Q. (i) Does the interest on loans floated by the Government to meet national requirements come under Riba?
(ii) What alternative can be suggested for the banks in case they grant loans without interest for various requirements?
A. (i) Yes the Qur’anic injunctions regarding the prohibition of interest is general. The interest is prohibited both in the public and private sectors and for all types of purposes. Any excess payment made over and above the principal amount is Riba and is thus Haraam. For more details see the answer to the question (1).
(ii) The Islamic Banks will finance viable investment/production projects on the basis of Mushaarakah / and or Mudaarabah. As for the financing of genuine consumption needs on the basis of Qarz-e-Hasana is concerned, the following considerations will have to be kept in view :
a) The amount of loan cannot exceed reasonable limits. b) Income accruing from the collateral security like land or house will be deducted from the amount of loan. c) If the debtor is unable to pay back the loan or he dies and there is no known way to repay his loan, then Bait-ul-Mal will make payment of the loan to the Bank.
Q. Can, in the light of the Injunctions of Islam, any differentiation be made between private and public banking in respect of charging interest on banking facilities or services rendered?
A. Public and private banking institutions are treated at part in respect of the Islamic injunction of prohibition of interest. No interest is allowed on any financial transaction in both public and private banks. However, the banks both in public and private sector can charge service charges to take care of administrative expenses.
Q. (i) Can the capital, according to the Injunctions of Islam, be regarded as an agent of production thus requiring return for its use?
(ii) Does devaluation of the currency affect the payment of loans taken before such devaluation?
(iii) Can inflation causing rise in the cost/value of gold and consumer goods in terms of currency have any affect on the sum borrowed?
A. (i) The word capital is used in two meanings : Physical and financial.
Physical capital like machinery, building, etc. participating in the production process are allowed to claim their reward in the form of rental.
Financial capital like money and near-money instruments taking part in the production process through Mudarabah or Musharakah arrangement can participate in profit/ or loss. However, no fixed return is admissible for the use of money capital.
(ii) The question is two dimensional. The first relates to the effect of devaluation on the internal loans. In such loans, the same amount of loan will be repayable as before the devaluation. In this case, Imam Istijabi reports the consensus of Fuqahah on the point that, if there is any charge in the value of currency, then the same amount of currency units will be repaid as were loaned.
As far as the payment of the external loans is concerned, the devaluation will involve extra payment proportional to the rate of devaluation on such loans.
(iii) The answer here is essentially related to the above answer. A given sum borrowed before inflation will be repaid in the same amount, after the inflation. The inflation tends to reduce the real burden of the loan. From this angle, it tends to favour the borrower against the lender. To protect the lender, the indexation of loan is not allowed because the indexation while protecting lender, hurts the borrowers.
Real answer to the problem of inflation is the introduction of the Islamic Economic system in totality. An important feature of this system in the monetary sector is prevalence of a relatively constant value of money.
Q. What would be the alternatives in the context of present day economic conditions to carry on domestic and foreign trade efficiently without availing of Banking facilities based on interest?
A. The scholars of Islam have suggested a number of financial instruments to facilitate internal and external trade. The most preferred are based on the principles of profit-loss sharing, like Mudaarabah and Musharakah arrangements. The other less preferred are : bai Muajjal, Ijrara, Ijara wa iqtina and Bai-salam. They are defined as below:
Bai Muajjal (Cost plus trade financing): The bank enters into an agreement with his client to purchase merchandise for the client and then the bank sells them to the client on the basis cost plus agreed profit margin, repayable in installments over a specified period.
Ijara (Lease or hire): The bank acquires machinery / equipment / building etc. for his client and charges a certain rental for their use.
Ijara wa Iqtina (Hire-Purchase): The bank finances the purchase of equipment and the client uses them under a contract. The contract provides that the client will pay the cost of the instrument and a share in the net rental value of the equipment which is proportional to the outstanding shares in the total investment.
Ba’i Salam: The bank enters into an agreement with the client for advance purchase of merchandies and makes the payment of the agreed amount at the time of agreement.
It is important to note that above mentioned techniques are less than desired because of their resemblance to the interest. Therefore, minimum use of these techniques will be made in Islamic banking.
Q. Is it possible to carry on insurance business on the transactions between two Muslim States or a Muslim and non-Muslim State?
A. Interest is not permissible on economic/financial transactions occurring between two Muslim countries. Muslim countries can eliminate interest from their economy provided they make since and serious efforts. What is needed is to muster the public confidence. When this is achieved, the Islamic State can realize more tax revenue through extra taxes as well as through interest-free loans and voluntary contributions. Then, there may not be any need to raise interest-based loans.
However, in cases of extreme needs, a Muslim country can seek interest-based loans for as small amount and for as shorter period, as possible.
The Islamic State provides for risks of poverty, sickness or any other calamity from the Bait-ul-Maal, Zakat-based social security. Insurance administered by the state take care of incidences of this nature.
Insurance business can be organized in the private sector on the basis of the principles of cooperation and mutual security. The important thing is to ensure that the elements of Riba and gambling do not enter into the functioning of the insurance business. This can be done by forming mutual insurance companies where policy holders contribute to the insurance fund by way of gifts. The insurance fund may be invested on the basis of Mudaarabah and may also be available as Qarz-e- Hasana to the policy holders. The payment to a policy holder at the time of any calamity may be considered as a gift from the rest of the policy holders. The profit earned on the insurance fund may be distributed on the basis of the relative contributions to the fund.
The above-mentioned insurance scheme may be Islamically accepted as it is purged of the elements of gambling and interest.
Q. Does interest accruing on the provident Fund or Saving Bank Account come under Riba?
A. The interest accruing on the saving bank account can be considered as Riba if the income earned by the proceeds of this account do not qualify in terms of profit-loss sharing conditions. For instance, if the return from the saving bank account is linked to the return of any single government undertaking. The reason is that the proceeds of the saving account become a part of the general government budget. However, if the return from the saving bank account are specifically earmarked, are used in a specific undertaking and the account-holders share in the profit/loss of such undertaking, then the resulting income become Islamically legitimate.
In the light of Islamic injunctions, the interest earned on the provident fund does not fall within the definition of Riba. The reason is that the employee does not own the amount of the fund. During the period in which the interest has been earned. Therefore, the excess amount earned over the actual amount deposited cannot be considered Riba. Here, the Fuqaha make two suggestions: One is that the government departments have added the excess amount without the written approval of the employee. In this case, accumulating excess amount are Riba free. In the seccond case, the employee himself can ask the government to treat his fund as interest-based, then the excess amount resembles Riba.
In the light of Islamic injunctions, the interest earned on the provident fund does not fall within the definition of Riba. The reason is that the employee does not own the amount of the fund, during the period in which the interest has been earned. therefore, the excess amount earned over the actual amount deposited cannot be considered Riba. Here, the Fuqaha make two suggestions: One is that the government departments have added the excess amount without the written appr- oval of the employee. In this case, accumulating excess amount are Riba free. In the second case, the employee himself can ask the government to treat his fund as interest-based, then the excess amount resembles Riba.
Q. Can the payment of prize money on Prize Bond or other similar Schemes be regarded as Riba?
A. The Payment on prize money or prize bond resembles gambling (Qimar). The income earned through prize is generated without participating in any real economic activity. Therefore, the payment on prize money is illegitimate from Islamic point of view.
Q. Would it be lawful under Islamic law to differentiate between business loans on which interest may be charged and consumption loans which should be free of interest?
A. The business activity will be financed through legitimate means, like Mudarbah and Musharakah and also some of the other instruments outlined in the answer to question. The consumption loan will be available as Qarz-e-Hasana through Islamic backing system.
Q. If interest is fully abolished, what would be the inducements in an Islamic Economic System to provide incentives for saving and for economizing use of capital?
A. It is very well recognised that interest is not the primary or otherwise an important factor for the saving. The overall savings in the economy primarily depend upon the level of income. Some of the basic motivating factors for saving are: a) meeting future exigencies, b) providing for old age, and, c) bequests.
Since these factors will remain even after the elimination of interest, therefore, it is most likely that the overall rate or level of saving will not be affected significantly (after the abolition of Riba from the economy).
Muslim economists have suggested a wide range of saving instruments which will be available to the potential savers in an interest free economy. These instruments vary in terms of liquidity, risks and returns so as to match preferences of the savers. Apart from existing profit-based instruments like shares of joint stock company, N.I.T. Units, ICP Mutual funds and investors deposit account and participation term certificate, new saving instruments compatible with Shariah, can be brought into being. Among them, Mudarabah bonds floated by the Government as well as by the private concerns can play important role. Similarly, a variable dividend security issued by the state bank can serve as an important instruments. The holders of this security will participate in its profits. This will provide a low risk medium of investment for the private investors. Also, it can serve as a substitute for Government Bonds and Treasury Bills for Investment of the surplus funds of the banks and other financial institutions.
Lastly, the Government Bonds bearing no interest can be issued when the holders may enjoy tax concessions.
As regards the role of interest as a discounting factor, it is pointed out that even in the Western countries, the pure rate of interest is considered to be an inadequate measure as a discount factor. It is usually adjusted for a risk-premium.
In an Islamic Economy, the rate of return on real investment can play the role of discount factor. Practically, it can be approximated by the return on NIT Units.
Q. Can an Islamic State impose any tax on its subject other than Zakat and Ushr?
A. There has been two views among the scholars about this question. The first view explicitly recognizes the sanctity of private property and therefore does not allow an Islamic state to use taxes other than Zakat and Ushr. The second and more dominant view is based on the recognition that an Islamic state has to perform many socioeconomic functions of Amar Bil-Maaruf Wa Nahi-An-al-Munkar, and defence. Among these functions, alleviation of poverty, economic growth, social welfare services and social justice are important. Achievement of these goals may necessitate more revenue than can be available from Zakat and Ushr. Therefore, an Islamic state can impose other taxes to be able to perform its multifarious functions.