For that reason, Islamic financial services should not invest in things like alcohol, tobacco, and gambling. Islamic finance also encourages partnership.
This means that, where possible, both profit and risks should be shared. This can be between two individuals, an individual and a business, or a business and a business. Instead, in return for having ready access to your money, the deposit you give the bank is used as an interest free loan. If you open a savings account, the bank will invest the money you deposit. The bank will pay you part of any profit they earn.
In one type of agreement, the bank can directly buy the property you want. Then they sell it to you at a profit and let you pay it back in instalments. Then over time you gradually pay the bank for its share of the property. One way we do this is by allowing banks to hold deposits with us. This helps keep them stable so they can keep providing banking services to everyone else.
We noticed Islamic banks were unable to use these accounts because we paid interest on them. The rules that govern commercial transactions in Islamic banking are referred to as fiqh al-muamalat. Employees of institutions that abide by Islamic banking are entrusted with not deviating from the fundamental principles of the Qur'an while they are conducting business. When more information or guidance is necessary, Islamic bankers turn to learned scholars or use independent reasoning based on scholarship and customary practices.
One of the primary differences between conventional banking systems and Islamic banking is that Islamic banking prohibits usury and speculation. Shariah strictly prohibits any form of speculation or gambling, which is referred to as maisir. Shariah also prohibits taking interest on loans. In addition, any investments involving items or substances that are prohibited in the Qur'an—including alcohol, gambling, pork—are also prohibited. In this way, Islamic banking can be considered a culturally distinct form of ethical investing.
To earn money without the typical practice of charging interest, Islamic banks use equity participation systems. Equity participation means if a bank loans money to a business, the business will pay back the loan without interest, but instead gives the bank a share in its profits.
If the business defaults or does not earn a profit, then the bank also does not benefit. In general, Islamic banking institutions tend to be more risk-averse in their investment practices. As a result, they typically avoid business that could be associated with economic bubbles. While an Islamic bank is one that is entirely operated using Islamic principles, an Islamic window refers to services that are based on Islamic principles that are provided by a conventional bank. Some commercial banks offer Islamic banking services through dedicated windows or sections.
The practices of Islamic banking are usually traced back to businesspeople in the Middle East who started engaging in financial transactions with their European counterparts during the Medieval era.
At first, they used the same financial principles as the Europeans. However, over time, as trading systems developed and European countries started establishing local branches of their banks in the Middle East, some of these banks adopted the local customs of the region where they were newly established, primarily no-interest financial systems that worked on a profit and loss sharing method.
By adopting these practices, these European banks could also serve the needs of local business people who were Muslim. Beginning in the s, Islamic banking resurfaced in the modern world, and since , many new interest-free banks have opened. The Shariah stands for establishing the condition that there will be no element of uncertainty Gharar nor of injustice Zulm when people enter into contracts with each other, whether these contracts pertain to real transactions of commodities or to financial transactions.
Islamic Fiqh Academy established by the Organization of Islamic Conferences OIC in its second session held in Jeddah, Saudi Arabia, during December , declared that "any increase or profit on a loan which has matured, in return for an extension of the maturity date, in case the borrower is unable to pay, and any increase or profit on the loan at the inception of the loan agreement, are both forms of usury Riba , which is prohibited under the Shariah" Ibid, p.
On religious perspective The religious restriction on interest is quite explicit and unequivocal. All transactions based on Riba are strictly prohibited in the Quran. The prohibition of Riba appears in the Quran in four different revelations. The first of these [] in Makkah, emphasized deprivation of God's blessing for a man making interest transaction and charity having the essence of manifold rise.
The second revelation [] concerning the subject took place in the early Madinah. It severely condemned interest-referring prohibitions taken place in the previous scriptures. The third revelation [] enjoined Muslims to keep away from Riba.
The fourth revelation [] reveling nears the completion of the Prophet's mission. The verses giving strong verdict against Riba are as follows: Those who devour Riba will not stand except as stands one whom the devil hath driven to madness by [his] touch []. Condemnation of the system of interest is so strong and without any doubt can be reflected in the following verse which imposes penalties on those who hesitate in observing the verdict: O ye who believe!
Observe your duty to Allah and give up what remains due to you from Riba, if you are in truth believers. And if you do not, then be warned of war against you from Allah and His Messenger.
And if you repent then you have your principal without Riba. Wrong not, and you shall not be wronged []. The strong disapproval of interest by Islam and the crucial role it plays in the modern commercial banking has led Muslim thinkers to explore ways and means by which commercial banking could be organized on an interest-free basis. However, for a long time, the idea of Islamic banking remained a mere wish.
Some papers were written and some professional economists even worked out theoretical models of Islamic banking. However, they were quickly dismissed by highbrow economists who described them as wishful thinking and attempts to put history into reverse gear.
On socio-economic perspective The Islamic law of prohibition of interest was originally not based on economic theory but on divine authority, which considered charging of interest as an act of injustice. Early Muslim scholars considered money as a medium of exchange, a standard of value and a unit of account but rejected its function as a store of value. Lending upon interest was prohibited because it was an act of ungratefulness and considered to be unjust since money was not created to be sought to be itself but for other objects.
Recent Muslim scholars, however, place the major emphasis of their explanation of the Law on the lack of a theory of interest. They have countered the arguments that interest is a reward for saving, a productivity of capital and an inevitable consequence of the difference between the value of capital goods today and their value a year hence. The basic arguments are summarizes below: Interest and savings : To the argument that interest is a reward for saving, Muslim scholars see, for example, Mirakhore , pp.
Economic rationale for eliminating Riba The economic rationale for eliminating Riba interest is based on values of justice, efficiency, stability and growth. The argument s for efficient allocation of capital are: Loan finance in contrast to the provision of risk capital, tends to serve the most credit worthy borrowers and not necessarily the most productive and profitable projects.
More specifically, the objectives of Islamic banking when viewed in the context of its role in the economy are listed as following: To offer contemporary financial services in conformity with Islamic Shariah ; To contribute towards economic development and prosperity within the principles of Islamic justice; Optimum allocation of scarce financial resources; and To help ensure equitable distribution of income.
These objectives are discussed below. For the interest of the readers, the distinguishing features of the conventional banking and Islamic banking are shown in terms of a box diagram as shown below: Banks Islamic Banks 1.
The functions and operating modes of conventional banks are based on manmade principles. The functions and operating modes of Islamic banks are based on the principles of Islamic Shariah. The investor is assured of a predetermined rate of interest. In contrast, it promotes risk sharing between provider of capital investor and the user of funds entrepreneur. It aims at maximizing profit without any restriction. It also aims at maximizing profit but subject to Shariah restrictions. It does not deal with Zakat.
In the modern Islamic banking system, it has become one of the service-oriented functions of the Islamic banks to collect and distribute Zakat. Leading money and getting it back with interest is the fundamental function of the conventional banks. Participation in partnership business is the fundamental function of the Islamic banks. Its scope of activities is narrower when compared with an Islamic bank.
Its scope of activities is wider when compared with a conventional bank. It is, in effect, a multi-purpose institution. It can charge additional money compound rate of interest in case of defaulters. The Islamic banks have no provision to charge any extra money from the defaulters. In it very often, bank's own interest becomes prominent. It makes no effort to ensure growth with equity.
It gives due importance to the public interest. Its ultimate aim is to ensure growth with equity. For interest-based commercial banks, borrowing from the money market is relatively easier. For the Islamic banks, it is comparatively difficult to borrow money from the money market. Since income from the advances is fixed, it gives little importance to developing expertise in project appraisal and evaluations. Since it shares profit and loss, the Islamic banks pay greater attention to developing project appraisal and evaluations.
The conventional banks give greater emphasis on credit-worthiness of the clients. The Islamic banks, on the other hand, give greater emphasis on the viability of the projects. The status of a conventional bank, in relation to its clients, is that of creditor and debtors.
The status of Islamic bank in relation to its clients is that of partners, investors and trader. A conventional bank has to guarantee all its deposits. Strictly speaking, and Islamic bank cannot do that. All rights reserved.
What is Islamic Banking. Islamic Banking is practised in close to 70 countries. One example is the Sukuk, a Shariah-compliant bond. It is structured to comply with Shariah by paying profit not interest on a tangible asset like land. Sukuk holders, therefore, receive a portion of the earnings generated by the asset. The Okene bypass and the Eastern Kaduna bypass projects are being financed by the Sukuk, showing the usefulness of the product in real life. Follow this Journalist on Twitter AishaSalaudeen.
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