Islamic investment principles

NST Business Times. Private equity is also considered a good investment but carried interest is considered a problem within Shariah law. Profit-and-Loss Sharing».

Sharia prohibits ribaor usurydefined as interest paid on all loans of money although some Muslims dispute whether there is a consensus that interest islamic investment principles equivalent to riba. In the late islamic investment principles century, as part of the revival of Islamic identity, [4] [Note 1] a number of Islamic banks formed to apply these principles to private or semi-private commercial institutions within the Muslim community. The industry has been lauded for returning to the path of «divine guidance» in rejecting the «political and economic dominance» of the West, [4] and noted as the «most visible mark» of Islamic revivalism, [13] its most enthusiastic advocates promise «no inflation, no unemployment, no exploitation and no poverty» once it is fully implemented. Although Islamic finance contains many prohibitions—such as on consumption of alcohol, gambling, uncertainty. According to Islamic economists Choudhury and Malik, the elimination of interest followed a «gradual process» in early Islam, «culminating» with a «fully fledged Islamic economic system» under Caliph Umar CE. In the late 19th century Islamic Modernists reacted to the rise of European power and influence and its colonization of Muslim countries by reconsidering the prohibition on interest and whether interest rates and insurance were not among the «preconditions for productive investment» in a functioning modern economy.

Islamic investments are a unique form of socially responsible investments because Islam makes no division between the spiritual and the secular. This means there is much more scrutiny applied to investment practices because religion is factored into all financial decisions. Investments that wish to be in accordance with Islamic Investment Policy need to follow a specific set of guidelines. The establishment of an Islamic investment policy, be it for the institutional or individual investor, starts with the Sharia Board, a group of Islamic scholars jurists that vests investment products for compliance with Islamic Law and conducts ongoing due diligence of them. Sources for interpretation follow a hierarchy of authority: the Quran, believed by Muslims to be the words of Allah verbatim as revealed to his prophet Muhammad in the seventh century; the Sunnah, which are rules from the prophet’s sayings Hadiths and actions; Qiyas, which are scholarly legal deductions; and Ijma, the consensus of scholars on a particular issue. Because borrowing and setting aside excess funds in short-term, low-risk, interest-bearing instruments are integral to corporate finance , the application of Islamic law to corporate finance poses some interesting questions.

The term «Islamic Investment Fund» in this article means a joint pool wherein the investors contribute their surplus money for the purpose of its investment to earn halal profits in strict conformity with the precepts of Ielamic Shariah.

The subscribers of the Fund may receive a document certifying their subscription and entitling them to the pro-rated profits actually accrued to the Fund. These documents may be called «certificates» «units» «shares» or may be ivnestment any other name, but their validity in terms of Shariah, will always be subject to two basic conditions:.

First, instead of a fixed return tied up with their face value, they must carry a pro-rated profit actually earned by the Fund. Therefore, neither the principal nor a rate of profit tied isslamic with the principal can be guaranteed. Principlrs subscribers must enter into the fund with a clear understanding that the return on their subscription pginciples tied up with prniciples actual profit earned or loss suffered by the Fund. If the Fund earns huge profits, the return in their subscription will increase to that proportion; however, in case the Investmenf suffers loss, they will have to share it also, unless the loss is caused by the negligence or mismanagement, in which case the management, and not the Fund, will be liable to compensate it.

Second, the amounts so pooled together must be invested in a business acceptable to Shariah. It means that not only the channels of investment, but also the terms agreed with them must conform to the Islamic principles.

Keeping these basic requisites in view, the Islamic Investment Funds may accommodate a variety of modes of investment ingestment are discussed briefly in the following paragraphs. In an equity fund the amounts are invested in the shares of joint stock companies. The profits are mainly achieved through the capital gains by purchasing the shares and selling them when their prices are increased. Investmebt are also achieved by the dividends distributed by the relevant companies. It is obvious that if the main business of a company is not lawful in terms of Shariah, it is not allowed for an Islamic Fund to purchase, hold or sell its shares, because it will entail the direct involvement of the share holder in that prohibited business.

Similarly the contemporary Shariah experts are almost unanimous on the point that if all the transactions of a company are princi;les full conformity with Shariah, which investent that the company neither borrows money on interest nor keeps its surplus in an interest bearing account, its shares can be purchased, held and sold without any hindrance from the Shariah.

But evidently, such companies isllamic very rare in the contemporary stock markets. Almost all the companies quoted in the present stock market or in some way involved in an prlnciples which violates the injunctions of Shariah. Even if the main business of a company is halal, its borrowings are based on interest». On the other hand, they keep their surplus money in an interest bearing account or ibvestment interest bearing bonds or securities. The case of such companies has been a matter of debate between the Shariah experts in the present century.

A group of the Shariah experts is of the view that it is not allowed for a Muslim to deal in the shares of such a company, even if its main business is halal. Their basic argument is that every share-holder of a company is a sharik partner of the company, and every sharik, according to the Islamic jurisprudence, is an agent for the other partners in the matters of the joint business. Therefore, the investmrnt purchase of a share of a company embodies an authorization from investmwnt share-holder to the company to carry on its isllamic in whatever manner the management deems fit.

If it is known to the share-holder that the company is involved in an un-Islamic transaction, still, he holds the shares of that company, it means that he has authorized the management to proceed with that un-Islamic transaction. In this case, he will not only be responsible for giving his consent to an un-Islamic transaction, but that transaction will also be rightfully attributed to himself, because the management of the company is working under his tacit authorization.

Moreover, when a company is financed on the basis of interest, its funds employed in the business are impure. Similarly, when the company receives interest on its deposits an impure element is necessarily included in its innvestment which will be distributed to the share-holders through dividends.

However, a large number of the present day scholars do not endorse this view. They argue that a joint stock company is basically different from a simple partnership period. In partnership, all the policy decisions are taken by the consensus of all the partners, and each one of them has a veto power with regard to the policy of business.

Therefore, all the actions of a partnership are rightfully attributed to each partner. Conversely, the policy decisions in a principled stock company are taken by the islamic investment principles. Being composed of a large number of share-holders, a company cannot give islamlc veto power to each share-holder.

The opinions of individual share-holders can be overruled by a majority decision. Therefore, each and every action taken by the company cannot be attributed to every share-holder in his individual capacity. If a share-holder raises an objection against a particular transaction in an annual general meeting, but his objection is overruled by the majority, it will not be fair to conclude that he has given his consent to the transaction in his individual capacity, specially when he intends to withdraw from the income attributable to that transaction.

Therefore, if a company is engaged in a halal business, however, it keeps its surplus money in an interest-bearing account, wherefrom a small incidental income of interest is received, it does not render all the business of the company unlawful.

Now, if a person acquires the shares of such a company with clear intention that he will oppose the incidental transaction also, and will not use ilamic proportion of the dividend for his own benefit, how can it be said prnciples he has approved the transaction of interest and how can that transaction be attributed to him? The other aspect of the dealings of such a company that it sometimes borrows money from financial institutions. These borrowings are mostly based on. Here again the same principal is relevant.

If a share-holder is not personally agreeable to such borrowings, but has been overruled by the majority, these borrowing transactions cannot be attributed to. Moreover, according to the principals of Islamic jurisprudence borrowing on interest is a grave sinful act for which the borrower knvestment responsible in the Hereafter; however, this sinful act does not render the whole business of the borrower as haram impermissible.

The borrowed amount being recognized as owned by the borrower, anything purchased in exchange of that money is not unlawful. Therefore, the responsibility of committing a sinful act investmenr borrowing on islamic investment principles rests with the person who willfully indulged in a transaction of interest, but this fact does not render the whole business of a company as un-lawful.

In the light of the forgoing discussion, dealing in equity shares can be acceptable in Shariah subject to the following conditions:. The main is,amic of the company is not in violation of Shariah. Therefore, it is not permissible to acquire the shares of the companies providing financial services on interest, like conventional banks, insurance companies, or the companies involved in some other business not approved by the Shariah, such as the companies manufacturing, selling or offering liquors, pork, haram meat, or involved in gambling, night club activities, pornography.

If the main business of the companies is halal, like automobiles, textile. If some income from interest-bearing accounts is included in the income of the company, the proportion of such income in the dividend paid to oslamic share-holder must be given charity, and must not be retained by. The shares of a company are negotiable only if the company owns some non-liquid assets.

If all the assets of a company are in liquid form, i. What should be the exact proportion of non-liquid assets of a company for the negotiability of its shares? The contemporary scholars have different views about this question. The third view is based on the Hanafi jurisprudence. The principle of the Hanafi school is that whenever an asset is a mixture of a liquid and non-liquid assets, it can be negotiable irrespective of principlrs proportion of its liquid.

However, this principle is subject to two conditions:. First, the non-liquid part of the mixture must not be in a negligible quantity. It means that it should be in investmeent considerable proportion. Second, the price of the mixture should be more than the price of the liquid amount investmeng. For example, if a share of dollars represents 75 dollars, plus some fixed assets the price of the share must be more than 75 dollars. In this case, if the price of the share is fixed as onvestment, it will mean that 75 dollars are in exchange of 75 dollars owned by the share and the rest of 30 dollars are invsetment exchange of the fixed asset.

Conversely, if the price of that share fixed as 70 dollars, it will not be allowed, because the 75 dollars owned by the share are in this case against an amount which is less than This kind of exchange falls within the definition of «riba» and is not allowed.

Similarly, if the price of the share, in the above example, is fixed as 75 dollars, it will not be permissible, because if we presume that 75 dollars owned by the share, no part of the price can be attributed to the fixed assets owned by the share.

Therefore, some part of the price 75 dollars must be presumed to be in exchange of the fixed assets of the share. In this case, the remaining prnciples will not be adequate for the price of 75 dollars. For this reason the transaction will not be valid. However, in practical terms, this is merely a theoretical prniciples, because it is difficult to imagine a islwmic where a price of the share goes lower than its liquid assets.

Subject to these conditions, the purchase and sale of unvestment is permissible in Shariah. An Islamic Equity Fund can inveatment established on this basis. The subscribers to the Fund will be treated in Shariah as partners «inter se. The profits can accrue either through dividends distributed by the relevant companies or through the appreciation in the prices of the shares.

In the first case i. The contemporary Islamic Funds have termed this process as «purification. The Shariah scholars have different invetment about whether invesmtent «purification» is necessary where the profits are made through capital gains i. Some scholars are of the view that even in the case of capital gains the process of «purification» investnent necessary, because the lnvestment price of the share may reflect an element of interest included in the assets of the company.

The other view is that no purification is required if the share is sold, even if it results in a capital gain. The reason is that no specific amount of price can be allocated for the interest received by the company. It is obvious if all the above requirements of the halal shares are observed, the most of the assets of the company are halal, and a very small proportion of its assets may have been created by the income of.

This small proportion is not only unknown, but also a negligible as compared to the bulk of the assets of the company. Therefore, the price of the share, in fact, is against the invsetment of prindiples assets, and not against such a small proportion. The whole price of the share therefore, may be taken as the price of the halal assets.

Although this second view is not without force, yet the first view is more cautious and far from doubts. Particularly, it is more equitable in an open-ended equity fund because if the purification is not carried out on the appreciation and a person redeems his unit of the Fund at a time when no dividend is received by it, no amount of purification will be deducted from its price, even though the price of the unit may have increased due to the appreciation in the prices of the shares held by the fund.

Conversely, onvestment a person redeems his unit of the Fund at a time when no dividend is received by it, investjent amount of purification will be invetsment from its price, even principples the price of the unit may have increased due to the appreciation in the prices of the shares held by the fund. Conversely, when a person redeems his unit after some dividends have been received in the fund and the amount of purification has been deducted therefrom, reducing the net asset islamuc per unit, he will get a lesser price compared to the first person.

On the contrary, if purification is carried out both on dividend and capital gains, all the unit-holders will be treated at par with the regard to the deduction of the amounts of purification. Therefore, it is not only free from doubts but also more equitable for all the unit-holders to carry out purification in the capital gains.

This purification may be carried out on the basis of an average percentage of the invvestment earned by the companies included in the portfolio. The management of the fund may be carried out in two alternative ways. The managers of the Fund may act as mudaribs for the subscriber. In this case a certain percentage of the annual profit accrued to the Fund may be determined as the reward of the management, meaning thereby that the management will get its share only if the fund has earned some profit.

If there is no profit in the fund, the iwlamic will deserve nothing, but the share of the management will increase with the increase of profits. The second option of the management is to act as an agent for the subscribers. In this case, the management may be given a pre agreed fee for its services. This fee may be fixed in lump sum or as a monthly or annual remuneration.

According to the contemporary Shariah scholars, the fee can also be based on a percentage of the net asset value of the fund. However, it is necessary in Shariah to determine any of the aforesaid methods before the launch of the fund.

As with all Islamic finance, funds must not be invested in prunciples activities like interest-bearing instruments, enterprises involved in alcohol or pork. Islamic Finance: Law, Economics and Practice. Retrieved islamoc August Washington, DC: World Bank. Retrieved 12 October Retrieved 31 August Muhammad Yunusthe founder of the Grameen Bank and microfinance banking, and islamic investment principles supporters of microfinance, though not part of the Islamic Banking movement, argue that the lack of collateral and lack of excessive interest in micro-lending is consistent with the Islamic prohibition of usury riba. New York: Palgrave Macmillan. University Utara Malaysia. This style of investing was more popular in the past, but as economic and social groups show more tolerance and acceptance, Sharia-compliant investing is waning. Retrieved 7 December Shahmoradi, and R. Islami Bank Bangladesh Isllamic. Takaful Pakistan. Compare Investment Accounts.