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So after a conversation with a fellow GP registrar the other day, we got onto the subject of Islamic savings. I have to say, I had never heard of this concept. I hadn’t realised that under Sharia Law, the principle of paying or charging interest is not allowed. This means that the way I teach others how to save and invest is prohibitive to people who follow Sharia (or Shariah) Law, and I was shocked! This is the problem with personal bias – you can only really look at a problem from your own perspective and education. It takes others to highlight the differences.
So today I thought I would write about what I have learnt regarding Islamic saving and investing. Some of the investing principles that I will be discussing may appeal to you even you do not follow Sharia Law, because they have some overlap with ethical investing too.
What Is Sharia Law
According to the BBC, Sharia Law:
“comes from a combination of sources including the Qur’an (the Muslim holy book), the Hadith (sayings and conduct of the prophet Muhammad) and Fatwas (the rulings of Islamic scholars)”
The article goes further to say that “Sharia Law regulates all human actions and puts them into five categories: obligatory, recommended, permitted, disliked or forbidden.”
Obligatory actions must be performed and when performed with good intentions, they are rewarded. Logically, the opposite are forbidden actions.
Recommended actions are those which should be done and the opposite is disliked action. Permitted actions are neither encouraged nor discouraged. Most human actions fall in this last category.
Sharia Law therefore encompasses every aspect of a person’s life. Money management is no exception, and there are specific differences from the way that we manage money in the West.
So How Is Money Management Different?
A Guardian Q&A article states that:
“Central to Islamic finance is the fact that money itself has no intrinsic value, it is simply a medium of exchange. Each unit is 100% equal in value to another unit of the same denomination and you are not allowed to make a profit by exchanging cash with another person. A Muslim is not allowed to benefit from lending money or receiving money from someone. This means that earning interest (riba) is not allowed. To comply with these rules, interest is not paid on Islamic savings or current accounts or applied to Islamic mortgages.”
In western societies, banks make money by:
- Charging us interest on borrowing money (credit/loans/mortgages etc)
- using our savings to invest on the stock market (which we also benefit from but receiving an interest rate on our savings)
The stock market is comprised of many different types of industries, including tobacco and alcohol. Many investment funds will include companies that deal in tobacco and alcohol because they are stable, profitable companies to have shares in.
While this is an accepted norm in the west, to Muslims who follow Sharia Law, this is absolutely not allowed. Nor is investing in any company that has dealings with armaments, gambling, pork, pornography or drugs.
This then poses the problem – how do people who follow Sharia Law build savings or invest their money without earning interest or investing in companies that are strictly not allowed?
How The Problem Is Overcome
There are banks available that practice in alignment with Sharia Law. The way that they deal with this is by investing only in companies that are approved. They provide a profit rate, not an interest rate. This profit rate may or may not be achieved, and any losses are shared between the individual and the bank.
In the UK, our savings must increase by the interest rate that we are quoted (whether or not the money has achieved this on the stock market), but in Sharia Law, this is not allowed. An individual must choose to accept potential losses to be compliant with Sharia Law.
Banks can still profit though.
Let’s take the example of buying a house. In traditional western scenarios, an individual will purchase a house with a mortgage. This is borrowed money that the bank has lent, and in return for this, they charge interest to make money.
In Sharia Law this is not allowed, so to get around this, a bank and an individual have two options:
- agree a price to pay for the house which is higher than the sale price. The difference is the reward to the bank for taking on the risk (Murabaha scheme)
- the bank buys the property at the asking price and rents the property back to the individual (Ijara scheme)
How do Islamic Investments Work?
I had a look through what Investopedia had on the subject, specifically to look at what people can invest in to remain compliant with the Law.
Here are some permissible types of investments for Islamic investing:
Equities
Sharia law allows investment in company shares as long as those companies do not engage in lending, gambling or the production of alcohol, tobacco, weaponry or pornography. Investment in companies may be in shares or by direct investment. The companies that allowed also have to carry as little debt as possible, and further calculations are applied to ensure the right ones are picked.
Fixed-income funds
- Retirement investments. Retirees who want their investments to comply with the tenets of Islam face a dilemma in that fixed-income investments include riba (interest), which is forbidden. Therefore, specific types of investment in property, either directly or in a diversified property fund, could provide steady retirement income while ensuring compliance with Sharia law.
- Bond Certificates. Issuers of bonds will sell the financial certificates to an investor group who will own them before renting them back to the issuer in exchange for a predetermined rental return. The issuer makes a binding promise to buy back the bonds at a future date.
Read more: Working With Islamic Finance | Investopedia
Buy-To-Let
You could find an Islamic bank to lend you money to purchase buy-to-let property (see below). The money that you borrow is not subject to interest, so it is therefore compliant. Renting the property to another individual is compliant with Sharia Law, because you have an exchange of value, and no interest payments need to be involved.
Property investing is a useful vehicle to anyone who would like to bring in extra money every month. If you’re lucky enough to be able to afford many properties, then this money could replace your income and allow you to stop working actively if you wished.
Just be very careful before investing in property, and learn about how to do it properly first.
How Does This Work For Me Day-To-Day?
The basic principles of budgeting, saving and investing that I talk about in my other articles all still apply if you follow Sharia Law. The difference is ensuring that your savings and investments must comply with the Laws.
So make sure you have an emergency fund that you can easily access for life’s unexpected events.
Have a 6-month fund that you can use if you needed time out of work through sickness, or wanted to support yourself during maternity leave.
Invest your money to allow it to GROW for your retirement. It is more important for you to make sure you do this as early as possible, because not being able to access a western pension will put you at unnecessary risk of having a poor retirement.
There are many compliant opportunities out there, and a bank that is properly set up for your needs would be an ideal place to start for Islamic saving and investing.
So which banks offer Sharia compliant savings and investments?
The money advice service has a useful article on Islamic banking, and is definitely worth a read.
The following banks offer Islamic accounts, and also comply with the FSCS £85,000 limit protect should the worst happen and the bank ceases to exist. This is something that was applied to all UK bank accounts in the wake of the 2008 financial crisis and banks like Northern Rock closing.
So the list to take a look through includes:
Bank of London and the Middle East
When deciding on a bank, look for those that have easy to access branches (or even good online facilities) and good customer support. It is then worth asking about investments you can get involved in so that you can still grow your money for the long-run. I have no experience with any of these banks, so ask around and do your research.
I hope this has helped – it certainly has opened my eyes to the specific needs of the Islamic community, and I am very pleased to have learnt about it!
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Until next time,
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