Contractum Trinius

A contractum trinius was a set of contracts devised by European bankers and merchants in the Middle Ages as a method of circumventing canon law edicts prohibiting usury. At the time, most Christian nations heavily incorporated scripture into their laws, and as such it was illegal for any person to charge interest on a loan of money.

To get around this, a set of three separate contracts were presented to someone seeking a loan: an investment, a sale of profit and an insurance contract. Each of these contracts were permissible under Church law, but together replicated the effect of an interest-paying loan.

The way this procedure worked was as follows: The loaner would invest a sum equal to the amount to be borrowed to the loanee for one year. The loaner would then purchase insurance for the investment from the loanee, and finally sell back the right to any profit made over a pre-arranged percentage of the investment to them. This system replicated the effects of a loan with any interest rate agreed between the two, and provided protection to the loaner against defaulting, while the loanee remained under the protection of the law when it came to collection of the money by threats or force (loan sharking).

The Church proved utterly unable to legislate against the contractum trinius, and the idea quickly spread to merchants and bankers across Christendom. It helped in part to improve public perception of the practice of usury by moneylenders, and ultimately the doctrine was rewritten by the School of Salamanca, and the ban overturned in many Protestant countries, starting with England by Henry VIII.

The practice has recently, and somewhat controversially, been revived by Islamic banks in a slightly modified form, again as a method of working around a ban of ribaa (usury) in religious scripture.

Source: Wikipedia

 

Bai’ Bithaman Ajil

A deferred payment sale where the payment is made in a single installment is called Bai' Bithaman Ajil. The deferred payment sale contract would include all the terms and conditions present in Bai' al-Mu'ajjal.

This particular contract has become exceedingly popular in the Islamic banking context, as will be explored later.

 

Bai’ Mu’ajjal

Bai' Mu'ajjal is a deferred payment sale contract in which the parties agree to payment of the price at a time in future.

A deferred payment sale contract is valid if the date of payment is set unambiguously. That means, the date can set with reference to a specific date (e.g., December 24) or a specific period (e.g., six months from the date of delivery of goods or services, or as otherwise agreed upon between the parties). However, the date of payment cannot be set with reference to a future event when the exact date of the occurrence of that event is either unknown or uncertain. If there is ambiguity in the date of payment, the sale is considered void.

Deferred Price Could Be More Than Spot Price

The deferred price could be set higher than the spot price - there is no restriction on that - as long as the price is set at the time of purchase. The price cannot be changed once the sale contract has been concluded. Even if the purchaser settles the account at a time earlier than that stipulated in the contract, the amount of payment must equal that agreed upon, and not be lower in consideration of earlier payment.

Dealing with Default

In an interest-based system, the seller would impose penalties (interest) on the buyer in case of a late payment. Such would not be permissible under Islam. However, the scholars agree that the seller may impose penalties for late payment in the form of mandatory charity (e.g., in the event of late payment, the buyer would pay $X per day to a specified charitable organization).

This must act solely as an incentive for the buyer to settle the account in a timely fashion. The seller must not benefit from the penalties paid by the buyer.

Other Penalties

If the sale is concluded with payment in installments, it is permissible for the seller to stipulate in the contract that if the buyer fails to make a payment, the whole amount will come due immediately.

It is also permissible for the seller to demand a security, either as a mortgage or a lien. The seller may also demand a promissory note or a bill of exchange.

Source: Usmani, Chapter 6

 

Mudarabah

Mudarabah is a special kind of partnership where one partner providers the capital (rabb-ul-maal) to the other (mudarib) for investment in a commercial enterprise.

According to Mufti Taqi Usmani, a mudarabah arrangement differs from the musharakah in five major ways:

1. The investment in musharakah comes from all the partners, while in mudarabah, investment is the sole responsibility of rabb-ul-maal.
2. In musharakah, all the partners can participate in the management of the business and can work for it, while in mudarabah, the rabb-ul-maal has no right to participate in the management which is carried out by the mudarib only.
3. In musharakah all the partners share the loss to the extent of the ratio of their investment while in mudarabah the loss, if any, is suffered by the rabb-ul-mal only, because the mudarib does not invest anything. His loss is restricted to the fact that his labor has gone in vain and his work has not brought any fruit to him. However, this principle is subject to a condition that the mudarib has worked with due diligence which is normally required for the business of that type. If he has worked with negligence or has committed dishonesty, he shall be liable for the loss caused by his negligence or misconduct.
4. The liability of the partners in musharakah is normally unlimited. Therefore, if the liabilities of the business exceed its assets and the business goes in liquidation, all the exceeding liabilities shall be borne pro rata by all the partners. However, if all the partners have agreed that no partner shall incur any debt during the course of business, then the exceeding liabilities shall be borne by that partner alone who has incurred a debt on the business in violation of the aforesaid condition. Contrary to this is the case of mudarabah. Here the liability of rabb-ul-maal is limited to his investment, unless he has permitted the mudarib to incur debts on his behalf.
5. In musharakah, as soon as the partners mix up their capital in a joint pool, all the assets of the musharakah become jointly owned by all of them according to the proportion of their respective investment. Therefore, each one of them can benefit from the appreciation in the value of the assets, even if profit has not accrued through sales. The case of mudarabah is different. Here all the goods purchased by the mudarib are solely owned by the rabb-ul-maal, and the mudarib can earn his share in the profit only in case he sells the goods profitably. Therefore, he is not entitled to claim his share in the assets themselves, even if their value has increased.

Types of Mudarabah

1. The rabb-ul-maal may specify a business in which to invest, in which case the mudarib is restricted only to such business as pointed out by rabb-ul-maal. This is called restricted mudarabah or al-mudarabah al-muqayyadah.
2. If rabb-ul-maal has not specified a business in which to invest, it is considered an unrestricted mudarabah or al-mudarabah al-mutalaqah.

Distribution of Profit

The distribution of profit must be pre-determined by the two parties. Furthermore, the amount of profit ascribed to either of the parties must be independent of the capital amount, dependent solely on the actual profit realized by the commercial enterprise. That is, the profit assigned to a party cannot be a percentage of capital amount contributed as that would be considered a fixed return, or interest. The profit assigned to either of the parties cannot be a lumpsum amount either as this would also constitute interest.

As such, the only determination of profit distribution that is permissible is based on the actual profit earned by the enterprise.

The Shari'ah does not restrict or specify proportions to be distributed between the parties, leaving it to the best judgement of the two independent parties.

Termination of Mudarabah

The mudarabah contract can be terminated by either of the two parties at any time as long as a notice, per the contract terms, is given to the other party.

Furthermore, Hanafi and Hanbali jurists are of the opinion that a maximum term of the mudarabah contract can be set, whereafter the contract is terminated automatically. The Shafe'i and Maleki jurists are of the opinion that no term restriction can be added to the mudarabah contract. All jurists agree that one may not specify a minimum term of the mudarabah contract.

 

Musharakah

Musharakah is a type of Shirkat-ul-Amwal which literally means sharing. In the context of business, it refers to a joint enterprise in which partners (or parties) to the enterprise share the profit and loss of the enterprise. Musharakah has far reaching implications for Islamic banking and finance in the modern context and provides an excellent alternative to the interest-based economy.

In a Musharakah, the party investing the capital shares equally in both the profit and loss, which is different from an interest-based system where the upside is limited while the downside is very nearly non-existent.

The Basic Rules of Musharakah

Since Musharakah is, in essence, a contract, all conditions and rules of a contract must be met. Apart from those, there are some basic rules that apply specifically to Musharakah.

Distribution of Profits

1. The proportion of profit to be distributed among the partners must be determined and agreed upon at the time of the contract. Otherwise the contract is not valid under Shari’ah.
2. According to Imam Malik and Imam Shafe’i, it is necessary that each partner’s share in the profit is exactly equal to the proportion of initial investment into the partnership.
3. According to Imam Ahmed, the ratio of profit distribution may vary, without restriction, from the ratio of investment.
4. According to Imam Abu Hanifah, the ratio of profit distribution may vary, however, for silent partners (non-active partners, who only contribute capital), it cannot be any higher than the ratio of investment.

Distribution of Loss

All the Muslim jurists are unanimous that each partner’s share in loss must be exactly equal to the ratio of initial investment. Anything to the contrary will render the contract invalid.

The Nature of Capital

There are the following opinions on this:

1. According to Imam Malik and some Hanbali jurists, the nature of capital is not a restriction in a Musharakah arrangement. Therefore, in-kind (non-cash) contributions by partners are allowed. The share in partnership will be determined based on the market value of the commodity contributed.
2. According to Imam Abu Hanifah and Imam Ahmed, no in-kind contributions are allowed in a Musharakah arrangement. This is because they believe it poses problems if the partnership needs to be liquidated or redistributed.
3. Imam Shafe’i makes a distinction between replaceable commodities and irreplaceable commodities (like cattle). The view is rather complex, and not important for our purposes.

For the purposes of modern business, the view of Imam Malik has been widely accepted.

Management of Musharakah

The norm is for each partner to take part in the management of the partnership, with each partner acting as an agent of the partnership and any work done by one partner deemed to be authorized by all partners. However, if the partners wish they can contract under alternate arrangements for the management of the partnership.

Termination of Musharakah

It is agreed upon by the jurists that a partnership is terminated if:

1. One of the partners terminates the partnership;
2. One of the partners dies (where the heirs get the choice to continue the partnership or liquidate it to draw their share from the partnership);
3. One of the partners becomes insane.

If the remaining partners want to continue the business under any of the above scenarios, it is achievable with mutual agreement. The remaining partners would have to purchase the share of the out-going partner.

Another question raised is whether the partners can agree, at the time of contracting, that the partnership will not be terminated unless all partners agree to the termination. Though the earlier fiqh books are silent on the issue, there is nothing in the Shari’ah that would prohibit such an arrangement.

Source: Usmani, Chapter 1.

 

Interest, its meaning, definition and context of use

Following is a comprehensive understanding of interest, from an email message posted by Mark Robbani of the Institute of Islamic Finance, on the IBF-NET YahooGroup. 

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Regarding the meaning of the word ‘interest’: It would be better to define the context of its use first, before discussing its meaning. Putting aside the true linguistic origins of the word, since ‘interest’ is currently an English word, then for our purposes - we should really use the English meaning of it only in financial & economic contexts. Thus:  

[from: http://en.wikipedia.org/wiki/Interest]

In finance, interest has three general definitions.

Interest is a surcharge on the repayment of debt (borrowed money).

Interest is the return derived from an investment.

Interest is the right to one’s claim in a corporation, such as that of an owner or creditor.

In economics, interest is the return to capital achieved over time or as the result of an event. In population dynamics the rate of population growth (the interest rate) is sometimes referred to as the Malthusian parameter. This article covers the “financial” use of the term.

[from: www.investorwords.com/2531/interest.html]

Definition 1

The fee charged by a lender to a borrower for the use of borrowed money, usually expressed as an annual percentage of the principal; the rate is dependent upon the time value of money, the credit risk of the borrower, and the inflation rate. Here, interest per year divided by principal amount, expressed as a percentage. also called interest rate.

Definition 2

The return earned on an investment.

Definition 3

Partial or total ownership in an asset.

[from: http://en.wikipedia.org/wiki/Interest]

In common use the term “interest” is seen as rent paid for the use of money. As with any rental, the market price (or rate) is subject to change to reflect market conditions. The fraction by which the balances grow is called the interest rate. The original balance is called the principal. Interest rates are very closely watched indicators of a financial market, and have a dramatic effect on finance and economics.

The fact that lenders demand interest for loans can be attributed to the following reasons:

Time value of money or time preference

(TVM: Having money now is more valuable than having it at some future time because interest is earned)

(TP: Interest is the value borrowers place on having money now)

Opportunity cost

(OC: The cost in terms of options no longer available once one particular option is chosen)

We should narrow down the use of the generic term ‘interest’ to the more specific ‘interest rate’ and also accept the practical application of ‘interest rates’ as the Central banks of the English speaking and western European countries apply it. Thus:

[from: http://en.wikipedia.org/wiki/Interest_rate]

An interest rate is the price a borrower pays for the use of money he does not own, and the return a lender receives for deferring his consumption, by lending to the borrower. Interest rates are normally expressed as a percentage over the period of one year. Interest rates are also a vital tool of monetary policy and are used to control variables like investment, inflation, and unemployment.

For instance:[from: http://www.bankofengland.co.uk/monetarypolicy/how.htm]

[from: ]The Bank of England sets an interest rate at which it lends to financial institutions. This interest rate then affects the whole range of interest rates set by commercial banks, building societies and other institutions for their own savers and borrowers. It also tends to affect the price of financial assets, such as bonds and shares, and the exchange rate, which affect consumer and business demand in a variety of ways. Lowering or raising interest rates affects spending in the economy.

Thus, the meaning & definition of interest appropriate for our purposes is the one ‘in common use’ - which happens to be a “surcharge on the repayment of debt (borrowed money)”, “rent paid for the use of money”, “The fee charged by a lender to a borrower for the use of borrowed money”, etc. All of these definitions are actually for the more relevant and specific term, ‘interest rate’ - and are similar to my own definition, which is a monetary charge applied for the use of money).

Here, the surcharge, rent or fee is actually money, which is exchanged for more money (i.e with a contractual difference in the corresponding/counter values). Since any contractual difference in the value of 2 or more items of the same type, quality and value when they are exchanged (irrespective of the time-period involved or the type, magnitude or form of the difference) is Riba, it therefore follows that the surcharge, rent or fee (in this context) is also riba [as any such surcharge, rent or fee (i.e monetary charge) is an 'increase' or an 'excess' in a like-for-like (money-for-money exchange) - thus haraam].

Regarding the variations in the application and meaning of the word ‘interest’ in different countries & languages: This is really more to do with sociology rather then the financial sciences. This is really more to do with sociology rather then the financial sciences.

For instance:

Although in the German language “…jurists categorise rent as being interest (while rent is not riba, and in Dutch interest is event called rent) and accountants sometimes go as far as talking about interest on equity (which will finally confuse everybody to mix up profit with interest)…” - when the German and Dutch (and most other) central banks set the base interest rate, they set it as their monetary charge for lending to financial institutions, and not as the base property/asset rental amount, or equity dividend, etc. This alone should make clear the true meaning of interest (and the context of its use) for our purposes. All other meanings are culturally subjective and thus not suitable for our universal & legalistic use.

Although in the German language - when the German and Dutch (and most other) central banks set the base interest rate, they set it as their for lending to financial institutions, and not as the base property/asset rental amount, or equity dividend, etc. This alone should make clear the true meaning of interest (and the context of its use) for our purposes. All other meanings are culturally subjective and thus not suitable for our use.

In conclusion:

My own personal opinion still remains that ‘interest’ (the form in common English and use) and more specifically, ‘interest rates’ riba (as defined by the authentic sources), but riba (again, as defined by the authentic sources) is not restricted to ‘interest’.

 

Contract of Ar-Rahn - Definition and Conditions

Ar-Rahn, or mortgage or collateral, is defined in the Islamic jurisprudence as “possessions offered as security for a debt so that the debt will be taken from it in case the debtor failed to pay back the due money.”

Ar-Rahn is a permissible contract in Shari’ah. It is known from the Sunnah that when the Prophet of Allah, Muhammad (SAW), passed away, his shield was with a Jewish man in Medina as a collateral.

The conditions of Ar-Rahn

1. The indebted party cannot be coerced into putting up a collateral;
2. An orphan’s property cannot be put up as a collateral by the trustee, unless under exceptional circumstances;
3. The property held as collateral must be liquid;
4. The property held as collateral must be distinct from other properties;
5. The ownership does not change, therefore the owner is responsible for the cost of upkeeping the property even when it is pledged as a collateral. Likewise, the owner continues to enjoy any secondary benefits to the property;
6. There is disagreement among the scholars on whether the property pledged as a collateral can be used. Many of the scholars say that the property cannot be used by either the debtor or the borrower, while many argue that the owner (the borrower in this case) can continue to use the property;
7. If the property held as collateral is lost or damaged while in possession of the trustee, without any negligence on his part, there is no guarantee by the trustee;
8. The ownership of the property cannot be transferred until the debt is settled or the debtor allows for such a transaction;
9. If the borrower cannot pay back at the expiry of the term, the judge will order the property pledged as collateral to be sold in the open market, even if it is the residence of the borrower.

Sources: Abdelhaleem, 14-15 and Kharofa, 154-161.

 

Partnership - Definition and Types

The Arabic word sharekah means partnership or company and denotes mixing of two shares in a way as to make them indistinguishable.

In Islamic jurisprudence, there are several definitions of partnership

Hanafi scholars define partnership as “a contract between partners on both capital and profit.”

Shafe’i scholars define partnership as “a contract giving the right in something to two or more people, making it common.”

Hanbali scholars define partnership as “the coming together of two or more people in disposal or acting.”

Two main kinds of partnerships

Partnerships are primarily of two kinds: partnerships of ownership and partnerships of contracts.

Partnerships of Ownership (Amlaak)

A partnership of ownership means that two or more people share the ownership of a single property, either by their own choice (i.e., by agreeing to buy the property) or without their own choice (i.e., inherting the property, for example). Each of the parties is a partner and none of the parties can dispose of the object on his or her own, without the permission of all other partners.

Partnership of Contracts (Uqood)

A partnership of contacts is between two or more people to have partnership in capital and profit. Such partnerships are subdvided into four kinds:

1. Amwal - financial company, where two partners contribute finances to start the company. This type further includes Al-’Inan or unequal share partnership and Al-Mufawadah or equal share partnership;
2. Wojuh - eminence, where a partner only contributes his or her eminence to the partnership (e.g., Al-Azhar University giving accreditation to an institute in Canada is a partnership where Al-Azhar is exhanging its eminence for a consideration);
3. Sana’i - workmanship, where the partners contribute labour to the partnership;
4. Mudarabah - capital-labour partnership, where one partner contributes labour and the other partner contributes capital.

It is the Mudarabah partnership that has become the focus of Islamic economics and finance in the modern era. We will generally not go into more details on all the various kinds of partnerships.

Source: Kharofa, 166-171.

 

Contract of Al-Hewalah

Al-Hewalah means to move. The term is typically used where the debtor moves his debt to a third party. For Al-Hewalah to take place, there are two necessary steps that must take place:

1. The third party (”C”) will become indebted to the creditor (”A”) for the original debt under the same terms and conditions, as well as the amount, or the original debt between A and the original debtor (”B”).
2. A new debt will be created, whereby B will be indebted to C, for consideration similar in value to that of the original debt.

Al-Hewalah has been used by the Jewish scholars extensively to get around ribaa. The Muslim scholars, however, have clearly laid down the requirement for the original and the new debt to be of similar value. This difference between the Muslim scholars and the Jewish scholars stems from different core methodologies; the Muslim scholars emphasize the spirit of the law, whereas the Jewish scholars emphasize the letter of the law.

The Hewalah contract cannot take place unless all three parties agree to the arrangement.

Source: Abdelhaleem, 13. 

 

Difference Between a Jua’alah and an Ijarah

The primary differences between a Jua’alah and an Ijarah are below:

1. The specified payment in Jua’alah cannot be paid until the task is completed, whereas interim payments are accepted in an Ijarah arrangement. In a Jua’alah contract, payments in advance or interim payments are not legal.
2. Jua’alah has some gharar in it, which is approved by the Shari’ah, whereas an Ijarah contract has no gharar.
3. The Jua’alah contract is a permissible contract, which means it can be invalidated by either of the parties at any time, whereas an Ijarah contract is an obligatory contract which cannot be invalidated after being signed.
4. An Ijarah contract has a specified time-frame attached to it, whereas a Jua’alah contract has no time-frame (though a minority opinion among the Malikies argues that a time-frame is necessary).
5. The Jua’alah cannot be increased or decreased once the task has started.

Source: Abdelhaleem, 6.

 

Definition of Jua’alah

Jua’alah is similar to Ijarah, however, it involved a fixed payment for a specific task that is not well-structured. An example of a Jua’alah would be offering a payment for finding a missing item. In a Jua’alah arrangement, the payment is made after the task has been completed.

According to a tradition in Al-Bukhari and Al-Muslim, the Prophet (SAW) approved of taking a sum as Jua’alah for blessing a sick person with the recitation of the Qur’an.

Source: Abdelhaleem, 6.

 

Definition of Gharar

The Arabic word gharar means risk, uncertainty, and hazard. Unlike ribaa, gharar is not precisely defined. Gharar is also considered to be of lesser significance than ribaa. While the prohibition of ribaa is absolute, some degree of gharar or uncertainty is acceptable in the Islamic framework. Only conditions of excessive gharar need be avoided.

The concept of gharar has been broadly defined by the scholars in two ways.

• First, gharar implies uncertainty.
• Second, it implies deceit.

The Qur’an has clearly forbidden all business transactions, which cause injustice in any form to any of the parties. It may be in the form of hazard or peril leading to uncertainty in any business, or deceit or fraud or undue advantage. Apart from the above simplistic definition of gharar, some definitions of gharar seem to have a parallel in the concept of uncertainty in conventional finance. Gharar is defined by the Hanafi jurist al-Sarakhsi as any bargain in which the result of it is hidden.

Source: Obaidullah, 29.

 

Norms of Ethics in an Islamic Economic System

In light of the Qur’an and the Sunnah, the scholars have defined some norms of ethics in an Islamic economics system. For brevity, we will list them here for now. Each of these will be discussed in further detail later. An Islamic economic system is based on the following norms of ethics:

1. Freedom to contract
2. Freedom from coercion
3. Freedom from misrepresentation
4. Freedom from Ar-Ribaa (interest)
5. Freedom from Al-Gharar (excessive uncertainty)
6. Freedom from Al-Qimaar (gambling)
7. Freedom from Al-Maysir (unearned income)
8. Freedom from price control and manipulation
9. Freedom from impulse
10. Right to trade at efficient prices
11. Entitlement to transact at fair prices
12. Right to equal bargaining power
13. Entitlement to equal, adequate and accurate information
14. Freedome from Darar (detriment)
15. Mutual cooperation and solidatrity
16. Maslahah Mursalah (unrestricted public interest)

Source: Obaidullah, 9-15.

 

Terms and Conditions of Al-Ijarah

Al-Ijarah (rent/lease/hire) contract has a number of terms and conditions in addition to the common terms and conditions that apply to all contracts. Al-Ijarah contract is more widely used nowadays than ever before, primarily due to the creation of large commercial enterprises since the dawn of the industrial revolution. As such, these terms and conditions should be common knowledge to all Muslims.

1. The property rented or leased must be in a useable condition (i.e., the lessee should be able to use the property for its intended purpose). Similarly, in a hire contract, the employee must be able to perform the job required of him or her.
2. Ijarah has to be for inconsumable goods.
3. The lessee or the employee is not permitted to use the subject in a manner contrary to what is permitted by the contract. Specifically, the lessee or the employee is not allowed to inflict any harm on the subject of the contract.
4. Ijarah contract cannot be made for a task that is a religious obligation. For example, it is prohibited to enter into an employment contract for leading the prayer of making the azaan. Ijarah is valid, however, for teaching the Qur’an or religious sciences, as well as secular subjects because these are not religious obligations.
5.  If the two parties disagree on the value of the reimbursement or the rent/lease on the property, after the contract commences, the word of the lessor/employer is accepted under oath upto the time of disagreement. At that point the contract is then invalidated.
6. The majority of the scholars say that the Ijarah contract does not end by the death of one of the two parties, as long as both parties can fulfill their end of the contract. The Hanafis, to the contrary, deem the contract invalidated with the death of one party.

Source: Abdelhaleem, 11-12.

 

Contract of Al-Ijarah

Though there are various definitions of Al-Ijarah given by the scholars of jurisprudence, they all agree that this contract is a contract on using the benefits or services in return for compensation. In our context, Al-Ijarah refers to a contract to hire, rent or lease. We see the evidence of hire in the story of Musa (Al-Qasas: 26-27) where Musa was hired by his father-in-law to provide a service.

There are two main types of subjects in an Ijarah contract:

1. Tasks, where the compensation is for effort expended of skill used (by an employee or a contractor), and
2. Property, where the compensation is for the use of a property (such as a car or a house).

An Ijarah contract cannot be cancelled unless both parties agree to it or if one of the parties fails to deliver.

The pillars of an Ijarah contract are:

1. Presence of two parties
2. Offer and acceptance
3. Reimbursement or compensation
4. Specified usage

Without any of the above the contract is not valid. A point to note here is the necessity to specify the reimbursement and the usage. If these are missing, the contract is valid only if the two parties agree on them later.

There are a number of conditions attached to an Ijarah contract that will be discussed next.

Sources:

Kharofa, 146-147
Abdelhaleem, 11

 

Prohibited Transactions - III

Selling Islamically legal goods for illegal ones

Like selling something halal for wine, pork, dead animal’s meat or idols in return.

Sale by a city-dweller to a desert-dweller

The Prophet prohibited the city-dwellers from purchasing from the desert-dwellers. In another narration, city-dwellers were prohibited from purchasing merchandise from merchants before they reach the market-place. Here, the city-dwellers are people who the knowledge of the price whereas the merchants traveling from other places and the deser-dwellers are ignorant of the prevailing market prices. Availability of information here gives an unfair advantage to one party, which is discouraged in Islam. This prohibition is fundamentally important in an era where those who lack information are commonly taken advantage of.

Sale of grapes to a wine-maker

Though this sale meets all the requirements of a contract (the object sold, grapes, is halal) the sale contract is discouraged by the Hanafi and the Shafe’i jurists while it has been considered invalid and nugatory by the Malekis and the Hanbalis. This shows that if the halal object being sold is to be used in a haram manner, the sale of that halal object becomes haram as well. This also applies to sale of weapons during times of sedition and similar examples.

Fraudulent Overbidding

This refers to the seller artificially increasing the price in an auction by conspiring with a bidder who does not intend to buy but bids just to raise the price.

Two contracts in one

It is prohibited to bring together in one contract two transactions like sale and commission, partnership and exchanging and marriage, agricultural partnership and trade-labour partnership.

Sale contract with alien condition

Though there are a number of opinions on this, the general opinion seems to be that having an unrelated condition in a sale contract is highly discouraged. One example of an unrelated condition is the seller prohibiting the buyer from on-selling the merchandise purchased.

Source: Kharofa, 83-90.

 

Prohibited Transactions - II

Sale of non-existent or near non-existent things

These sales were prohibited in the context of yet unborn offspring. This has wide-spread application in the present-day context.

Sale of things that cannot be delivered

These sales include fish in the sea and bird in the sky and are prohibited. Though the bird or the fish might eventually be caught and delivered on time, it is impossible to point to a specific or give ample description before the contract is accepted.

Sale involving ignorance or doubt

This typically refers to doubt with respect to the price, or consideration paid. An example of this is contracting to sell a commodity on “market price” where the term “market price” has not been defined in units of money.

Two sale proposals in one

This refers to proposing (first step of the contract) to sell one object at one of two different prices. For example, a proposal to sell a widget at $100 in cash or $150 six months hence is invalid even though the two proposals are valid on their own, independent of each other.

Sale of an impurity

Things considered unclean in Islam like wine, pork, meat of a dead animal and blood, to name a few.

Sale of water

Most jurists allow sale of water if it is from a privately owned source, though the Dhaheri scholars state the sale of water to be prohibited whether from a public or a private source (e.g., fountain or a well). One may, however, charge for the effort to retrieve or treat this water.

Sale of something before receiving the price

The Prophet said, narrated by Ahmad and Muslim from Jaber, “If you have bought foodstuff, do not sell it until you have received it in full.”

Sale of ‘inah

‘Inah or deferred-payment contract is a special arrangement whereby Party A sells an object to Party B for Price X to be paid at a later time and then purchases it back from Party B at Price Y in cash, where Y is lower than X. This effectively results in creating a ribaa like transaction. This sale is considered nugatory or invalid by all jurists, except a small minority among the Shafe’i and Dhaheri schools, who consider it makruh. Unfortunately, this type of sale contract is widely used in Islamic banking in Malaysia based on the minority opinion. We will discuss this is more detail later.

Source: Kharofa, 79-82.

 

Prohibited Transactions - I

Sale by coercion

If a person is coerced into contracting a sale, the contract is considered invalid. The Hanafi and Maliki scholars give room for the coerced party ’s belated consent once the force is removed. The Shafe’i and the Hanbali scholars consider the sale to be invalid. According to the Hanafi jurists, if a person is forced to sell his property without will, this will be considered an illegal act — meaning that not only is the contract not valid but the coercing party is punishable.

Sale by an insane person

By agreement among all scholars, a sale to an insane person is not valid. By analogy, a sale made to a drunken or a drugged person, or any person unable to reason at the time the sale is made, is also invalid. Interdiction due to illness making the person non compos mentis will fall under insanity as well.

Sale to a blind person

The Shafe’i scholars do not consider a sale to a blind person to be valid. The majority of the jurists, however, agree that if sufficient description of given to the blind person, the sale will be valid.

Sale by a child

A sale by a child (or to a child) is not valid if the child is not discerning or capable of reasoning. There is consensus of the scholars on this. However, when the child is discerning or capable or reasoning, most scholars allow the sale with the requirement of the guardian’s permission. The Shafe’is do not allow such a sale.

Sale of the which is not owned

A sale by a person who does not own the object of sale, and does not have the permission to sell from the owner, is not valid. This stems from the Prophet’s injunction, “Do not sell something which you do not own.” The Malikis and the Hanafis allow this sale if the owner gives a belated permission, after the fact.

Source: Kharofa, 77-79.

 

Contract of Sale and its Conditions

The most basic type of an exchange (mu’awadat) contract is a contract of sale. Kharofa outlines seven conditions for a sales contract to be valid. These are:

1. The contract should be concluded willingly and with mutual consent as per the Qur’anic injunction in Surah an-Nisaa 26.
2. Both parties to the contract must have the capacity to conduct such a sale. A sale by an insane person (temporarily or permanently insance), a child or a drunken person is not valid. Hanafis permit such a contract by a child as long as the guardians permit it. Hanbalis permit such a contract by a child as long as the child is mature enough to make a decision. The Hanbali position is based on verse 6 of Surah an-Nisaa.
3. The object of sale should carry a legal benefit to the buyer, usually in the form of property or service received.
4. The object of sale must be owned by the seller or the seller should have the owner’s express permission. In an agency situation if the owner gives a belated permission, after the sale has taken place, the contract is considered valid but without it the contract is void.
5. The seller must be capable of delivering the subject of the contract to the buyer, or the sale is nugatory. One cannot, therefore, sell something that is not in his or her possession (e.g., cannot sell a bird in the sky or fish in the water until possession has been taken).
6. The object of sale should be made known to the purchaser by sight or by ample description. If the object being sold is not seen by the purchaser and has not been sufficiently described, the sale is invalid. A major implication of this is the obligation on the seller to disclose any and all defects in the object of sale to the buyer for the sale to be valid. A strong opinion among the scholars is that the sale will be valid but the buyer will have the option to invalidate it upon inspecting the object bought.
7. The price, or consideration due, must be known to both parties. Therefore, a contract of ribaa where the price ultimately paid changes by the timing of the payment is not valid due to the uncertainty involved with respect to the price.

Source: Kharofa, 73-76.

 

Allah Decides the Prohibited and the Permissible

Only Allah has the right and the authority to declare a matter permissible or prohibited. This Quranic maxim makes it clear that human beings do not have absolute freedom over the resources made available to them by Allah. Our use of the resources is limited by the limits laid down by Allah.

Allah condemns an ancient Arab nation, Madian, for spending out of their wealth without any limits.

“They said: “O Shu’aib! Does thy (religion of) prayer command thee that we leave off the worship which our fathers practised, or that we leave off doing what we like with our property?” (Qur’an 11: 87)

Furthermore, Allah deems it a lie on Him for a human being to declare lawful what is not and vice versa. He states in the Book:

“But say not - for any false thing that your tongues may put forth,- “This is lawful, and this is forbidden,” so as to ascribe false things to Allah. For those who ascribe false things to Allah, will never prosper.” (Qur’an 16: 116)

Only Allah and, by His permission, His messenger have the right to declare something permissible or prohibited.

“Those who follow the messenger, the unlettered Prophet, whom they find mentioned in their own (scriptures),- in the law and the Gospel;- for he commands them what is just and forbids them what is evil; he allows them as lawful what is good (and pure) and prohibits them from what is bad (and impure); He releases them from their heavy burdens and from the yokes that are upon them.” (Qur’an 7: 157)

Sources: Mawdudi, Abul Ala. Muashiat-e-Islam. 11th ed. Karachi: Ma’araf Islami, 1986. 71-72.

 

Pre-Islamic Ribaa

An argument often presented by many Muslims is that ribaa mentioned in the Qur’an is actually different from what we call ‘interest’ nowadays. It is important, therefore, to look at what qualified as ribaa in the pre-Islamic times (Ribaa al-Jahiliyyah).

We find various kinds of of situations where ribaa comes into play. A brief look at these reveals that there is no difference between the pre-Islamic ribaa and the present-day notion of interest.

“Qatadah narrates that the ribaa of pre-Islamic times was that where one person bought property from another with a promise to pay at a later time. If the buyer could not pay the agreed upon amount on the settlement date, the seller would extend the payment period and the amount owed.”

According to this example by Qatadah, the Arabs of the pre-Islamic times considered as ribaa the increase in the amount owed from the original settlement date to the revised settlement date.

“Mujahid held the opinion that the ribaa of the pre-Islamic times was that where the borrower would agree to pay more than the borrowed sum if given a specific time horizon to pay.” 

This is increase in amount owed due to failure to pay or additional time is precisely what we call interest in the present-day economic system. In both cases, we see the debt being swapped for a larger amount based on the passage of time.

“According to Imam Razi the norm of the pre-Islamic days was that the borrower of monies would agree to pay an agreed upon amount on a monthly basis for an agreed upon period of time. At the expiration of that period, the borrower would return the original sum. However, if he could not pay, he would be given more time in return for higher monthly payments.”

These monthly payments were also called ribaa by the pre-Islamic Arabs.

Sources: Mawdudi, Abul Ala. Muashiat-e-Islam. 11th ed. Karachi: Ma’araf Islami, 1986. 232.
Obaidullah, Mohammed. Islamic Financial Services. Jeddah: Islamic Economics Research Center, 2005. 24.

 

Ethics Defined

According to Dr. Refik Beekun, ethics are defined as a set of moral principles that distinguish what is right from wrong, and in an Islamic context, the Qur’anic term khuluq is closest to it. Also, some other terms referenced from Qur’an describing the concept of good are khayr (goodness), birr (rightousness), qist (equity), and ‘adl (equilibrium and justice).

Source: Shikoh, Rafi-Uddin. “Islamic Business Ethics: Book Review.” Dinar Standard. 15 May 2005. 22 Jan. 2006 [http://www.dinarstandard.com/management/EthicsBookReview051505.htm].

 

Conditions for a Valid Contract

Scholars describe a valid contract as a contract that is sound in both is pillars and characterists. That means, it does not contain anything that is prohibited by Shari’ah.

An invalid contract, thus, would be one which is not sound in either its pillars or its characteristics, or both. According to the Hanafi scholars there is a this type, a corrupt contract, that is sound in its pillars but not in its characteristics. We will currently ignore the corrupt contract.

Kharofa divides the conditions as below:

Conditions of Confirmation (en’eqad)

• The existence of two contracting parties;
• The format and the subject; and
• Particular conditions for certain contracts to be valid (e.g., presence of two witnesses in a marriage contact without which the contract is nugatory).

Conditions of Execution (nafath)

• The contractor should be in possession of the subject, or at least should be able to hand it over if it is not in his possession; and
• There should be no claim from other parties to the subject of the contract.

Conditions of Obligation (lozum)

• The contract should not contain an element of choice or option; and
• The subject matter of the contract should be free from defects (that are not disclosed to the contacting party).

Conditions of Correctness (Sehah)

• The contract must have met each of the three pillars.

Source: Kharofa, Ala’ Eddin. Transactions in Islamic Law. 2nd ed. Kuala Lumpur: A.S. Noordeen, 2000. 28-30.

 

What is Zakat?

According to Al-Shawkani:

“Linguistically, Zakat means growth; one says Zaka az-Zar meaning the plant grew up. It can also mean ‘purification.’ In Shari’ah, it implies both meanings. The first meaning is construed as to cause growth in wealth, or as to cause more reward or as to pertain to increasing wealth, such as is the case in commerce and agriculture. This first meaning is supported by the Tradition. ‘No wealth decreases because of Sadaqat (Zakat);’ owing to the fact that its reward is multiple. There is also the Tradition: ‘God increases the reward of Sadaqat.’ The second meaning is construed to imply that Zakat purifies the human soul from the vice of avarice as well as sins.”

For the production to grow without check in an economy, the funds must circulate. In the modern economy hoarding of funds is a prime reason for the slow downs in the economy as people save more and spend less, resulting in businesses losing sales and having to layoff employees (those employees then can’t spend as much once laid off, resulting in further slow downs in the economy).

Zakat ensures that wealth is distributed and circulated in the system, resulting in an ever-growing economy.

We will further discuss the various functions of Zakat in the economy as well as the role it plays in shaping consumer behaviour in later posts.

Source: Abu Saud, Mahmud. “Money, Interest and Qirad.” Studies in Islamic Economics. Ed. Khurshid Ahmad. Leicester: The Islamic Foundation, 1980. 79.

 

Subject of a Contract

The subject of a contract in law is defined as the element which the party that owes money commits to do. The subject could be performance of an action, refraining from the performance of an action or a transfer of the right to some property.

Source: Kharofa, Ala’ Eddin. Transactions in Islamic Law. 2nd ed. Kuala Lumpur: A.S. Noordeen, 2000. 22.