Islamic finance 101

Sources of Shariah
Are divided into two major sources.
• The primary sources: The primary source of shariah
is Al Quran. The second primary source is sunnah. At
all time, priority is to be given to Quran over the
sunnah.
• The secondary sources : The first secondary source of
the shariah is ijma (consensus) among the
companions of the Prophet (Sahaba). The second
secondary sources is Qiyas (analogical reasoning)
• Other sources:
» Ijtihad: the process of deriving the laws of the shari'ah
from its sources
» Istihsan : Juristic Preference
» Al Masalih al mursala: Consideration of Public Interest
» ‘urf : Customary Practices

Proofs for the permissibility of Trade
… And Allah has permitted trade but forbidden
riba[AlBaqarah : 275]
O you who have believed, do not consume one
another's wealth unjustly but only [in lawful]
business by mutual consent. [An Nisaa: 29]
O you who have believed, when [the adhan] is called
for the prayer on the day of Jumu'ah [Friday], then
proceed to the remembrance of Allah and leave
trade. [Al Jum'ah: 9]
There is no blame upon you for seeking bounty from
your Lord [AlBaqarah :198].

Pillar of Islamic Business
3 Main Pillars:
1. The buyer and the Seller
2. The Commodity of subject
matter of the contract
3. The Seegha : Offer and
Acceptance

Conditions of Business Transactions
Condition 1:
Mutual Consent
Condition 2:
The buyer and seller must be competent to buy and sell
Condition 3:
The commodity must be permissible to use in other times of necessities
Condition 4:
The Commodity must be sold by the owner or he who is in the position
of the owner
Condition 5:
The owner must be able to handover the commodity to the buyer
Condition 6:
The commodity must be well determined by sight or by description

Conditions of Business Transactions
O You who believed! Honor your contracts
[AlMa’idah: 1]
O you who have believed, do not consume one
another's wealth unjustly but only [in lawful]
business by mutual consent.[AnNisaa:29]
The Muslims are upon their conditions, except a
condition that makes a prohibited permissible or a
permissible prohibited[Abu Dawud]

Choice or Options in Contracts
• Option of cancellation within the trading session
• Option of cancellation within a defined period of
time
Ref:
The buyer and seller have the choice to conclude or
repeal the transactions as long as they have not
separated [ Agreed Upon]

Forbidden Transactions by Consensus
There are number of transactions that are forbidden by the agreement of the
scholars. Amongst them, Here few common types of transactions:
• Selling a debt for debt
• Two Contracts or sales in one
• Selling Upon the sale of your brother
• The resident selling on behalf of the visitor
• Selling impure and forbidden products
• Selling during and after the time of second Adhan of Ju’mah
• Riba
• Sales of excessive Gharar
• Gambling

Why are these transaction prohibited?
In General, the following are the reason why the
transactions noted are forbidden:
• The contract is upon a commodity or to a
person or in a time that is forbidden
• The contract contains riba
• The contract contains extreme uncertainty
• The contract goes against one or more of
the goals and purpose of the Shariah in
business

Riba
Case Study : Surah Baqarah
275-280

Major Sins : Riba
Hadith of Prophet(saw): " Avoid the seven
heinous sins "- and after having said this,
the propeht (SAW) mentioned them:
"associating anything with Allah; magic;
killing one whom Allah has declared
inviolate without a just case, consuming the
property of an orphan, devouring usury,
fleeing from the battlefield, and slandering
chaste women who are believers but
indiscreet." (Bukhari and Muslim)

Quran on Riba
There are 12 verses in quran dealing with Riba. The word riba itself occurs eight times, there
times in 2:275 and one time each in 2:276; 2:278; 3:130; 4:161 and 30:394
• 1st Verse: In Makkan Period: Allah says: And that which you give in Riba in order that it may increase
from other people's property, has no increase with Allah; but that which you give in Zakah seeking
Allah's Face, then those they shall have manifold increase.[Surah Rum: 39].
– In One Opinion, Allah meant Interest but Majority of the scholar in Opinion This means, that
which is given as a gift to others in the hope that they will give back more than they were
given(Wrong Intention). There is no reward for this with Allah.
• Prophet (saw) said: No person gives in charity the equivalent of a date which was earned in a lawful
manner, but the Most Merciful takes it in His Right Hand and takes care of it for its owner, just as any one
of you takes care of his foal or young camel, until the date becomes the size of Mount Uhud
• 2nd Verse: And their taking of Riba though they were forbidden from taking it, and their devouring
men's substance wrongfully. And We have prepared for the disbelievers among them a painful
torment.[An Nisa:161]
– Revealed 1st Year in Madina. This Ayah regarding Jews, Allah prohibited them from taking Riba',
yet they did so using various kinds of tricks, ploys and cons, thus devouring people's property
unjustly
– The message in this verse that Allah is not pleased with them to deal with Riba/Interest and Yet
they are dealing with Riba. This verse is not directed to Muslim rather it was hint and
preparation for later rulings.

Quran on Riba
3rd Verse: As per the Ulama It was revealed 3rd Year of hijra before battle of Uhud.
Allah says: O you who believe! Do not consume Riba doubled and multiplied, but fear Allah that you
may be successful. [Surah Al-Imran: 130] And: Allah says: And fear the Fire, which is prepared for the
disbelievers. And obey Allah and the Messenger that you may obtain mercy [Al Imran: 131-132]
Prevented Muslims from usurious loans to equip their armies in response to the action of the pagans,
Explicit prohibition of compound interest
4th Verse:
Those who eat Riba will not stand (on the Day of Resurrection) except like the standing of a person beaten by
Shaytan leading him to insanity. That is because they say: "Trading is only like Riba,'' whereas Allah has permitted
trading and forbidden Riba. So whosoever receives an admonition from his Lord and stops eating Riba, shall not be
punished for the past; his case is for Allah (to judge); but whoever returns (to Riba), such are the dwellers of the
Fire, they will Abide therein
Allah will destroy Riba and will give increase for Sadaqat. And Allah likes not the disbelievers, sinners.
Truly, those who believe, and do deeds of righteousness, and perform the Salah and give Zakah, they will have their
reward with their Lord. On them shall be no fear, nor shall they grieve,
O you who believe! Have Taqwa of Allah and give up what remains from Riba, if you are (really) believers.
And if you do not do it, then take a notice of war from Allah and His Messenger but if you repent, you shall have
your capital sums. Deal not unjustly, and you shall not be dealt with unjustly.
And if the debtor is having a hard time, then grant him time till it is easy for him to repay; but if you remit it by way
of charity, that is better for you if you did but know.
And have Taqwa the Day when you shall be brought back to Allah. Then every person shall be paid what he earned,
and they shall not be dealt with unjustly. [Surah Bakarah: 275-281]

Quran on Riba
In the above verses Allah says about the 5 Punishment:
 Person will stand up in day of judgment very shaky
 Punishment in hellfire forever
 Allah will destroy the money
 Allah does not love
 Notice of War with Allah

Hadith on Riba
Allah has cursed the one who
consumes Riba, The one who gives
it, the two witnesses and the one
who writes down the
transactions[Muslim]

Hadith on Riba
Interest condemns a person to severe punishment:
The Prophe(saw) said: “Last night I saw two men who came to me and took me out to a holy
land. We set out until we came to a river of blood in which a man was standing, and on the
bank of the river there was a man with stones in front of him. The man who was in the river
came and wanted to get out, but the other man threw a stone in his mouth and he went
back to where he had been. Every time he wanted to get out, he threw a stone in his mouth
and he went back to where he had been. I said, ‘What is this?’ He said: ‘The one whom you
saw in the river is the one who consumed ribaa.'” (Bukhaari)
Interest dooms a person to HELL:
The Prophet(saw) said: ‘Avoid the seven sins that doom a person to Hell.’ They said: O
Messenger of Allaah, what are they?’ He said: ‘Shirk, magic, killing a soul whom Allaah has
forbidden us to kill,consuming ribaa (interest), consuming orphans’ wealth, running away
from the battle field, and slandering chaste, innocent believing women.’ ” (Bukhaari, Muslim)

Hadith on Riba
ALL (direct or indirect) dealings of Interest are Haraam: The Messenger of
Allah(saw) cursed ten people: the one who consumes ribaa, the one who pays
ribaa, the one who writes it down, the two who witness it, the one who makes it
lawful, the one for whom it is made lawful, the one who withholds charity, the
one who does tattoos and the one for whom tattooing is done.” (Muslim)
Interest is WORSE than ZINAA: The Prophet said: ” A dirham which a man
consumes as ribaa knowingly is worse before Allaah than THIRTY-SIX ACTS OF
ZINAA.” (Ahmad, Tabaraanee- saheeh by al-Albaani in Saheeh al-Jaami’).
Interest is like COMMITTING ZINAA with one’s own MOTHER!!!: The
Prophet(saw) said: ” There are seventy-two types of ribaa, the least of which is
like a man committing incest with his own mother.” (Tabaraanee– saheeh by al-
Albaani in Saheeh al-Jaami’).

REASONS FOR PROHIBITION OF RIBA
To prevent
injustice
between
contracting
parties
Exploit the
poor/
creditors
An exploitations
of people
ignorance over
the types of
commodities
involved in
transaction
An exploitation
of people
needs. Thus,
they have no
choice but to be
involved in Riba

Riba: Dua Refused
• Hadith of prophet(saw): A man who,
having journeyed far, is disheveled
and dusty and who spreads out his
hands to the sky (saying), 'O Lord! O
Lord!' while his food is unlawful, his
drink unlawful, his clothing unlawful,
and he is nourished unlawfully, how
can he be answered?

PROHIBITION OF GHARAR
 Literally:
 Deceit, risk, fraud, uncertainty or hazard that may be
lead to destruction loss.
 Technically:
 When a matter that is concealed by one party.
 Occurs when a party undertake venture blindly without
sufficient knowledge
 Minor uncertainties can be permitted when there is a
necessary
 Both of contracting parties must have a perfect
knowledge regarding to transaction
22

PROHIBITION OF GHARAR
• Sell good that seller is not in position to deliver.
• Sell unknown pages or known goods against
unknown price.
• Make a contract conditional on a unknown event.
• Sell good on basis of false description.
• Sell good without proper examination.
Examples of Gharar related transaction:
23

PROHIBITION OF MAYSIR
• Refers to the easy acquisition of wealth by
chance, whether or not it deprives the other’s
right.
• Qimar means the game of chance in which one
gains at the cost of others.
• Issues that related to gambling:
– Contest using SMS
– The prize winning tickets
– Horse racing
– Lottery
– Crossword puzzles
24

Employment in Financial Institutions or LCBO
And cooperate in righteousness and piety, but do not
cooperate in sin and aggression. [AlMaidah: 2]
Jaabir said: The Messenger of Allah (blessings and peace
of Allah be upon him) cursed the one who consumes riba
and the one who pays it, the one who writes it down and
the two who witness it, and he said: they are all the
same. [muslim]
Ali and Ibn Mas`ud narrated that the Messenger of Allah
said: May Allah curse whoever consumes Riba, whoever
pays Riba, the two who are witnesses to it, and the
scribe who records it(tafsir ibn kathir)

Modern Transaction – Credit Card
The Main problem with the Credit is the
agreement to pay extra money upon any
delay in the payment. This is usurious
condition
• Buying gold and silver with credit card :
Not Permissible
• Taking Out cash: Riba charge
immediately

Modern Transaction – Insurance
Forbidden Insurance:
 House and property insurance
 Life Insurance
 Income protection Insurance
 Funeral insurance etc.
Reason for its prohibition:
 Contains Riba
 It embodies eating people’s wealth without right
 It entrails uncertainty (gharar) in the contract
 It entails oppression on both parties

Modern Transaction – Banking
• Bank account are regarded as loan facilities. The Shariah
considers the account holders to have given loans to the
bank
• The interest paid by banks is forbidden by the complete
consensus of Ummah.
• Bank Loans for purchasing houses are not permitted in
our times as the degree of the necessity has not yet
reached unbearable levels.
• Impermissible Transactions:
• Penalties for late payment
• Fees for credit transactions
• Letter of Credit
• Credit lines
• Overdraft facilities
• Charging interest on loans

Modern Transaction – Islamic Banking
Bank Client
money
money + money (interest)
Conventional
Banking System

Bank ClientGoods &
Services
money
Islamic Banking
System

Six Key Islamic Banking Principles
1. Prohibition of predetermined loan repayments as
interest (riba)
2. Profit and loss sharing is at the heart of the
Islamic system(Risk Sharing)
3. Making money out of money is unacceptable. All
financial transactions must be asset-backed
4. Prohibition of speculative behavior
5. Only Shariah approved contracts are acceptable
6. The sanctity of contracts(Purity of Contracts)

Islamic Finance Terminologies: Murabaha: Musharaka
Murabaha: It is a contract for purchase and resale and allows
the customer to make purchases without having to take out a
loan and pay interest. Bank purchases the goods on behalf of
the customer, and re-sells them to the customer on an
agreed profit margin and the customer pays the sale price for
the goods over installments.
Musharaka : It means partnership. It involves you placing
your capital with another person and both sharing the risk
and reward with profit sharing ratio, but losses must
be proportionate to the amount invested.

Islamic Finance Terminologies: Mudaraba
It refers to an investment on your behalf by a more skilled
person. It takes the form of a contract between two parties,
one who provides the funds and the other who provides the
expertise and who agree to the division of any profits made
in advance. The Bank would make Sharia’a compliant
investments and share the profits with the customer, in effect
charging for the time and effort. If no profit is made, the loss
is borne by the customer and Islamic Bank of Britain takes no
fee.

Islamic Finance Terminologies: Ijarah
Ijara is a form of leasing. It involves a contract
where the bank buys and then leases an item. For
example auto ijarah is simply an agreement under
which the vehicle shall be given to you on rent for
a period, agreed at the time of the contract. Bank
purchase the vehicle and it out to the consumer for
a period upon completion of the ijarah period the
consumer get owner ship of the vehicle through a
separate sale agreement.

Modes of Islamic Finance and Islamic
Finance Terminologies:
1. Murabaha: Literally it means a sale on mutually agreed profit. In Murabahah, the seller must
let the buyer know the actual cost for the asset and the profit margin at the time of the sale
agreement.
2. Ijarah: Ijarah is a contract of a known and proposed usufruct against a specified and lawful
return or consideration for the service or return for the benefit proposed to be taken, or for
the effort or work proposed to be expended.
3. Ijarah-Wal-Iqtin: A contract under which an Islamic bank provides equipment, building or
other assets to the client against an agreed rental, together with a unilateral undertaking by
the bank or the client that at the end of the lease period, the ownership in the asset would
be transferred to the lessee.
4. Musharakah: Musharakah means a relationship established under a contract by the mutual
consent of the parties for sharing of profits and losses in the joint business.
5. Musawamah: Musawamah is a general and regular kind of sale in which price of the
commodity to be traded is bargained between seller and the buyer without any reference to
the price paid or cost incurred by the former.
6. Istisna’a: It is a contractual agreement for manufacturing goods and commodities, allowing
cash payment in advance and future delivery or a future payment and future delivery.

Modes of Islamic Finance and Islamic
Finance Terminologies :
7. Bai Muajjal: Literally it means a credit sale. Technically, it is a financing technique adopted by
Islamic banks that takes the form of Murabaha Muajjal. •Mudarabah: A form of partnership
where one party provides the funds while the other provides expertise and management.
8. Bai Salam: Salam means a contract in which advance payment is made for goods to be
delivered later on. Hibah (Gift): This refers to a payment made willingly in return for a
benefit received.
9. Qard hassan/Qardul hassan (good loan/benevolent loan). This is a loan extended on a
goodwill basis, and the debtor is only required to repay the amount borrowed. However, the
debtor may, at his or her discretion, pay an extra amount beyond the principal amount of
the loan (without promising it) as a token of appreciation to the creditor.
10. Sukuk (Islamic bonds): financial certificates that are the Islamic equivalent of bonds.
However, fixed-income, interest-bearing bonds are not permissible in Islam.
11. Wadiah (safekeeping): In Wadiah, a bank is deemed as a keeper and trustee of funds.

Summary
Can we avoid the Riba from our daily life ? Abu Huraira reported: The Messenger of Allah, peace and
blessings be upon him, said, “A time will come upon people when they will consume usury.” They said to
him, “Is that all of the people?” The Prophet said, “Whoever does not take from it will be afflicted by its
dust.”[Musnad Ahmad 10191]
Prophet(saw)said: Both lawful and unlawful things are evident, but in between them there are matters
that are not clear. So whoever saves himself from these unclear matters, he saves his religion and his
honor. And whoever indulges in these unclear matters, he will have fallen into the prohibitions, just like a
shepherd who grazes (his animals) near a private pasture, at any moment he is liable to enter it.
Another famous hadith narrated by Al-Hasan bin `Ali said that he heard the Messenger of Allah say : Leave
that which makes you doubt for that which does not make you doubt
Allaah says: “Have you seen he who took his desire for a god? With knowledge, Allah has led him astray,
setting a seal upon his hearing and heart, and has made a veil over his eyes, who then shall guide him
after Allah? Will you not then remember!” (al-Jaathia:23)

Islamic finance 101

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