Prohibitions in Islamic Finance

1. Riba (Interest)

Riba refers to the charging of interest on loans, where the lender demands a greater return than the amount originally lent, without any additional productive effort or risk. It is strictly prohibited in Islam because it is seen as exploitative and unjust.

Conditions:

  • Guaranteed Return: Riba occurs when there is a guaranteed return on money lent. This return is not linked to any actual productive work or risk.
  • Excessive Profit: Any fixed amount of profit that is guaranteed over and above the loaned amount is considered riba.

Types of Riba

Islamic law categorizes Riba into two main types: Riba al-Fadl and Riba al-Nasi’ah.

1.1 Riba al-Fadl (Riba of Excess)

Riba al-Fadl occurs when there is an unequal exchange of goods that are of the same type but have a different quantity or quality. The unequal exchange is considered unjust, as it involves one party taking more than what is fair without any legitimate reason. This kind of riba usually involves commodities that are measured or weighed, like gold, silver, wheat, barley, dates, etc.

The Prophet Muhammad (PBUH) said:
“Gold for gold, silver for silver, wheat for wheat, barley for barley, dates for dates, and salt for salt, like for like, equal for equal, and hand to hand. If these types differ, then sell as you wish, provided the exchange is hand to hand.” (Sahih Muslim 1584)

Condition:

  1. Same Type, Different Quantities: If two parties exchange goods of the same type (e.g., dates for dates, gold for gold), but one party receives more than the other, this creates a form of riba.
  2. Unfair Gain: The difference in the quantity or quality must be due to an unjust gain (e.g., 1 kg of gold for 1.1 kg of gold), and it’s not permissible unless there is a justified reason.

Examples:

  • If two types of dates (e.g., high quality vs. low quality) are exchanged with unequal quantities, this would be riba.
  • If two people exchange 1 kg of gold for 1.5 kg of gold, the extra 0.5 kg would be considered riba.
  • If you exchange 1 kg of gold for 1.5 kg of iron, there is no riba here because gold and iron are different commodities.

1.2 Riba al-Nasi’ah (Riba of Delay)

Riba al-Nasi’ah occurs when there is a delay in the payment or delivery of goods, typically in a loan agreement where the borrower is required to pay more than the original sum as compensation for the delay in repayment. This is the more common form of riba that involves interest-bearing loans.

Allah says in the Qur’an:
“Those who consume usury will not stand except as stand one whom the Devil has driven to madness by (his) touch. That is because they say: ‘Trade is just like usury,’ but Allah has permitted trade and forbidden usury…” (Quran 2:275)

The Prophet Muhammad (PBUH) said:
“The one who consumes riba, the one who gives it, the one who writes it, and the two who witness it are all the same. They are all alike in sin.” (Sahih Muslim 1598)

Condition:

  1. Time-Based Increase: If the borrower is required to repay the loan after a certain time, but with an additional amount added (interest) to compensate the lender for the delayed repayment, this constitutes riba.
  2. Interest on Loan: This form of riba is what most modern financial transactions with interest rates involve, where the borrower pays more than the principal amount due to the delayed payment.

Examples:

Non-Riba al-Nasi’ah: A loan where the borrower agrees to return the same amount borrowed after a set time (e.g., borrowing $100 and paying $100 back after a certain period) is not riba.

A loan where you lend $100 to someone, and they agree to repay you $120 after a certain time, would involve riba because the additional $20 is an interest-based increase.

2. Gharar (Uncertainty)

Gharar refers to excessive uncertainty or ambiguity in transactions, especially in the terms of a contract or the subject matter of a deal. For instance, buying something without knowing its price or condition, or selling goods you do not own, are examples of gharar. A common example in daily life could be buying a product online where you are not sure about the quality or delivery, making the transaction uncertain. Another example is investing in financial markets where the risks are unclear, such as trading stocks without knowing their real value or future performance.

The Prophet Muhammad (PBUH) prohibited transactions involving excessive uncertainty. For example, he forbade the sale of fish that had not yet been caught, as it involved uncertainty about the availability and quality of the fish. He said: “Do not sell fish that you do not have.”

The Quran also warns against uncertainty in trade:
“O you who have believed, do not consume one another’s wealth unjustly or send it [in bribery] to the rulers in order that [they might aid] you [to] consume a portion of the wealth of the people in wrongdoing.” (Surah Al-Baqarah 2:188)

3. Qimar (Gambling)

Qimar, or gambling, is another prohibited practice in Islam. Gambling involves risking money or valuables for a potential gain, often based on chance, which can lead to financial harm or loss. For example, spending money on lottery tickets or betting on games is considered qimar. This type of behaviour encourages greed and the loss of wealth without any productive work. Additionally, betting on sports events or playing games like poker for money is also considered gambling.

The Prophet Muhammad (PBUH) prohibited gambling in all its forms. He said: “Whoever says to his companion, ‘Come, let us gamble,’ should give charity.”

Additionally, during the time of the Prophet, there was a practice known as “maysir,” which involved betting on the outcome of a race or competition. The Prophet (PBUH) prohibited such practices, emphasizing that wealth should be earned through lawful means and not through chance.

The Quran clearly condemns gambling:
“O you who have believed, indeed, intoxicants, gambling, [sacrificing on] stone alters [to other than Allah], and divining arrows are but defilement from the work of Satan, so avoid it that you may be successful.” (Surah Al-Ma’idah 5:90)

4. Fraud and Deception

Fraud and deception are prohibited in Islam because they cause harm and injustice to others. For example, selling a defective product without informing the buyer, or misleading someone about the quality of a product, is considered fraudulent. In daily life, this can include hiding the truth about a car’s condition before selling it or inflating the price of a product unfairly. Another example of fraud is when someone takes advantage of another person’s lack of knowledge, like selling fake or substandard goods at a high price.

The Prophet Muhammad (PBUH) emphasized honesty and integrity in trade. He said: “Whoever cheats us is not one of us.”

An example from the life of the Prophet (PBUH) involves a companion who was selling dates. The Prophet (PBUH) noticed that the dates on the top of the pile were of superior quality, but the ones underneath were of inferior quality. He advised the seller to mix the good and bad dates together to ensure fairness to the buyers.
The Quran also highlights the importance of honesty in trade:
“And do not mix the truth with falsehood or conceal the truth while you know [it].” (Surah Al-Baqarah 2:42)

5. Combination of Contracts

The combination of contracts occurs when two or more contracts are linked in a way that one contract depends on the other, leading to a form of exploitation. For example, combining a sale contract with a loan agreement in a way that results in interest charges is prohibited. This practice can be seen in daily life when a person is forced to buy an item along with a service that includes hidden costs, such as a car dealer requiring you to take an insurance plan along with the car purchase. Another example could be buying a home where the price includes an additional charge for services, even though the buyer never agreed to them.

The Prophet Muhammad (PBUH) prohibited combining two sales in one transaction if it led to injustice or exploitation. He said: “If anyone makes two transactions combined in one bargain, he should have the lesser of the two or it will involve usury.”

For example, during the time of the Prophet (PBUH), a companion named Abu Huraira engaged in a transaction where he combined the sale of a camel with a loan agreement. The Prophet (PBUH) advised against such combinations, as they could lead to unfair advantages and exploitation.

The Prophet Muhammad (PBUH) prohibited combining contracts that lead to injustice or harm, saying:
“Do not combine two sales in one sale.” (Sunan Abu Dawood)
In the Quran, it is emphasized that contracts should be clear and fair:
“O you who have believed, when you contract a debt for a specified term, write it down. And let a scribe write it between you in justice.” (Surah Al-Baqarah 2:282)