Here are a few thoughts to control confusion about Islamic finance.
1. Riba = Banking or bank-like activities
2. Bank IS NOT business. Venture capital (Mudarabah), Partnerships (Musharkah), Buy low, sell high (Murabahah), Lease (Ijarah), Lease with option to buy (Ijarah Muntohia Bitamleek), etc. are not merely instruments, but they are fully developed business models all around the world.
3. We just cannot control the "time value of money" because of the fiat money = paper money = money from thin air. The solution is NOT to institute interest. The solution MAY BE to attach money with a commodity at the inception of the loan. If the commodity moves in price the loan amount changes. The longest verse in the Qur'an is related to dealings. Whether an amount is small or large, write it down. The weaker party dictates the terms.
2:278 to 2:280 have excluded riba from transactions then 2:282 tells us that monetary contracts must be written down. Notice that there is no mention of riba exists in 2:282. It is already dealt with.
2:282 O ye who believe! When ye deal with each other, in transactions involving future obligations in a fixed period of time, reduce them to writing Let a scribe write down faithfully as between the parties: let not the scribe refuse to write: as Allah Has taught him, so let him write. Let him who incurs the liability dictate, but let him fear His Lord Allah, and not diminish aught of what he owes. If the party liable is mentally deficient, or weak, or unable himself to dictate, let his guardian dictate faithfully, and get two witnesses, out of your own men, and if there are not two men, then a man and two women, such as ye choose, for witnesses, so that if one of them errs, the other can remind her. The witnesses should not refuse when they are called on (for evidence). Disdain not to reduce to writing (your contract) for a future period, whether it be small or big: it is juster in the sight of Allah, More suitable as evidence, and more convenient to prevent doubts among yourselves but if it be a transaction which ye carry out on the spot among yourselves, there is no blame on you if ye reduce it not to writing. But take witness whenever ye make a commercial contract; and let neither scribe nor witness suffer harm. If ye do (such harm), it would be wickedness in you. So fear Allah. For it is God that teaches you. And Allah is well acquainted with all things.
4. Lending/borrowing CANNOT be commercialized. Loans must be rescheduled if the borrower needs more time. They need to be forgiven if the borrower cannot pay.
2:278 O ye who believe! Fear Allah, and give up what remains of your demand for usury, if ye are indeed believers.
2:279 If ye do it not, Take notice of war from Allah and His Apostle: But if ye turn back, ye shall have your capital sums: Deal not unjustly, and ye shall not be dealt with unjustly.
2:280 If the debtor is in a difficulty, grant him time Till it is easy for him to repay. But if ye remit it by way of charity, that is best for you if ye only knew.
Even if a contract started off as a riba contract, in an Islamic context, it is NULL AND VOID based on 2:278 and 2:279. If a person insists on collecting riba he is at "war from Allah and His Apostle."
5. Riba IS NOT compound interest. Compounding is a special case of riba.
3:130 O ye who believe! Devour not usury, doubled and multiplied; but fear Allah. that ye may (really) prosper.
Truly Interest Free in the United States.
By Liaquat Ali
The purpose of this article is to explore various financing opportunities which individual Muslims in the US and Shariah finance houses around the world could tap into to expand the riba-free
transaction space in the country by providing stable and predictable investment options to investors and flexible and cost-effective funding options to real estate buyers.
Muslims’ understanding of riba, and their attitude toward it, varies greatly. Some believe that it refers to any kind of profit which is made on top of money and it is disallowed regardless of how you
interpret it. Some believe that only excessive interest constitutes riba, and yet others believe that simple profit taking is allowed but compound interest is not allowed.
Then you have the Islamic finance arenas where theological and historical understandings meet conventional financial market instruments. The discussion gets even more nuanced in terms of the
existence and interpretations of maysir (generally understood as gambling or speculation), gharar (generally understood as situations where consequences of transactions are hidden or worse
misrepresented), and of course risk.
Due to the stern denouncement of riba in the Qur’an, the demand for riba-free transactions exists all around the world. In recent years various real estate financing products have hit the US market which claim to provide Islamic financing. Specific details about those products are beyond the scope of this article. However, it is important to note that the liquidity of those products is primarily
provided by Freddie Mac (Federal Home Loan Mortgage Corporation) in the residential space, and by Wall Street “credit lines” in the commercial space.
The underwriting criteria of those Islamic finance outfits are therefore dictated by their respective money sources. Due to such criteria, a large segment of the Muslim population in the US is left
without riba-free transaction options even if they wanted to conduct business with those outfits.
The only way to service this demand is to work with sources of money that, due to reasons of their own, are as eager to create riba-free transactions as those who demand them. These sources of money don’t necessarily need to be of Muslim origin as long as their investment needs are satisfied while creating end-to-end and transparent riba-free transactions.
This author‘s area of expertise is real estate investments and “private money” which he has used for his real estate transactions during the past six years. To him riba-free transactions are simply a
special case application of the private money space. The author defines private money as the source of funds where the owner invests directly. Intermediaries if any have low or no influence on the
transactions. The second requirement for the private money is that the terms are flexible, individually negotiated among principals and are not dictated by institutional indexes or underwriting criteria.
The first large source of “money” is equity in real estate. According to the National Association of REALTORS (NAR), as of February 2009, the size of “owner occupied” residential real estate was $20 trillion, and the size of commercial real estate was $5 trillion. According to census 2000, 33% of all owner-occupied residential real estate in the US was owned “free and clear.” That is, there were no mortgages on those properties.
Due to the real estate boom and bust in the past eight years, the very houses which were “free and clear” may have been financed, and the houses which had mortgages on them may now be “free and clear” due to mortgage pay off or foreclosure. So until Census 2010 is released, we can safely assume that up to $6.6 trillion worth of owner-occupied residential real estate is available “free and clear.”
According to the Federal Reserve, at the end of the third quarter of 2008, the mortgage debt on commercial/multifamily properties was $3.4 trillion. This means that the owner equity in commercial properties is around 32% which is almost the same as the “free and clear” number for owner-occupied residential properties.
Additional drill down into a property's title data, in terms of age of the owner and the length of ownership could reveal potential candidates for “free and clear” residential and commercial properties.
It is safe to assume that older owners would have more equity in their properties, and may entertain alternative financing proposals.
Younger owners who may have mortgages may not be able to make independent decision. According to Census 2000, 33.4% of the US population was 45 years old or older which means that today approximately 33% of the US population is 54 years old or above.
The NAR reported that in 2008 approximately five million existing homes were sold in the US at an average of $198,000 each, for a total of $976 billion. If three hundred and six million Americans bought five million houses then it can be estimated that seven million Muslims bought approximately 114,000 existing homes at $198,000 for $23 billion.
The seven million figure has been estimated by Council on American Islamic Relations (CAIR) and was recently endorsed by President Barak Obama. If Pew Research Center’s 2.35 million number is used then Muslims bought 38,400 homes $7.6 billion.
According to a Shariah finance insider in the US, there have been only $2-$2.5 billion worth of Shariah finance mortgage originations including refinances thus far. This shows that the Shariah finance houses are not penetrating the market due to a variety of reasons, such as, indifference, price sensitivity, theological concerns and distrust of the Shariah finance products.
With the availability of $6.6 trillion in residential equity spread over more than 40 million residential "free and clear" units as per American Planning Association, Muslims can enter into riba-free
transactions with Muslims as well as non-Muslims. These transactions could be carried out by totally by-passing intermediaries that must charge interest, profit or mark-up to sustain their existence.
This eliminates riba from transactions altogether and avoids the whole interpretation exercise of what riba is and what it is not. These transactions would most likely utilize murabaha or ijara contracts, and are limited to older, existing properties.
The second large source of funding is retirement accounts in the US. According to the Pension Research Council of Wharton School, those retirement accounts were estimated to be at $16.4 trillion in the fourth quarter of 2007. However, according to an Associated Press report they shrank to around $8 trillion after the economic downturn.
There are two broad categorizations of these retirement accounts. The “401(k)” is for employees of a corporation and the “IRA” is for self employed people. There are limits to annual contribution to these accounts, and the invested principal and return on investment are either tax deferred or tax free depending on whether the account holder paid tax before contributing to those accounts. The owners of these accounts cannot generally withdraw money from their accounts until they reach the age of 59 ½.
When the US Congress approved the Employee Retirement Income Security Act (ERISA) to create the IRA and 401(k) in 1974, it only prohibited retirement account holders from investing in life insurance and collectibles, such as, painting and rugs.
However, Wall Street firms, where more than 96% of these retirement accounts ended up, restricted investment options to stocks, mutual funds, bonds, etc. Wall Street does offer money market as a money parking option when investors get jittery due to the volatility of the market. However, as soon as the stock market recovers efforts are redoubled to get that money back into speculative financial instruments.
Due to the distrust of Wall Street, many of those retirement account holders have started moving their money elsewhere, such as, Self Direct Individual Retirement Accounts (SDIRA), specialized life
insurance policies, and other investment options. Unlike Wall Street, SDIRA custodians allow the full range of investing options as allowed by the ERISA, that is:
1. Residential real estate, including apartments, single family homes, and duplexes
2. Commercial real estate
3. Undeveloped land
4. Real estate notes (mortgages and deeds of trust)
5. Promissory notes
6. Private limited partnerships, limited liability companies, and C corporations
7. Tax lien certificates
8. Foreign currencies
9. Oil and gas investments
10. Publicly traded stocks, bonds, mutual funds
11. Private stock offerings, private placements
12. Judgments/structured settlements
13. Gold bullion
14. Car loans
15. Factoring investments
16. Accounts receivable
17. Equipment leasing
Even though only 4% of retirement accounts were thought to be managed by non-Wall Street custodians before the recent stock market meltdown, the money exodus out of Wall Street would take hundreds of billions of dollars into SDIRA accounts.
Unlike Wall Street, the SDIRA custodians currently operate strictly as “money holders” and do not provide investment advice. Therefore, there are huge market opportunities for financial houses of all types to provide investment products to these self directed retirement account holders.
At the current per capita income of $48,000 for the US population, seven million Muslims have a cumulative GDP of $336 billion. It is safe to assume that each Muslim has an equivalent of 6 months to one year’s worth of income saved up. That would be around $168 billion to $336 billion. As the general population moves towards SDIRAs, Muslims will move their money there as well.
If the total retirement account value of $8 trillion is proportionally applied to the Muslim population, they have $61 billion in their retirement accounts if Pew’s population estimate is used. They have
$183 billion if CAIR/Obama population estimate is used.
With the rapidly growing SDIRA capital from its current value of $320 billion (4% of $8 trillion), and several billion dollars in Muslim retirement accounts, Shariah finance houses can provide investment
products to Muslim as well as non-Muslim retirement account holders to satisfy their flight-to-safety needs after being burnt by Wall Street’s never-ending maysir (speculation) and gharar (uncertainty.)
Shariah compliant contracts among Muslims and non-Muslims can be created for real estate and other investment products; as allowed by the ERISA. The state and federal securities laws, corporate
structuring and the US legal system provide individuals and institutions with the ability to craft and enforce such contracts.
This will resolve the thorny issue of the availability of “willing and stable” sources of funding which prevented organic Shariah compliant financing products to take root in the US in the past.
Liaquat Ali is the founder of http://www.TrulyInterestFree.com and can be reached at lee [at] trulyinterestfree [dot] com or 203-953-6490.