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Banking, Investment, Insurance and Muslims in North America

Banking, Investment, Insurance and Muslims in North America






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    Banking, Investment, Insurance and Muslims in North America Banking, Investment, Insurance and Muslims in North America Document Transcript

    • Banking, Investment, Insurance and Muslims in North America M Raquibuz Zaman Ithaca College Courtesy: Journal Institute of Muslim Minority Affairs, Volume V, No. 1, 1984, pp. 71-76. Introduction Muslims in North America have some special concerns about the financial institutions such as banks (including thrift institutions),1 insurance companies, brokerage houses, and investment companies. These institutions are routinely engaged in certain practices, like dealing with interest, which are considered to be inappropriate, if not prohibited altogether, for the Muslims.2 In each of the following sections on banking, investment, and insurance a brief outline of the operation of existing financial institutions relevant for this study3 is presented. This is followed by a discussion of some of the problems that the Muslims face in trying to conscientiously cope with the system. It can here be noted that some modifications or changes in the existing rules and regulations are, possibly, attainable, if the Muslims pursue their case with the appropriate legislative bodies. Banking in North America Commercial banks, whether state or nationally chartered, offer a number of services to their depositors and customers. To the depositors they offer checking accounts, NOW (Negotiated Order of Withdrawal) accounts, passbook savings accounts, various types of time deposits, money market accounts, etc. Except for the regular checking account all other accounts pay some form of fixed returns to the depositors. Beginning January 1984 when Regulation Q will be phased out,4 banks will be free to pay whatever interests they can afford on such accounts. By then, except for the fixed time deposits, interest paid on ordinary passbook savings accounts will be variable and, hence, such accounts are likely to be more acceptable to those who consider fixed interest rates to be usurous. However, the depositors' accounts up to $100,000 will continue to be insured so that they are not likely to be directly sharing any losses that the banks might incur from their operations. Indirectly, however, all savings depositors share the losses of banks, because they contribute to the insurance premiums the banks have to pay through a reduced rate of return and through the taxes they pay to the government, which is the sponsor of such bank insurance companies as the Federal Deposit Insurance Corporation (FDIC), and the Federal Savings and Loan Insurance Corporations (FSLIC). Thus, variable interest rates combined with loss sharing via deposit insurance may make savings accounts in the U.S. banks more amenable to Islamic principles than such current accounts in the majority of the Muslim countries of today. The Muslims in America can avail themselves of the facilities offered by ordinary checking accounts without any qualms. The account holders do not receive any interest on such deposits. Often they have to pay service charges or fees for these accounts. Where banking is competitive, e.g., in the North-Eastern states of the U.S., the depositors
    • may not even have to pay any fee for such services. Demand deposit accounts can meet the basic transaction needs of Muslim families or businesses. Almost all existing commercial banks provide investment counseling services, trust services, and pension plans. The users of these services generally pay fees and, sometimes, a small percentage of the profits to the banks. The rates of fees and/or percentages of profits to be shared are regulated by some state governments. The users of such services often determine where their funds are to be invested. Thus, they can help prevent any investment which is considered to be unacceptable from the Islamic point of view. When it comes to borrowing funds from the banking institutions the Muslims face a real dilemma. This is because all borrowings, either for unexpected short term needs or for long term planned household or business expenses, oblige the borrowers to sign written contracts which specify the mode of repayments as well as the fixed finance charges (i.e., interest plus fees and charges). Finance charges vary according to the costs of funds to the banks at the time the loans are extended and on the basis of expected riskiness of the borrowers. The banks, as financial intermediaries, are not normally interested in joint ventures with their customers and, as such, neither want, nor do they have the manpower, to determine the rates of finance charges on a profit sharing basis. The existing practice of determinations of finance charges evolved out of practical considerations rather than out of any philosophical, religious or ethical considerations. The present-day..Islamic banks," sometimes referred to as Mudarba banks (an example is the Dar-al Mal al-Islami, that now operates in some countries), avoid the whole issue of the determination of loan charges by specializing in investment banking only. The funds of such Islamic banks are invested in specific projects - profits from which can be determined with relative ease and, hence, can be shared between them and their depositors and shareholders. The bulk of financial transactions of a modern economy are in the form of short term business loans for financing of inventory, account and notes receivable, payrolls, accounts and notes payable, and the like. The Muslim bankers have done little to address this most important aspects of banking. Neither have they done anything to address the question of determination of finance charges for personal loans by individuals or households. Because of this failure, the Islamic banks have not made any significant contribution to overall banking in any country in which they operate.5 The Muslims of North America face additional problems with this aspect of banking. The various regulatory agencies determine what portions of a bank's financial assets are to be kept as cash and reserves, how much are to be invested in which types of securities, how much can be invested in the form of loans to whom, and what is to be charged. For example, the Federal Home Loan Bank Board, the FSLIC, and the state banking authorities determine how much of the total assets of savings and loan associations can be invested in mortgages of single family or multiple family dwellings, and how much can be invested in consumer loans. Similarly, the National Credit Union Administration, the FDIC, and the state banking authorities dictate how much of the assets of credit unions can be used in mortgages or consumer loans as well as what rates of finance they can charge to their shareholders (i.e., the member depositors). Similar regulations are imposed by the Federal Reserve System, the Comptroller of the Currency of the U.S. Treasury, the state banking authorities, and the FDIC on commercial banks
    • and mutual savings banks. One way the Muslims could circumvent these regulations in the U .S. is by trying to form special types of financial institutions on religious grounds. For this they need to lobby the state legislatures and the U.S. Congress and convince them that the existing financial institutions do not meet their religious needs. This is not going to be an easy task because the Muslims cannot cite the existence of a full service Islamic banking institution in operation anywhere in the world which they can examine in terms of its viability in North America. Besides, some states in the U.S. and the majority of the Americans consider interest in regulated financial institutions as an element of trade rather than a form of usury. While the Muslims in the Muslim-majority countries can possibly borrow funds from members of their extended families and friends for their short term needs, they cannot usually do so in North America where they are not only a minority, but are also scattered allover the continent in small families or as individuals. Forming financial institutions is perhaps feasible in a handful of large North American cities where there is a larger concentration of Muslims. The majority of the Muslims in North America, however, will have to continue to use the existing banking facilities until such time as they can convince the U.S. legislators that they need special institutions to conform to their religious understandings. Their task will be much easier if the Muslim countries themselves first come up with operational, full service banks that are based on Islamic principles. Investing in North America The investment of surplus funds is less of a problem for the knowledgeable Muslims in North America. Those who have sufficient funds can invest in real estate or start some business. Others can invest in corporate common stocks.6 Returns from these are neither fixed nor guaranteed. The investors share both losses and profits with the users of the funds as do partners in trade. Using the services of real estate brokers or investment brokers is sometimes warranted because such investment activities require considerable paperwork and access to up-to-date information which an average investor cannot master easily. The fees paid to brokers or middlemen are for genuine work and services and, as such, cannot be considered at par with those middlemen at the time of the Prophet Muhammad (may peace be upon him) who made money without any effort and, consequently, were disapproved of by him.7 Investment in corporate bonds, notes, and commercial papers; in treasury bills, notes and bonds; in C.D.'s; in bankers acceptances; or in money market funds should be avoided by the Muslims because returns from such investments are fixed, even though they may not always be guaranteed. There are some chances of loss of invested funds in cases where such securities are not backed by any tangible properties. Investments in options, commodity futures, interest rate futures, and in market indices are also undesirable because these are all speculative in nature and may even be considered a form of gambling. Investment in shares of closed-end investment trust companies or in mutual funds may be considered if the investor can ascertain that the funds of these companies are used for investing in stocks of other corporations. These sorts of trust companies or funds do
    • have specific investment plans in either stocks only, or bonds only, or in a mixture of both bonds and stocks, information which is available to all investors. Those Muslims who are very particular about whether or not the corporations whose stocks they buy deal with interest in their day-to-day operations have a very limited choice indeed. Today's corporations do not generate sufficient funds by issuing common stocks only -they are dependent on debts (i.e., borrowing on fixed charges) from anywhere between zero to sixty percent for their total financial capital. They (i.e., the Muslims in question) should concentrate on real estate and on direct business ventures. The latter could be in sole proprietorship, partnership, or in the form of cooperative ventures. If they are not dependent on investment income from their surplus funds, they should, ideally, be lending money to the needy Muslims who cannot acquire funds from the usual sources at no cost (or at nominal fees to compensate for the loss of purchasing power of money over time). The enterprising Muslims can form their own investment companies and invest funds on behalf of their shareholders on permissible projects or securities. But before doing so they ought to check with the state regulatory agencies for limitations or restrictions on types of investments by such a public company. Insurance in North America Insurance is an essential form or financial service in North America. Without an insurance policy one cannot register a vehicle, let alone drive it. Similarly, other forms of property and casualty insurance are also required for property owners by law. Health insurance is also required by major employers for their employees. The government collects compulsory contributions for the so-called Social Security system which is legally known as the Old Age, Survivors, Disability, and Health Insurance (OASDHI). Contribution to group life insurance policies are often required of employees by large employers. In addition, many Americans buy various types of life insurance policies to protect their families from unforeseen casualties. Many Muslims wonder about the permissibility of insurance, particularly life insurance, in Islam.8 Those who support insurance argue that insurance is not gambling. It is in fact an opposite of gambling. The act of gambling creates risks, while insurance tries to manage existing and predictable risks with the objective of minimizing losses to the insured. Insurance is based on the principle of shirakat (cooperation). Individual buyers of insurance policies contribute towards coverage of losses by paying premiums, which are based on objective probabilities of losses. The funds gathered through premiums and from earnings on invested premium funds in other financial ventures9 are pooled together to cover the actual losses of the insured. The funds that remain after meeting all claims are then either redistributed among the insured, in the case of mutual insurance companies, or to the shareholders of other forms of insurance companies. Even in the latter case the insured, sometimes, benefits from surplus funds in the form of reduced premium payments at a later date. The supporters of insurance consider the insurance service an essential product of trade; therefore, the buyers of the product (i.e., the service) must pay for it in the form of payments, called premiums. Further, this group also believes that life insurance is permissible under Islam, especially in a non-Islamic community, so that the dependents of a deceased wage earner do not become a public
    • charge. They argue that it is imperative on Muslims to provide for their families ~o that they do not become dependent on others in their absence. Every Muslim believes that the most certain thing in this world is death and that God Almighty alone knows the appointed time for each individual. The risk of death is there whether one buys an insurance policy or not. According to one of the traditions of the Prophet (may peace be upon him) a man came to see him from a far off place. "The Prophet (PBUH) asked him if he had tethered his camel. 'No,' replied the visitor, 'I trust in God,' 'Trust in God,' instructed the Prophet (PBUH), 'but tether your camel first.'”10 This prophetic tradition is often quoted by the supporters of insurance to demonstrate that one should not only trust God for the future but also should take worldly precautions against future mishaps. (There is a saying that "God helps those who help themselves.") Those who are against insurance claim insurance to be a form of gambling. They believe that through insurance the insured parties try to avoid the consequences of losses that are ordained by God Almighty. They think insurance creates risks because it sometimes encourages the buyers of insurance to avoid taking proper safety measures which, in the first place, could have removed the risk. They argue that insurance is the main cause of arson and once insurance is removed, this social evil will disappear. They also argue against insurance they believe insurance is unavoidably mixed with interest and that without the use of interest, long term premiums for such policies as life insurance policies cannot be properly determined. They also object to the investment policies of insurance companies -which, by the way, are partly determined by the government regulatory agencies and, as such, cannot be changed by the insurance companies themselves. To overcome these objections mutual insurance companies can be formed by the Muslims to meet their special needs provided the concerned legislative bodies are willing to grant a variance to the existing rules and regulations. Those Muslims of North America who seek life insurance coverage to protect the family may consider buying term policies instead of whole life policies. Term policies protect the dependents if the policy holder dies prematurely. If the policy holder survives beyond the maturity date of the policy, he does not receive any lump sum like the individual who buys whole life policy. The sum of money received by the latter includes the agreed upon sum at the time of the initiation of insurance contract plus added sums which are either dividends and/or interest earnings on the premiums. By avoiding whole life policies one can avoid accepting interest payments. Besides, the premiums for term policies are far less than those for whole life policies and the premium payments vary over time in case of the term policy whereas it remains fixed throughout the life of the whole life policy. However, it may not be financially feasible for the Muslims in North America to start their own insurance companies. This is because in order for such companies to operate efficiently and to be affordable to the insured parties, they must insure millions of dollars worth of policies. The existing insurance companies charge the minimal amount of insurance premiums on insured properties (anywhere from 1/100th of 1 percent to 1/5th of 1 percent of the value of property as premiums) and on the life and the health of the insured. Since the volumes of policies they deal with are large, they have made insurance affordable to the average American. Whether or not the Muslims need their own insurance companies and, if so, whether or not they can operate them efficiently should be carefully examined before any decision is made in this regard. .
    • Notes:
    • 1 By "banks" one normally means Commercial Banks. For this paper, however, thrift institutions such as. Mutual Savings Banks, Savings and Loan Associations, and the Credit Unions-are also referred to as banks because increasingly the distinction between commercial banks and the thrift institutions are removed through legislation that began with the Depository Institutions Deregulation and Monetary Control Act of 1980. 2 This paper assumes that dealings in interest is prohibited in Islam without going into the controversies about whether or not interest, as used in the U.S. financial institutions, can be called usury or Riba. 3 Financial institutions discussed in this paper refer to the ones in the United States. Canadian financial institutions are quite similar in operation to those in the U.S. and, as such, are not discussed here. 4 Regulation Q now determines interest rate ceilings on such accounts, except on the large negotiable certificates of deposits (CD's) which are exempt. The Depository Institutions Deregulation Act of 1982 The Economist. Oct. 9, 1982, pp.89-90 phases out Regulation Q by January 1, 1984. 5 Some of the proponents of the Mudarbo banks feel that this problem will disappear if somehow today's Muslim countries become Islamic countries. They argue that under an Islamic state the state will somehow come up with funds to meet the needs of short term business loans as well as the consumer loans! 6 Preferred stocks should be avoided as the return on them are fixed. 7 There are various traditions of the Prophet (peace be upon him) which forbid a town dweller to act as a "broker" for a desert dweller, etc. For more information see Sahih AI-Bukhari. 1976 Edition. Volume 3, pp.206-207. 8 In the 1981 conference on "Insurance and Investment in Islam: In North American Context" we discussed in detail all aspects of insurance from the various points of view. A monograph based on the discussed topics and papers is now under preparation by this author. 9 Investment by insurance companies will be discussed shortly. 10 For reference to this tradition see Shaikh Mahmud Ahmed, 1964, p.160.