 92:275-
277) “Those who take riba shall be raised like those
who have been driven to medness by the touch of the
devil; this is because they say :’trade is just like
interest’ while God has permitted trade and forbidden
interest. Hence those who have received the
admonition from their Lord and desist, may keep their
prevoiu gains, their case being entrusted to God, but
those who revert shall be the inhabitants of fire and
abide therein for ever”


5. Surah al-Baqarah- [Declaration of war from Allah
(SWT) and His Prophet (PBUH) against those who
disobey the prohibition, and all previous Ribavi
transactions were entitled to receive principal only,
and that to give the debtor grace period until he can
manage to clear the dues against him] (2;278-280) “O
believers fear Allah, and give up what is still due to
you from riba if you are true believers. If you do not do
so, then there is declaration of war from allah and His
Messenger. But if repent, you can have your principal.
Neither you should commit injustice nor should you
be subjected to it. And if the debtor is in misery, let
him have respite until it is easier, but if you forego it
as charity, it is better for you if you realize.


1. Prohibition of Riba: Prohibition in Shariah:
B. Ahadith
Ahadith relate to the following subjects:
1. Prohibition of Riba [various parties to Ribawi
transaction]
2. Consequences of indulging in Riba […Night of
ascendance to Heavens…, violators subject to
the curse]
3. Forms of Riba in loans and other transactions
[…Varily/Indeed Riba was in lending, …exchange
of radi with burney dates…, Riba al Fadl]


B. Ahadith
Ahadith relate to the following subjects:
4. Creditor and debtir relationship […not to accept
any gift or ride from borrower…, …even minute
benefit transferring from debtor to creditor…]

5. Outstanding debt, the necessity of repaying the
debt […all sins would be forgiven except o/s
debt…, …dishonor and punishment for willful
defaulter…, …allowance of repayment time for
genuine defaulter…]


Economic Rational For Prohibition of Riba
1. Interest (Price of Capital)– main factor for unjust
distribution of production results
• Capital receives the whole benefit but does not share losses
• Entrepreneur is discriminated by paying fixed rate of interest
even in case of loss
• Capital is discriminated by receiving small amount of interest
when entrepreneur earns large profits
• Industrial borrower receives large profits and pays small part
to depositors through conventional banking (net resource
transfer from poor to the rich) –Concentration of income and
wealth.
Islamic finance prescribes Profit and Loss sharing as
no one can determine the productivity of capital and
entrepreneur before hand.


2. Credit worthiness preferred over productivity and
proper utilization of loan – corporate sector
appropriates the funds while Small businesses are
neglected despite their economic feasibility
Islamic banks downscale their operations as they
share in the results of the business and credit
worthiness occupies secondary position than
productivity.
3. The interest system promotes passive behavior and
risk aversion – absence of effort affects production
and productivity
Islamic finance brings active partners together (P&L
sharing)


4. The conventional banking exposed to instability
Islamic banking, working through the system of profit
and loss sharing, demonstrates a stable system.
5. Banks funds are de-capitalized in interest based
system
P&L sharing saves from this loss as depreciation in
value of money is compensated through price system
• Moral hazard and adverse selection-
Equity finance provides access to information [more
even resource distribution]


2. Profit belongs to one who bears responsibility of loss:
- These two interrelated characteristics are expressed
in the Prophet (PBUH)'s saying "al kharaj bi al daman
“ –entitlement of gain is linked to the responsibility for
loss”.
- The principle of liability distinguishes profit from
riba more clearly than prohibition of Riba.
3. Variable return:
Profit Sharing Principle (PSP) or the Profit and Loss
Sharing Principle (PLSP).
– Mudarabah – Profit sharing principle
– Musharakah – Profit and loss sharing principle


4. Asset backed financing: Money cannot be considered
as capital – real sector activity
MONEY
Conventional
FI Client
FI
Finance
MONEY

MONEY/GOODS
Islamic
FI Client
FI
Finance
MONEY/COUNTER
VALUE


5. Prohibition of uncertainty: Gharar [minor vs. major]
Uncertainty at very inception of the contract
Sale of probable items whose existence or
characteristics are uncertain. Such risky nature of
trade is similar to gambling.
 Bay al Mukhadarah – eg. Selling fruit before they ripen
 Bay al Samak fi’l Ma – eg. Selling fish in the water
 Bay Safqatan fi Saqfah – eg. Two prices in one sale, etc.
 Selling goods without proper description – Pebbling Sale
of milk in the udder of a cow


5. Prohibition of maysir (gambling)
Refers to acquisition of wealth at others cost
Quran condemns maysir stating it Satan “wants only
to sow enmity and hatred among you, and hinder you
from remembrance of God and from prayer”
6. Prohibition of fraud and deception (Khilabah and
Ghishish):
Disclosure of full information/avoiding to deceive
others, avoiding to appropriate property fraudulently
7. Prohibition of conditional sale or combining two
inconsistent contracts;


THANKS

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Al huda lahore_20-10-2008_principles of islamic finance by muhammad khaleequzzaman