Shariah Compliance in Islamic Banking

Study Notes

Shariah compliance is the backbone of Islamic banking, ensuring that all financial transactions are in line with Islamic law (Shariah).
Shariah compliance involves adhering to the following principles:
- Prohibition of Riba (interest)
- Prohibition of Gharar (uncertainty/speculation)
- Prohibition of Maysir (gambling)
- Prohibition of investments in Haram (forbidden) activities
Shariah boards, comprising Islamic scholars, are established to oversee and ensure Shariah compliance in Islamic banks.

Mudaraba: a partnership between the bank and investor, where the bank provides the investment and the investor provides the capital.
Musharaka: a joint venture between the bank and investor, where both parties provide capital and share profits and losses.
Murabaha: a cost-plus financing model, where the bank purchases an asset and sells it to the customer at a markup.
Ijara: a leasing model, where the bank purchases an asset and leases it to the customer.
Sukuk: Islamic bonds, which represent ownership in an underlying asset.

Zakat: an obligatory charity in Islam, requiring Muslims to donate 2.5% of their excess wealth to the poor.
Islamic banks are required to deduct Zakat from customers' accounts and distribute it to eligible recipients.
Taxation: Islamic banks are subject to taxation, but some countries offer tax incentives to encourage Islamic banking.
In some jurisdictions, Islamic banks are exempt from certain taxes, such as interest income tax.

Takaful: an Islamic insurance model, based on the principle of mutual cooperation and solidarity.
Participants contribute to a common pool, which is used to pay claims and expenses.
Takaful policies are designed to avoid Riba, Gharar, and Maysir.
Takaful products include family takaful, general takaful, and health takaful.

Riba-free investments aim to provide returns without charging interest.
Common riba-free investments include:
- Sukuk (Islamic bonds)
- Islamic equities (shares in Shariah-compliant companies)
- Real estate investments (direct property investment or through Islamic real estate investment trusts (REITs))
- Commodity investments (e.g., gold, silver, and other Shariah-compliant commodities)
Riba-free investments are designed to promote fair and equitable returns, while adhering to Shariah principles.

Shariah compliance ensures that all financial transactions align with Islamic law (Shariah), prohibiting Riba (interest), Gharar (uncertainty/speculation), Maysir (gambling), and investments in Haram (forbidden) activities.
Shariah boards, comprising Islamic scholars, oversee and ensure Shariah compliance in Islamic banks.

Mudaraba is a partnership between the bank and investor, where the bank provides the investment and the investor provides the capital.
Musharaka is a joint venture between the bank and investor, where both parties provide capital and share profits and losses.
Murabaha is a cost-plus financing model, where the bank purchases an asset and sells it to the customer at a markup.
Ijara is a leasing model, where the bank purchases an asset and leases it to the customer.
Sukuk represents ownership in an underlying asset, serving as Islamic bonds.

Zakat is an obligatory charity in Islam, requiring Muslims to donate 2.5% of their excess wealth to the poor.
Islamic banks deduct Zakat from customers' accounts and distribute it to eligible recipients.
Taxation applies to Islamic banks, but some countries offer tax incentives to encourage Islamic banking.
In some jurisdictions, Islamic banks are exempt from certain taxes, such as interest income tax.

Takaful is an Islamic insurance model, based on mutual cooperation and solidarity.
Participants contribute to a common pool, which is used to pay claims and expenses.
Takaful policies avoid Riba, Gharar, and Maysir.
Takaful products include family takaful, general takaful, and health takaful.

Riba-free investments aim to provide returns without charging interest.
Common riba-free investments include:
- Sukuk (Islamic bonds)
- Islamic equities (shares in Shariah-compliant companies)
- Real estate investments (direct property investment or through Islamic real estate investment trusts (REITs))
- Commodity investments (e.g., gold, silver, and other Shariah-compliant commodities)
Riba-free investments promote fair and equitable returns, adhering to Shariah principles.