Legal Aspects of Islamic Banking & Sharia compliant Investments

Legal Aspects of Islamic Banking & Sharia compliant Investments Dr. Thomas Wülfing Senior Partner WZR-Group WZR-Group Lehmweg 17 20251 Hamburg Tel: +49 40 480 63-0 Fax: +49 40 480 63-94 Hamburg-Köln-Berlin-München-Rostock-Schwerin-Sao Paulo Kooperationsbüros: Dubai, Abu Dhabi, Teheran, Lissabon, Madrid, Istanbul, Breslau, Wien Diese Publikation dient lediglich als allgemeine Information zu dem Thema und ersetzt keine Rechtsberatung. Eine Gewährleistung für die Aktualität der darin enthaltenen Informationen wird nicht übernommen. Für weitere Informationen bezüglich dieses Themas stehen wir Ihnen zur Verfügung oder beraten Sie individuell. Contents I. Introduction 3 II. Basic prohibitions 5 1. Riba 5 2. Gharar 8 3. Maysir und Qimar 9 4. Haram – social and ethic conditions 10 III. Development and certification of Sharia compliant financial products 11 IV. Islamic Banking 12 1. Financing 12 a) Based on borrowed capital 13 1) Murabaha 13 2) Tawarruq 14 3) Bay Salam 15 4) Istisna 15 b) Based on equity 15 1) Mudaraba 15 2) Musharaka 16 c) Ijara – capital lease 16 2. Bank accounts and cards 17 a) Checking accounts 17 b) Savings accounts 17 c) Debit cards 18 d) Islamic credit cards 18 V. Sharia compliant Investments 18 1. Sukuk – Islamic Bonds 18 a) Sukuk-al-Ijara 19 b) Sukuk-al-Musharaka 19 2. Stocks 20 3. Islamic Funds 21 VI. Islamic Insurance – Takaful 22 VII. Islamic Finance in times of global economic crisis 23 © WZR Legal Aspects of Islamic Banking and Sharia compliant Investments 2 Dr. Thomas Wülfing I. Introduction In the development of financial products and financial transactions Islamic financial institutions are prior to the special challenge of bringing them into line with the religious rules of Islam. In the development of Sharia compliant financial products are strict prohibitions and essential principles to note that in the first part of this contribution will be highlighted and explained. In the second part already developed techniques for Islamic financial services are presented and analyzed in terms of Shariah compliance. To understand the backgrounds of the various prohibitions and principles a brief overview of Islamic law is given. Sharia and Fiqh The Islamic Law has two main sources: the Koran, which is the Holy Scripture of the Islam, on which all general and common behavioural norms are based and it determines the entire legal systems of all Muslims. The second source is the Sunna, which contains all passed on messages and conducts of the prophet Mohammed. The total of all religious, moral, social and legal norms contained in the Koran and the Sunna compose the Islamic Legal System, which is called Sharia. The Islamic jurisprudence, the so-called fiqh, has derived from that quite a number of commercial regulations throughout the centuries. Their diversity and contrariness influences the room for interpretation of the Islamic Financial System until today. In case an answer to a legal question can neither be found in the Koran nor in the Sunna, it is tried to reach a legally effective consensus (Ijma) between Muslim jurist. There are four big law schools, which often have different opinions. According to the Sharia every Muslim has a social responsibility towards his fellow men. Other people may not be exploited or wilfully be disadvantaged. Fraternalism and well-being are important parts of the Islamic System. This social responsibility can be found, as you might imagine, in the Islamic Financial System as well. Therefore it is the goal of the Islamic Financial System to carry out all kinds of financial transactions in accordance with the rules of the Islam. Sharia compliant action signifies to design financing, insurances and investments strictly according to rules of religion. For financial service providers this means quite a challenge, which we are going to see during this lecture. Development and significance of Islamic Finance Before I begin to explain the respective legal requirements for Sharia compliant financial services, I would like to describe the development and significance of Islamic Finance. Even though some Islamic financing techniques and instruments were applied already in the times of the prophet Mohammed and are older than 1400 years, a serious and intensive examination only takes place since the 1960’s. A reason for this late examination was the western colonial powers, which colonized the main part of the Muslim world during the 18th, 19th and beginning of the 20th century. The colonial powers established western and conventional commercial and financial systems. The consequence was that the local elites had to adapt to this system and the main part of the population completely abstained from the conventional financial services. After the end of the colonial rule in the Muslim countries, of which Algeria was the last one to gain independency in 1963, followed first slight attempts of an economic reorientation towards an increased consideration of © WZR Legal Aspects of Islamic Banking and Sharia compliant Investments 3 Dr. Thomas Wülfing religious, Islamic components. Economists and Sharia erudite worked intensively on the topic and developed models of an Islamic economic system. The first significant realization of an Islamic financial conception occurred in the Egyptian Mit Ghamr with the formation of an only interest-free bank. The founder Ahmed Al-Najjar, who had been educated in Germany, had been inspired by the German savings banking and surprisingly primarily German banks supported him financially. Within a short period of time the bank had 250.000 clients and deposits of more than two million Egyptian pounds. However, the project failed in 1967 and the reason of failure is still argued about today. One opinion is that the bank got into financial difficulties. The other opinion, which is often called the conspiracy theory, affirms that the bank was closed for political reasons because it was too successful – on one side because of a certain fear that the Islamic fundamentalism might spread and on the other hand because of the doubt how such institutions could be controlled. As a consequence of the advancement of the theoretical basics of the Islamic Financial System the Dubai Islamic Bank was founded in 1975. It is the first economically successful Islamic bank, which still exists today and is one of the leading Islamic banks throughout the world. Another important factor for the spreading of Islamic banks is the Islamic Development Bank (IDB), which was also founded in 1975. It is a supranational bank, which shall support the development of the poor countries in the Arabic world and shall provide them with advice for the constitution of Islamic financial institutions. The scientific examination of the topic Islamic Finance intensified in the 1980’s and 1990’s and the number of academic and commercial conferences and publications increased rapidly.