2019

Is "Islamic Banking" Islamic? Analysis of

Current Debate on Sharl'ah Legitimacy of
Islam
Analysis of Current Debate on Sharl'ah
Legitimacy of Islam

Submitted to: Sir Yasir Zeerak

Submitted by: Huma Maqbool
Reg# 04091513002

Islamic banking and Finance

 Contents
Is "Islamic Banking" Islamic? Analysis of Current Debate on Sharl'ah Legitimacy of Islam ............................... 3
Introduction ......................................................................................................................................................... 3
Hiyal in Modern Islamic Finance ........................................................................................................................ 3
Treatment of Hiyal in Islamic Law Schools........................................................................................................ 3
Hanafī approach in Hiyal .................................................................................................................................... 3
Mālikī Approach in treatment of Hiyal ............................................................................................................... 4
Hanbalī Approach ............................................................................................................................................... 4
Use of Hiyal in Islamic Banks............................................................................................................................. 4
Unlawful Hiyal in Islamic Finance ..................................................................................................................... 4
Bay' al-'īnah, Tawarruq ....................................................................................................................................... 4
Sale and Lease-back Sukūk ................................................................................................................................. 5
Hiyal as Makhārij in Islamic Finance ................................................................................................................. 5
Case studies ............................................................................................................................................................. 5
Case No. 1: Penalty for Default in Islamic Banks............................................................................................... 5
Case No. 2: Islamic Solution to Discounting ...................................................................................................... 5
Case No. 3: Hedging against Fluctuation in Value of Currency ......................................................................... 5
Case No. 4: Fresh Murābahah Facility ................................................................................................................ 6
Financial Engineering through Talfiq ................................................................................................................. 6
Revisiting the Debate on Talfiq .......................................................................................................................... 6
Talfiq in Modern Islamic Jurisprudence ............................................................................................................. 6
Section 3: Sharī'ah Position of Fixed Return Modes .......................................................................................... 6
Risk Element in Murābahah and Ijārah ............................................................................................................... 6
Mushãrakah as real Islamic alternative? ............................................................................................................. 7
Conclusion........................................................................................................................................................... 7
Is "Islamic Banking" Islamic? Analysis of Current Debate on Sharl'ah Legitimacy of
Islam
Introduction
A number of religious scholars think that practises of Islamic Banking are un-Islamic. We are using illusionary
instruments and they are not pure Islamic alternatives against conventional banking. Scholars says that Islamic
banking prefer borrowing according to their interest, they use fixed return policy thats not totally Islamic. Tools
of Musharkah and Mudharbah are just alternatives for conventional banking. The islamic banking system is
ignoring the true soul of Shariah due to which its losing its true merit.

Hiyal in Modern Islamic Finance

Before hiyal, it is important to explain hilah (singular of hiyal). Technically, it is described as use of legal
means for extra legal entities that could not be achieved directly as legal or illegal through Shariah.so Hiyal
basically is the way to arrive judicial results.

Hilah is generally used in two ways. First as a solution to problems by using law in a legitimate way. Hanfi and
Hanbali call it as outlets rather than Hilahs.in this we can consider exchange of superior with inferior dates.
Second as a device to avoid Shariah prohibitions or to evade obligations; that is unlawful. It includes selling a
property on credit basis and then buy it back on less price. Repurchasing or buyback are considered invalid.

Hilah affected on debt is considered as ribah and is invalid. For example in mortgaging a house with creditor
and alowing him to stay in it or by selling a good to debtor at a very high price and then lending money to
creditor and giving him the property at a price more than market price on lease.

Treatment of Hiyal in Islamic Law Schools

Different school of thoughts fall across the spectrum while viewing validity of Hiyal. Hanfis and Shafi’is school
of thought consider it valid. Shafi’is even consider buy back agreement as valid as they say that it is the external
form of contract that matters not the underlying intention of contract. Hanfis permit intervening marriages for
the remarriage of the divorced couple. They also allow bay’ bil wafa or repurchase agreement. On the other
side, Hanbali just allow those devices that provides a way out of tough situation. Mliki jurists condemn hiyal
and consider them invalid (called as Sadd al-dhara’i).

Hanafī approach in Hiyal

Hanafis has been flexible on hiyal. Majority of them consider it lawful, only some of them disapproves it due to
absence of comprehension in Sunnah and Quran. While in some cases the boundaries of lawful and unlawful
hiyal are being blurred. For example Ibn Abidin has said that debtor can extend time limit of loan if he charges
more of it that clearly leads to riba.

These jurists have also allowed Bay bil Wafa where the buyer has to sell the seller the commodity back at the
surrender of price and this ike bay, al-inah, leads to riba. Islamic injuctions clearly says that creditor cant earn
profit from pledged property and if he do then it comes under the category of riba.The Muslim Jurists considers
bay bil wafa as a mortgage.
Mālikī Approach in treatment of Hiyal
Malikis are so strict and condemn hiyal strongly and consider it as invalid. Even they do not consider the lawful
ends that will lead to an evil mean. Malikis call it Sadd al-dhara’i that has gains but it leads to evil that is
equivalent to its benefits. They also say that it is not necessary that dhara’i will always leads to illegal motives
but it just contemplates to avoid an evil before it happens.

For bay’ bil wafa they have said it as a tricky instrument to avoid the prohibition of gaining from mortgage
property and like hilah it also impure the true spirit of Islamic law so it should be condemned.

Hanbalī Approach
They have differentiated between hilah (Makharij) and the one that evades Shariah. Hiyal was legal and valid
for them. Ibn Qudamah has said that permissible Hilah is for overcoming the difficulties in law. Ibn e Qyyim
regards hiyal as inconsistent with Shariah and he does not allow a Mufti to use itin legal reasoning.he has cited
a Hadith in which Prophet (S.A.W.S) has cursed jews to use a modified form of already prohibited animal. Ibn
e Qayyim took hiyal as the same thing. He has instructed that in case the buyer apprehends that orderer will
refuse to buy then he should stipulate in the purchase contract. As such this solution is more in nature of
precautionary device than in illegal hilah. Hanbali has treated hiyal in the sense of makharij.

Use of Hiyal in Islamic Banks

Statebanks have introduced 12 mode of financing including stratagams and hiyal but with the passage of time,
its ratio has decreased. At present most of hiyal are in the form of makharij. While there are unlawful devices in
practise too even in Islamic finance that have terribly affected Islamic finance.

Unlawful Hiyal in Islamic Finance

It includes those instruments that breaches Shariah teachings. These devices includes bay' al-'Inah , tawarruq
and Commodity Murābahah transaction. Lease back and sale of sukuk also fall here partially.

Bay' al-'īnah, Tawarruq

It is among one of the 12 modes of financing.n 1992 they were taken as void so their use was ruled out except
for Islamic Bank of Malaysia that still practises it under jurisdiction of Shafi’is.

Tawarruq is the transaction to obtain wariq (silver or money), here the buyer buys a commodity on credit and
then sell it at price kess than its market value to obtain cash. A number of Muslim jurists consider it invalid.
Maliki school consider it invalid. In Hanfis, Zayla’i consider it as bay’ al-inah and dont allow it but Ibn
Humam considers it valid but less preferable. Shafi’is by considering the external form of tawarruq permits its
use. Likewise Hanbali school allow the use of tawarruq while Imam Ibn Taymiyyah and Imam Ibn al-Qayyim
do not agree with their own Hanbali school and they have defined certain conditions for validity that includes:
real need of transaction, the form of contract shoud not be similar to that of Riba, commodity cant be sold by
buyer before taking it in possession, commodity must not be sold to the same seller. Now a days banks sell
goods on credit to customer at igh price and then on behalf of customer they sell the sae good in market to get
cash for their customer. In case of Hong Kong Shinghai Bank, they are using metal as a commodity to sell and
get money. Critics say that by tawarruq people are getting less cash today at the cost of more to be paid
tomorrow, absence of third party that is usually just portrayed, it is a masked buy back contract, lack of
involvement in risk, when metal is sed as subject matter then in real it is not moving in tawarruq sales for real.
Sale and Lease-back Sukūk
Sukūk is basically share in ownership of an asset or usufruct and they are issued against an asset. There are
different types of Sukūk including Ijārah Sukūk , Salam, Sukūk, Mudãrabah Sukūk, Mushārakah Sukūk etc. In
Ijārah Sukūk there are three players including beneficiary that sells asset to issuer, issuer pays the beneficiary or
originator back and it pays rental to the investor or the one who buys it.

Example of WAPDA can be considered as they needed expenses and they issued sukuk for the turbines running
in Mangla tat were leased back to WAPDA and they promised to buy it back after seven years at face value.
Critics say that it is buy back agreement as the person in need sale asset and buy it back at face value when his
condition gets better, it is not valid as the asset is bound to sell back to first seller.Other controversial
specifications that should be addressed to make Sukuk compliant are that risk and ownership are not
transferred, asset has binding to be transferred to issuer.

Hiyal as Makhārij in Islamic Finance

Above cited were legal devices to achieve valid means in clever manner. Some examples can support this
argument.
Case studies
Case No. 1: Penalty for Default in Islamic Banks
In Ijarah or Mudharbah the prices once get fixed then it wont be changed but there are some people that delays
payment deliberately for whom even in Hadith there are orders of punishment but if a person in poor even in
reality then Allah says that he should be given time to pay the money back. Now the question arises that how to
make people avoid delayed payments?Islamic banks cant charge more price otherwise it would be counted as
Riba. Afterwards it was said that Penalty can be charged if the contract is not of debt like in salam/ istisna.

In Bahrain, Accounting and Auditing organization of Islamic Financial Institutions (AAOIFI) made a penalty
on automatic default. For instance it should be written in contract that if the customer is unable to pay at time
then he has to pay a certain percentage of additional money that will be routed to charitable organization. Maliki
jurist say that this amount cannot be used by banks as their benefit otherwise it will be counted as riba. State
Bank Of Pakistan has also favored this solution.

Case No. 2: Islamic Solution to Discounting

In conventional banks, institues discount a trade bill and pays the amount to client that is less than its face value
if he demands it before the time of maturity and keeps additional money with them and this is a form of riba.

Islamic bank on contrary give Qard e Hasan upto value of bill and then charges a fee against playing a role of
agent in collecting the bill and this process is compliant with the rules of Shariah.

Case No. 3: Hedging against Fluctuation in Value of Currency

In conventional banks, hedging against fluctuation in value of currency is affected through foreword and future
currency contracts in which both the counter-values are postponed to a future while Islamic Law needs both
counter values to be exchanged in same session.

In Islamic banking unilateral promises can even effect hedging. It can be done in various ways like by
requesting a bankfor forward promise for sale or purchase of foreign currency that is then issued by the bank,
customer signs it and actual transaction is done on maturity date where counter values are then exchanged.
Case No. 4: Fresh Murābahah Facility
It is one of the alternative of dicounting with respect to Shariah in which Islamic Bank holds a bill as security
and fresh murabaha facility is extended to customer where he has to pay cost price and profit portion, on
maturity date the bill is collected and this amount is used for settlement of amount to be paid by Murabaha
facility.

Financial Engineering through Talfiq

Talfiq is borrowing between different schools to reach desired motives and that is the major objection by
scholars. Islamic banks use Talfiq and Takhyir (eclecticism) in rulings. For instance in Murabahah, client is
bound to buy the requested goods from bank when they get it from market. If he customer acts as the agent of
bank in Murabahah goods is not bound to disclose agency to the one who supplies. The Arbun or down payment
is permissible in Hanbali school of thought while other three rejects its use as legal instrument.

Revisiting the Debate on Talfiq

Some modern Shariah Scholars has allowed recourse to talfiq by saying that there is a compelling need for talfiq
and deviation from original to any other school, the view has served best in welfare, lack of violation of already
existing Ijma. Whereas some considers talfiq as undesirable; consider an example that a person is selling a
house without considering the consent of neighbour (Shuf’ah) is valid in Maliki but if he considers the claim of
Shuf’ah then he is following Hanafi jurists that considers it valid. So here talfiq is followed just for our own
desire.

Talfiq in Modern Islamic Jurisprudence

In modern Islamic jurisprudence talfiq and takhyir are observable. First version of talfiq is that if your school
lacks teching regarding a particular subject then one can borrow it from anyother school. Examples of talfiq and
takhyir includes family law in Muslim countries.

Second version says to disregard the division between school and opt for best option regardless of the school
from which it is.

The fuqaha has allowed departure from general rule for the sake of necessity (hajah). Law has considered hajah
as cause of granting concession.

Section 3: Sharī'ah Position of Fixed Return Modes

Critics says that Islamic instruments like Murabahah and Ijarah which gives fixed returns in the form of profit
and rentals respectively and bank is not sharing its loss with customer that is against Shariah. Although
Musharakah, Mudarabah, Ijarah are best mode of financing but if they are equated with interest based (fixed
rate modes) then they will be rejected.

Risk Element in Murābahah and Ijārah

Though it is fixed return mode, but they associate risks with them that makes it different from interest based
financing. In Murabahah, if the possession is not transferred to client then any loss in commodity is bore by
bank.

Similarly in Ijarah, bank bears ownership related to risks and liability in maintenance of leased asset, bank will
also aid in case of destruction of an asset. Islamic bank acts as a managing partner in both of the cases.
Mushãrakah as real Islamic alternative?
We say that mushãrakah and mudãrabah can be worked in purely honest and fair environment. It cant work
perfectly in dishonest environment and even Quran has quoted dishonesty to occur between partners. Prophet
(S.A.W.S) has quoted that Allah is with two partners unless they defraud each other.

It is further noted that trade financing constituted up to 90 percent of total financing of Islamic banking
worldwide. Data has shown that mudharabah and musharakah modes financing have declined over past.

Conclusion
Islamic banking condemns interest based financing and it deals with asset based banking. We have also noticed
that Islamic banking acknowledges the prohibitions of Shariah teachings and acts in accordance to Islamic law.
Tawarruq and sale and lease back Sukuk are cases where economic activity is compromised. For the
maintenance of Islamic identity our Islamic banks needs to be more focussed on maqasid e Shariah rather than
the contract mechanics in order to make the system more progressive.