Sharia-compliant banking and financial services are based on Islamic law, which defines how money is to be used between people. The understanding of the nature of money and the way it can be used underlies the principles of Islamic banking and financial practices across the world.
There are several principles that inform Islamic financial practices that are different from traditional Western ways of understanding. The first is that there is no separation of church and state. Secular and religious life is one, and there are not different rules for how to engage in the world between the two states. The second difference is how money is viewed. Money is seen as a tool used to measure value. It is not seen as having intrinsic value itself. As a tool or measurement of value in something tangible, money cannot be used to add value, or make more money.
Riba, which refers to usury, or this practice of using money to make money, is prohibited. Following this law to the letter means that capital for business, investment, and large purchases such as mortgages, needs to proceed along different lines. Interest on a loan is considered riba.
Islamic banking is a for-profit model, with the profit prescribed for the socio-economic goals of the Islamic world. Raising capital requires a risk-sharing model, in which both the borrower and the lender share the element of success or failure of the venture. For investing in the modern world, restrictions include investing in companies that manufacture or sell weapons, pornography, or alcohol, or support gambling or other risk-heavy ventures.
Mortgages and home-ownership is done under a lease-to-own model, in which the new homeowner and a lending institution contract together to purchase a home. The contract allows the homeowner to ‘rent’ the lending company’s part of the house, and pay off what is owed over the course of the mortgage. It’s commonly called a declining-balance shared equity. This way there is no loan interest paid, and both the new homeowner and the company share risk. A similar model can be used to raise funds for business start-up or expansion.
Several retirement investment options exist which are sharia-compliant; they do not depend on interest income, which is forbidden, but on tangible holdings such as real-estate.
Sharia-compliant financial institutions and assets are growing rapidly–estimated by The Economist at 19% growth annually until 2018, with global assets estimated at $2 trillion. As the industry grows, and the relatively large unbanked population in Asia needs financial services, global standards for Islamic finance are emerging. Sharia-compliant financial services may be services that are understood and accepted by this underserved population.
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