Chapter 2: Principle of Islamic Banking PDF

CHAPTER 2 PRINCIPLE OF ISLAMIC BANKING Lecturer: Dr. Wan Shahdila Shah Bt Shahar Prohibitions in Islamic Banking Paying or charging Investing in Speculation (maisir) Uncertainty and risk an interest businesses involved...

CHAPTER 2 PRINCIPLE OF ISLAMIC BANKING Lecturer: Dr. Wan Shahdila Shah Bt Shahar Prohibitions in Islamic Banking Paying or charging Investing in Speculation (maisir) Uncertainty and risk an interest businesses involved (gharar) Sharia prohibits in prohibited Islam prohibits interest- activities speculation and Islamic finance prohibits based lending (riba) as an gambling, called maisir, in excessive risk and exploitative practice. Islam prohibits investing finance. uncertainty, called Sharia law strictly forbids in haram activities like gharar. usury. alcohol or pork production. Key Principles of Islamic Finance Material Finality of the Profit/Loss Sharing No One Benefits More Transaction Parties share risks and rewards. Mutual benefit is key Transactions must be tied to real economic activity. Definition and Principles of Islamic Banking Islamic banking is a financial system that adheres to Islamic principles, prohibiting the payment or receipt of interest (riba) and promoting ethical and socially responsible practices. Riba-Free Ethical Investment Interest is forbidden in Islam, so Islamic banks Islamic banking avoids investing in activities that banks operate on profit-sharing, risk-sharing, activities that are considered haram (forbidden) sharing, and other interest-free methods. (forbidden) in Islam, such as gambling, alcohol, alcohol, and pornography. Social Responsibility Transparency Islamic banks are encouraged to contribute to Islamic banks are required to be transparent in contribute to the well-being of the community their operations, providing clear and concise community by supporting charitable causes and information to their customers about their causes and promoting economic development. products and services. development. Definition of Shariah Literal Meaning Technically Definition Shariah literally means the “road to the ‘The commandments revealed to watering place”, or “the straight path Prophet Muhammad (SAW) in the to be followed.” Qurʾān and Sunnah that relate to the beliefs, feelings and actions of persons who are morally responsible, whether those commands are known with certainty or presumptively’. ‘ Shariah in Islamic Finance 1 1. Shariah-compliant Products are modified from conventional products to meet Shariah requirements. 2 2. Shariah-based Products are derived from Shariah laws and may share similarities with conventional products. 3 3. Key Terms Shariah-compliant and Shariah-based are commonly used in the Islamic finance industry. Shariah-Compliant Products Conforming to Islamic Law A Shariah-compliant product adheres to Islamic law, as outlined in the Quran and Hadith. Ethical and Moral Conduct Shariah-compliant finance prohibits interest, speculation, and uncertain ventures. Alignment with Islamic Finance Shariah-compliant finance aligns with Islamic principles within conventional systems. Shariah-Based Products Beyond Compliance Ethical and Social Holistic Approach Considerations Shariah-based products actively Embody the holistic approach of promote Islamic values and Maqasid Prioritize social justice, equitable Islamic finance, focusing on positive of Shariah. wealth distribution, and community societal contributions. welfare. Difference between Sharīʿah-compliant and Sharīʿah-based Sharīʿah-compliant Refers to products which originated in the conventional market and have then been ‘Islamised’ by modifying them to comply with the Sharīʿah requirements. Example : ijārah muntahiyah bi al-tamlīk. Sharīʿah-based Products that do not originate from conventional practice. Example : salam, istiṣnāʿ. Components of Shariah Al-Ahkam al-I’tiqadiyyah Al-Ahkam al-Akhlaqiyyah Al-Ahkam al-Amaliyyah (AQIDAH) (AKHLAQ) (FIQH) The belief in Allah and the Day of The moral and ethics. The acts of individuals and its relation Judgement. to others. Categories of Fiqh Ibadah Mu’malah Munakahah Jinayah Spiritual connection Financial transactions, Covers marriage and Governs criminal law, between man and Creator contracts, and wealth family matters. including crimes and through prayer, fasting, management. punishments. and pilgrimage. The Distinction Between Shariah and Fiqh SHARIAH FIQH Shariah is the wider circle; it includes all human actions. Fiqh is confined to what is commonly understood as human acts as far as their legality and illegality are Shariah is a body of revealed injunctions found both in concerned. the Quran and Sunnah and it includes the following three main components: Al-Ahkam al-I’tiqadiyyah; Al-Ahkam al- Fiqh is one of the components of the Shariah. Akhlaqiyyah; and Al-Ahkam al-Amaliyyah. Rulings of Fiqh would change according to the changes Shariah is fix and unchangeable. of the circumstances under which it is applied. Further Distinctions in Shariah and Fiqh 1 1. Source of Knowledge 2 2. Reasoning Shariah is based on revelations in In Fiqh, the power of reasoning is which knowledge is obtained only stressed, and deductions based from the Quran and Sunnah. upon knowledge are continuously referred to with approval. 3 3. Degrees of Approval 4 4. Legal Actions In Shariah, there are various In Fiqh, an action is either legal or degrees of approval or illegal. disapproval. Maqasid al-Shariah Maqasid al-Shariah, which translates to "the objectives of Islamic law," provides a framework for understanding the underlying principles of Islamic jurisprudence. It focuses on the higher purposes that Islamic law seeks to achieve. The Maqasid al-Shariah framework emphasizes the preservation of five essential values: religion, life, intellect, lineage, and property. This framework serves as a guiding principle for Islamic scholars in interpreting and applying Islamic law. Purpose of Shariah Preserving Five Necessities Promoting Welfare The fundamental purpose of Shariah is to safeguard and Shariah aims to foster the well-being of individuals protect five central necessities. These necessities were and society. This involves ensuring the protection of outlined by the renowned Persian scholar, Al-Ghazali. faith, life, intellect, posterity, and wealth. Understanding Maqasid Shariah 1 1. Core Objective Maqasid Shariah refers to the fundamental objectives of Islamic law. 2 2. Benefit and Protection It seeks to achieve and protect the well-being and interests of individuals. 3 4. Consistency Maqasid Shariah emphasises the need for Islamic law to be aligned with its overarching objectives. Protection of Main Elements Every _hukm_ enforced by Allah prioritises protecting the five main elements. The five elements are the foundation of Islamic law and are closely intertwined with the fundamental objective of Shariah: to promote the welfare and well- being of humankind as God’s stewards on Earth. 1 Preservation of Religion (Din) 2 Preservation of Life (Nafs) 3 Preservation of Intellect (Aql) 4 Preservation of Lineage (Nasl) 5 Preservation of Property (Mal) These five core elements are essential for a flourishing and harmonious society. Protecting them is paramount in Islamic jurisprudence and reflects the profound wisdom and divine guidance embedded within Shariah.  Five Necessities (Dharuriyyat) Protection of Religion (Hifz al-Din) Preservation of Life (Hifz al-Nafs) Protection of Intellect (Hifz al-Aql) Preservation of Lineage (Hifz al-Nasl) To safeguard religious practices and promote spiritual To protect human life and ensure safety and well-being. To safeguard the intellect and promote mental well- To safeguard family and lineage, ensuring societal well-being. This includes protecting freedom of worship, Islamic law emphasizes the sanctity of life as a valuable being. Islamic law aims to protect this divine gift by stability. Islam emphasizes protecting marriage, preserving religious institutions, and upholding ethical asset. Any action endangering life or causing harm is prohibiting anything that impairs mental faculties and preventing adultery, and upholding the rights of parents living. prohibited. This includes providing basic needs like food, encouraging education and intellectual development. and children. water, shelter, and healthcare. Preservation of Wealth (Hifz al-Mal) To ensure just wealth distribution and prevent misuse. Islamic law prohibits theft, fraud, and unjust enrichment, while encouraging charity and fair trade. Convenience (Hajiyyat) Facilitating Transactions Hajiyyat are things that provide convenience and ease, though their absence does not cause severe harm. They facilitate daily activities and religious practices without major difficulty. Role of Hajiyyat Alleviating Hardship: Hajiyyat provides convenience to fulfill religious and worldly obligations without undue hardship. Enhancing Welfare: By addressing these needs, Hajiyyat contributes to the overall welfare of individuals and society, ensuring that life is not unnecessarily burdensome. Islamic Contracts Salam (advance payment) facilitates economic activities and removes hardship. Istisna contracts allow deferred payment and delivery, easing business operations. Refinement (Tahsiniyyat) Refinement (Tahsiniyyat) refers to enhancements that lead to moral excellence, aiming for the highest ethical standards. The absence of Tahsiniyyat may not cause direct harm or hardship, but leads to lower ethical standards and diminished societal well-being. Examples of Tahsiniyyat include exceeding minimum ethical requirements in business, ensuring high quality, lawful (halal) products, and encouraging voluntary charitable work. SOURCES OF SHARIAH The Islamic legal system is derived from a variety of sources, each with its own weight and interpretation. The primary sources, considered the most authoritative, are the Quran and Sunnah. These texts provide fundamental principles and guidance on various aspects of life. Primary Sources In Islamic jurisprudence, the primary sources of Shariah law are considered the most authoritative and fundamental sources of guidance. They provide the core principles and teachings that form the basis for all Islamic rulings and practices. Al-Quran as Primary Source Inimitability The Quran's inimitability is a miracle attributed to Prophet Muhammad (SAW). It serves as a definitive guide for humanity and a foundational source of Islamic law. Revelation The Quran's revelation commenced with the first five verses of Surah al-Alaq and concluded with Surah al-Maidah verse 34. It spans 114 surahs with 6,666 verses encompassing various aspects of life, both worldly and hereafter. Unanimous Consensus The entire text of the Quran is considered _mutawatir_ (continuously narrated) and universally accepted by Muslim jurists. This means the Quran's authenticity and transmission are beyond doubt. Arabic Language The Quran was revealed in Arabic, the language of Prophet Muhammad (SAW), within 23 years. The revelation often occurred in response to specific events or _asbabun nuzul_, providing context for understanding the verses. Consensus on Al-Quran 1 1. Primary Source 2 2. Divine Guidance The Quran is widely recognized as a The Quran provides clear directives primary source of Islamic law, for Muslims on various aspects of forming the bedrock of Islamic life, guiding them in matters of faith, jurisprudence. worship, social interactions, and ethical conduct. 3 3. Allah’s Command 4 4. Unwavering Trust Allah (SWT) explicitly instructs The Quran is free from any doubt or Muslims to refer to the Quran for ambiguity, due to its divine origin guidance and resolution of disputes, and the perfect knowledge of its emphasizing its importance as a Author, Almighty Allah. source of truth and justice. Obligation to Follow Al-Quran Divine Revelation Understanding and Universal Applicability Application The Quran is considered a divine The Quran's message transcends revelation from Allah to humanity. It Muslims have a sacred duty to cultural and geographical contains guidance for all aspects of understand and apply the Quran's boundaries, offering guidance for all life. teachings in their lives, both people, regardless of their individually and collectively. background or location. Understanding Sunnah Words, Actions, and Guidance for Muslims Interpreting the Sunnah Approvals It serves as a valuable source of Scholars play a crucial role in The Sunnah comprises Muhammad's guidance for Muslims, illuminating interpreting the Sunnah, ensuring its sayings, actions, and tacit approvals the path of righteous living. accurate understanding and of statements and actions. application. Ijma Ijma is the verbal noun of the Arabic word Ajma'a. Ajma'a has two meanings: to determine and to agree upon something. Ijma refers to the agreement of all Mujtahidun, though many Ulama consider majority to consist Ijma. For example, putting a line in al-Quran after booked represents Ijma. Qiyas Definition Qiyas is a method of deriving Shariah rulings by applying an existing ruling to a new case based on a shared underlying reason or cause. Extending the Ruling The ruling is extended from an original case to a new case because the new case shares the same underlying reason or cause as the original case. Example The original case is wine, which is prohibited due to its intoxicating effects. This ruling can be extended to narcotic drugs because they also have intoxicating effects. SECONDARY SOURCES Secondary sources are legal materials derived from primary sources. These sources typically analyze, interpret, and explain primary sources. Secondary sources are crucial for understanding complex Islamic legal concepts. Qiyas 1 Definition 2 Process Qiyas means "analogy". It is a This process involves identifying method of deriving Islamic law by the shared "illah" (reason) comparing a new case to a known between the known and unknown case with a clear ruling. cases, then applying the ruling to the new case based on its shared ill. 3 Example 4 Key Point The ruling on alcohol being The analogy must be clear and prohibited is applied to other based on a shared reason, not intoxicating substances based on merely superficial resemblance. the shared ill of intoxication. Maslahah Maslahah, meaning benefit, is a principle in Islamic jurisprudence which emphasizes the importance of outcomes in Islamic law. In the application of Islamic law, the concept of Maslahah serves as a key guideline for identifying permissible actions and upholding the principles of justice and fairness. The principles of Maslahah are derived from the Quran and Sunnah and aim to protect five core values: religion, life, intellect, lineage, and property. These values are considered fundamental for the well- being of individuals and society. Applications of Maslahah Issuance of Currency Tax Imposition The issuance of currency is a vital aspect Taxation is an important aspect of of Islamic banking. It allows for the Islamic finance. Islamic scholars have facilitation of economic activities and developed principles for tax imposition transactions while adhering to Islamic that are aligned with the principles of principles. justice and equity. Istishab Presumption of Continuity Lack of Evidence for Change Shafii and Hanbali Schools Istishab, a principle in Islamic law, The presumption continues until new The Shafii and Hanbali schools of presumes that what was established evidence emerges that proves a thought view istishab as the in the past remains unless proven change in the previous state or rule. continuation of what was proven and otherwise. the revocation of that which was not proven. Istishab Definition of Istishab Applications of Istishab Istishab is a principle of Islamic law that states that the Istishab is used in a variety of contexts, including: previous state of affairs is presumed to continue until the Contract Law contrary is proven. Property Law It is based on the presumption that things tend to Family Law remain as they are, unless there is evidence to suggest Criminal Law otherwise. Applications of Istishab The principle of Istishab can be applied to various scenarios in Islamic jurisprudence. Presumption of absence is applied in legal disputes where one party claims a state of affairs while the other party denies it. In cases of commercial transactions, if one party claims no profit was made, the presumption is in their favor unless the other party can prove otherwise. The principle of Istishab also extends to the realm of Islamic law, specifically in the area of mu’amalat, where the default position is that everything is lawful unless proven otherwise. Istihsan Public Interest Juristic Preference Istihsan prioritizes the common good It allows scholars to deviate from and seeks to avoid any rigidity or established _**qiyas**_ if another ruling unfairness that might arise from strictly aligns better with justice and public applying existing law. interest. ‘URF 1 1. Common Occurrence ‘URF is a common phenomenon observed in our daily lives, particularly in localized contexts. 2 2. Locally Established Custom ‘URF represents a custom that has become established in a specific place or locality, reflecting the unique practices of that community. 3 3. Practical Application A practical example of ‘URF can be seen in the practice of sellers and buyers engaging in transactions without explicitly mentioning payment methods or agreements, where both parties understand the terms and timing of payment based on the established local custom. Applications of ‘URF ‘URF, or customary practice, plays a significant role in Islamic legal reasoning. It derives its validity from the consensus of the community regarding certain practices. ‘URF is a dynamic and evolving concept that adapts to changing societal circumstances. It is crucial to distinguish between practices that reflect the true consensus of the community and those that are merely customary. ROLES OF SHARIAH IN ISLAMIC BANKING Shariah plays a crucial role in Islamic banking, providing ethical and moral guidelines for financial transactions. Its principles guide the entire system, ensuring compliance with Islamic values and prohibiting practices deemed forbidden in Islam, such as interest (riba). Shariah principles influence various aspects, including investment criteria, profit sharing mechanisms, and risk management strategies. It ensures transparency, accountability, and fairness, promoting a socially responsible approach to finance.