When banking is done per the principles of Sharia, it is called Islamic Banking. Sharia is the Islamic law followed by people who practice Islam. Islamic law promotes the principle of sharing profits and losses and prohibits the collection of Interest by lenders/investors.
Since banks largely operate with the motive to earn a profit, how do Islamic banks make profits? Well, the answer is Equity Participation! Instead of paying Interest to the bank, a borrower partakes of their share in the profits. The concept of Islamic Banking aims to encourage ethical and society-building practices where everyone can prosper.
How do Islamic banks operate in the USA?
The biggest pre-requisite of Islamic banking is that the bank or financial institution transactions must comply with the rules inscribed in the Sharia called the Fiqh-Al-Muamalat. Even the employees working in such institutions are expected to uphold Islam’s principles while conducting daily banking transactions. When confusion or doubt needs to be cleared, help or advice can be sought from scholars or by observing and learning from customary practices. It is advisable to set up a Shariah Supervisory Board for such assistance.
While there are purely Islamic banks, conventional banks offer an Islamic window. In such windows, the banking services are provided following the principles of Sharia.
What is prohibited in banking/ commercial transactions as per the Sharia?
1. Paying or Collecting Interest on the amount that has been loaned. Interest on a loan is known as Riba and is strictly prohibited.
2. Maiser or Gharar is prohibited- Speculating or Gambling away money is discouraged and prohibited.
3. Investing in items expressly prohibited in the Quran – like pork and alcohol.
4. Margin trading, Short selling, Day Trading, Derivatives.
Islamic banking originates in the people in the business of The Middle East. These businessmen engaged with Europeans and gradually established the financial setup of operating on no interest and profit/loss sharing.
Is there any legal framework for Islamic banking in the USA?
There has been a significant rise in the Islamic Finance domain, especially as a consequence of the increase in the Muslim population. Despite this, there are no specific laws about Islamic banking in the USA. The major demand for Islamic banking in the USA has been in purchasing homes. Shariah-compliant loans that facilitate the purchasing of homes have been rising in demand. Most Islamic institutions work as leasing organizations or mortgage brokers since the number of restrictions is low when compared to operating as a bank. It’s far easier to operate as an organization that leases its properties.
What are the modes of financing in Islam?
There are different Islamic modes of financing, which include:
Musharaka- A mutual agreement for sharing profits and losses in a business venture.
Mudaraba- A person or group who runs a business like a bank with their money.
Murabaha- Sale of goods by a person to another person where the price is pre-determined and does not change once agreed upon. It can include a profit added to the cost of production.
Musawama- If the price of the goods is determined without any reference to the cost of production, then it is a Musawama transaction.
Ijarah- Leasing- Items like money, edibles, and fuel cannot be leased as they can be consumed.
Salam- An advance paid at a decided price for a product to be delivered in the future.
Itsisna- A sale of a product or commodity at an agreed price to be sold in the future.
Arguments in favor of Islamic banking:
-Islamic financing is often lauded for its ethical, value-based, responsible system of banking where profit-making is not the only motive.
-Islamic financing promotes two types of accounts- A Current account, where the bank holds money but no Interest is paid out, and Mudarabah accounts, where the bank’s losses are shared. This decreases the bank’s capacity to default or run into extreme losses.
-Islamic financing has made its presence felt in the international market by turning the theoretical principles of Sharia into a reality with real business challenges and transactions and transforming it into a multi-billion dollar economy.
Arguments against Islamic banking:
– Reduced levels of public awareness of the presence of such institutions
– Reduced availability of Shariah-compliant instruments
– The need for Better regulation so that poor and illiterate people are not taken advantage of in the name of religion
Apart from Islamic banks, are there any other Islamic financial institutions?
Yes, there are Islamic financial institutions that operate on a full-fledged scale. Conventional banks also operate financial windows for Islamic practices, Islamic subsidiaries of traditional financial institutions, and Islamic Non-Banking Financial Institutions.
What is a Shariah Supervisory Board?
A Shariah Supervisory Board is comprised of at least three members who are eminent jurists and specialize in Islamic Commercial Jurisprudence. Their fatwas or rules cannot be violated. It is a pre-requisite that a member of the Shariah Supervisory Board cannot be an employee of the bank/institution they oversee.
The board members are required to calculate the Zakat (donation) payable and identify and dispose of any income that is not in compliance with Shariah. They also determine the proportion in which the profits or income of the financial institution is to be distributed amongst the investors and shareholders of the institution.
Some of the operational Islamic banks in the USA are :
1. The Bank of Whittier
2. American Finance House
3. LARIBA Bank
4. University Bank
5. Manzil USA
6. Amana Mutual Funds Trust
7. MSI Financial Services Corporation
8. JP Morgan
9. Standard Chartered Islamic Banking
10. Dubai Islamic Bank
Though 25 Islamic financial bodies are operating in the USA presently, Lariba and University Bank are the biggest ones.
The presence of Islamic banks in the USA indicates the openness of the culture of the USA and how it is willing to give each religion the space it requires for both participation and prosperity. Since the 1970s, Islamic financing structures have been gaining traction and growing steadily. The number of banks providing dedicated services based on Sharia has been increasing. Apart from this, traditional banks have also shown a rising trend in the number of windows through which banking based on Islamic principles is encouraged.
Q. How do fixed deposits work in Islamic banks?
Like conventional banks, the amount is deposited in an Islamic bank and held for a specific period, but when it is paid back, it is not paid with Interest. It is rather paid along with an expected rate of return.
Q. How do Islamic credit cards work?
Islamic credit cards are treated as leased assets where the customer is the borrower, and the bank is the lender.
Q. Is Islamic banking only for Muslims?
Since Islamic banking advocates the common good and economic prosperity for everyone, it is a broad category that is open to non-Muslims as well. Values like justice, helping each other, mutual consent, and honesty are promoted through Islam and Islamic banking. This kind of banking discourages fraud, misrepresentation of facts, and injustice.