Accounting for Islamic Banks (Lecture Week 2)

Part 1Islamic Prohibition of Riba

The Prohibition of Riba and GhararMeaning of RibaLiterally: excess, increase, expansion or growth

Definitions of RibaIbn al-Arabi: every excess in return of which no reward is paidMawdudi: predetermined excess or surplus over and above the loan received by the creditor conditionally on relation to a specified periodHaque: an increase or excess which, in an exchange or sale of commodity, accrues to the owner (lender) without giving in return any equivalent counter or recompense to the other party

Prohibition of Riba In the Quran - 4 Stages:Surah al-Rum: 39 compare riba with Zakat and charitypraising Zakat but not riba2. Surah al-Nisa: 160-161attaching the practice of riba with the JewsConsider the practice as an inequity3. Surah ali-Imran: 130Prohibiting the practice of charging double and multiple riba

Prohibition of Riba 4. Surah al-Baqarah: 275-281Conclusively prohibiting all forms of ribaAny excess over the capital is disallowed they say: trade is like riba, but Allah has permitted trading and forbidden (haram) riba (usury)

Example in the Sunnah:From Jabir the Prophet s.a.w cursed the receiver and the payer of riba, the one who records it and the two witnesses to the transaction: they are alike in guilt

Types of RibaRiba al-Buyu (exchange transaction)Riba al-Fadl (due to excess)Riba al-Nasiah (due to delay)Example:(a) Trading commodities of the same commodities (gold gold; dates dates)Both commodities must be equivalentPrompt delivery(b) Trading commodities of the same group but different kinds (gold - silver; wheat barley)Equality not a conditionPrompt delivery(c) Trading commodities of different groups and kinds (gold wheat; silver barley)No conditions imposed i.e. free trading

Types of Riba2. Riba al-Duyun (loan/debt transaction)Riba al-Nasiah (due to delay)

Characteristics of Riba al-Nasiah3 Elements:Excess or surplus over and above the loan capital;Determination of surplus in relation to time; and,Stipulation of surplus in the loan agreement.

Riba vs TradeWisdom behind prohibition of ribaElimination of injustice and encourage cooperationSpirit of brotherhood

Riba is not trading:Money loaned for self-generating or self-expanding value is not saleGrowth or increase in money is inequitableOne party receives an increase without equivalent return to the other partyIn sale, there is productive exchange such as goods for goods and money for goods

Part 2Islamic Prohibition of Gharar

Meaning of GhararLiterally: In Arabic means negative elements e.g. deceit, fraud, uncertainty, danger, risk, hazard etc. that might lead to destruction and loss

Technically: uncertainty and ignorance of one or both parties of a contract over the substance or attributes of the object of sale or doubt over its existence and availability at the time of contract

Gharar in the QuranThe word Gharar appeared 27 times in the QuranRefer to the need of believers to be aware of the deceptive character of the worldly pleasures, and not to be deceived by such temptationsExample in Surah al-Nisa (4:29):O you believe! Eat not your property among yourselves unjustly (bil batil i.e. by falsehood and deception) except in a trade amongst you by mutual consentMost jurists agreed that al-Batil refers in the above verse includes illegal and deceptive elements in commercial contracts

Gharar in the SunnahIn commercial transactions, the Prophet s.a.w in many of his sayings prohibited the sale involving ghararExamples: The prohibition of sale of fish in the sea, bird in the air, unborn animals, etc.Gharar is prohibited by consensus of the jurists (ijma) since the time of the companions, their followers (tabiin) and subsequently until now.

Reasons for prohibition of GhararTo ensure full consent and satisfaction of all parties in a contractWithout full consent and satisfaction the contract is null and voidFull consent can only be achieved through certainty, full knowledge, full disclosure and transparency, and zero deceit or fraudGharar also results in the risk being built into the contract at its inception which may result in a profit for one party and corresponding loss to other party (zero-sum game or gambling)

Factors for Gharar in ContractsNone or incomplete ownership (do not sell if you do not have or cannot legally guarantee deliveryNon-possession or cannot guarantee physical delivery to avoid manipulation by the seller and protect the interest of buyerUncertainty in the contract or conditional sales

Exceptions of Gharar The uncertainty is too trivial or too slight and tolerable by both or all partiesCharitable contracts (tabarruat i.e. Waqf etc.)The real public need for the transaction or contracts even gharar is excessive e.g. bay al-Salam (advance purchase), al-Istisna (manufacturing contract ) To satisfy peoples immediate need and removal of hardship makes Gharar an exception and need takes priority

Exceptions of GhararGharar is averted if:Both the price and the subject matter are proved to be in existence at the time the transaction concludedThe qualities are known and the quantities are determinedThe contractual parties have control over them so as to ensure the exchange can take placeTerm of time can be precisely determined