Permissions and Prohibitions in Islamic Finance

While Islamic banking may be some 1,400 years old, its recent history can be dated back to the 1970s, with Saudi Arabia and the United Arab Emirates establishing Islamic banks. Bahrain and Malaysia were excellence centers in the 1990s. Global assets are expected to be around $1 trillion under Islamic Financing legislation. 

The execution of the Islamic law or shariah, of which the Quran and Prophet Muhammad’s words and conduct are key sources, depends on the Islamic financial resources. In the context of Islamic finance, in particular, Shariah stresses justice and partnership. 

Key Concepts 

Islamic finance’s key concepts are: 

  • The assets and lawful commerce should produce wealth. Wealth. (It is clearly prohibited to employ money to make money.) 
  • Investment should also help society beyond pure returns, both socially and ethically
  • The risk is supposed to be shared. 
  • It is necessary to prevent any hazardous behaviors (haram). 

Prohibitions in Shariah Finance 

Even if you are making any Shariah compliant investment, it will not consider as permitted if it has any of the following features. 

Riba 

The belief that the prime contravenes the principle of risk-share, collaboration, and fairness, whatever the way the underlying assets are handled. It’s the money utilized for making money itself. Investment in firms with too much credit is also prohibited (usually, over the past 12 months, it has a debt of more than 33% of the company’s average stock market value).

Investment in alcohol, gambling, narcotics, pork, porn, and anything else the Shariah considers illegal or unwanted (haram). 

Uncertainty 

Uncertainty if speculation or severe risk is involved. This is considered to be like play. For example, this ban would exclude speculation in markets for future and options. Mutual (uncertain) insurance is permissible if it is linked to reasonable, unavoidable business risk. It is founded on the idea of shared financial responsibility, and that members contribute, not for profit, to a mutual fund but in the event that one of the members suffers from misfortune. 

Uncertainty in Terms of Condition 

Uncertainty regarding the subject matter and contractual conditions – this includes a ban on the sale of what one doesn’t have. In order to create a product for a client, unique financial approaches are available. This is required since the product is not available and cannot thus be owned until it is produced. A producer may promise that a given product would be produced at a defined price and on a fixed date according to certain agreed criteria. In this situation, in particular, the risk is the responsibility of a bank which, for the purpose of undertaking this risk, commissions and sells the items to a client at an acceptable profit. 

Permits in Islamic Finance 

As already indicated, interest receipt under Shariah is not permitted. Consequently, Islamic banks must make their earnings otherwise while providing financing. This may be by means of profits in respect of the assets in which the finances are invested, or by way of a charge paid to the services supplied by the bank. From a mortgage loan bank to a personal financing institute, Islamic financing caters all. 

Shariah’s main characteristic is that the lender must share the risk when commercial loans are issued. If not, any cash received via the principle of the loan will be considered to be interesting. 

In the financial management curriculum, there are a variety of Islamic financial products that can offer shariah-compliant funding: 

Murabaha

Murabaha is a kind of commercial loan to acquire assets, which prevents interest payments. The bank instead purchases the item and sells it later to the consumer at a price that includes an agreed profit mark up. The markup is established in advance and cannot be increased, even if the customer does not accept the products within the contract period. Installments can be paid for. 

Ijara 

Ijara is a lease financing deal in which a bank purchases an item for a client and then rents it for an agreed price over a certain term. The property remains the property of the lessor bank, which aims to recover the equipment’s capital cost plus a profit margin from the rents paid. 

Musharaka 

Musharaka is a joint venture or a two-party investment partnership. Both sides supply funding for projects and the earnings are shared by both parties in specified amounts. This makes it possible to compensate both partners for their capital and management abilities. Losses would typically be divided on the basis of the initial contributions to the company. Due to both sides’ direct involvement in continuing project management, banks typically don’t accept transactions through Musharaka, as they want more “hands-off.”