4. Riba & Gharar

Essentials of Islamic Finance – IU Gulshan Campus, Slide # 1

Essentials of Islamic Banking and Finance Saturday, 6:30 ~ 9:30

IRSHAD AHMAD AIJAZ [email protected]

Riba (interest) and Gharar Riba (interest) and Gharar (excessive uncertainty)(excessive uncertainty)

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Contents of the lectureContents of the lecture

Riba (interest);– Riba and its types

Gharar (uncertainty);– Gharar and its definition and explanation;


Riba and its Riba and its explanationexplanation


IntroductionIntroduction

Prohibition of Riba is a core concept of Islamic financial law. All transactions and contracts must be free from elements of Riba;

The primary sources: the Quran and the Sunnah are very clear on prohibition of Riba;

Understanding of Riba and its modern application is essential for understanding of Islamic financial system;

Let us now discuss the precise definition of Riba as explained by scholars of Islamic laws;


Riba: definitionRiba: definition

Riba:– The word Riba literally means 'increase' or 'excess'. In terminological

sense it implies 'increase over and above the principal of loaned amount which is without due consideration';

– Riba in Arabic or 'Sood' ( سود ) in Urdu or interest or usuary in English give similar meanings;

– Classical and contemporary Islamic scholars define Riba as 'that increase which a creditor (owner of the loan) receives from his debtor (user of the loan) for giving him time to repay his debt;

– So Riba is the name of every increase in lieu of which there is no Islamically acceptable consideration;

– Increase in principal may be in form of cash or kind;– The increase is declared Riba if it is stipulated or becomes customary

in the society. In case of increase as gesture of thank this increase is not Riba;


– In modern financial system, interest or the excess (increase) in loan is the consideration or compensation for the period of re-payment of loan;

– But this theory is not acceptable to Islam. Arabs and others used to give money with a condition that they will charge a particular amount monthly and the principal will remain due as it is. Then on the maturity date they demanded the debtor whether to pay the principal or they would increase the term and the payable amount both;

– Islam has prohibited this way of charging compensation and declared it Haram;

– Therefore, any increase in principal loan amount for just waiting is not allowed;



Interest Vs Riba:– The word “interest" by and large, is now considered as Riba in view of

big majority of Islamic scholars; In a legal sense 'interest' implies that excess amount which a creditor settles to receive or recover from his debtor in consideration of giving time to the debtor for repayment of his loan;

– But the word 'Riba', that was used in Qura'n, was meant for Riba al-jahiliyya or pre-Islamic Riba. This Riba manifests when the lender asks the borrower at maturity date if he would settle the debt or swap it for another larger debt of longer maturity period. The difference between the maturity value of old and new debt would be Riba;

– This clearly shows that the Riba which was common in Arabs and others at the time of Revelation was the same thing which is now practiced in modern financial system;

– Therefore, the present system of time-based compounding of debt clearly falls in this category and no difference is there between interest and Riba;



Explanation of definition of Riba:– The definition of Riba says: 'it is any increase over and

above the principal of loaned amount which is without due consideration';

– Sometimes meaning of 'due consideration' is confused and people think the increase in principal for waiting for a period of time is not an 'un-due consideration';

– But the point to understand is that, according to Islamic financial laws the 'period' or 'waiting for a period' for a loan is not a valuable property (mal) or service or goods for which any access or increase could be asked;

– Therefore, if a person gives something to other as loan then he must forgo the period or time he waited the recovery of loan;

– More precisely, loaning is a social activity rather than an economic one;



Types of RibaTypes of Riba

There are two famous types of Riba:– Riba al-Jahiliyya or Riba an-Nasee'ah (pre-Islamic Riba, Riba in

loans):This is the primary type of Riba. Riba An-Nasiah or Riba al-

Jahiliyyah was a transaction well-known and recognized in the days of Jahiliyya. Arabs and others used to give money with a condition that they will charge a particular amount monthly and the principal will remain due as it is. Then on the maturity date they demanded the debtor to pay the principal. If he could not pay, they would increase the term and the payable amount. So it was the riba practiced by the people of Jahiliyya.

So Riba al-Jahiliyyah is interest on loan;This type is easy to understand and known to everyone easily;

– Riba al-Fadl (Riba in trade, Riba in exchange):A secondary type of Riba is Riba in exchange of goods. This type of

Riba was extracted from famous Hadees in which Holy Prophet (Sallallahu Alayhi Wa Sallam) said: 'Sell gold for gold, silver for silver, wheat for wheat, barley for barley, date for date, salt for salt, in same quantities on the spot; and when the commodities are different, sell as it suits you, but on the spot'. (Saheeh Muslim);


– According to this Hadees Riba al-Fadl has been explained with regard to six defined things/commodities;

– Exchange of these things (barter system of trade) should be with two conditions: If the transacted commodities are of same nature then:

► Spot delivery – immediate delivery of both commodities;► Same quantity on both sides;► Like exchange of wheat with wheat;

– If the transacted commodities are of different then:► Spot delivery – immediat delivery of both commodities;► But the quantity may differ;► Like exchange of wheat with barley;



Riba al-Fadl in modern times: – The rule of Riba al-Fadl is not limited to these six commodities in

opinion of Fuqahaa and it is applicable to some other commodities as well;

– First viewpoint:The common feature of these six commodities is that they can

either be weighed or measured, therefore, any commodity which is sold by weighing or measuring falls within this category and is subject to the same rule, if it is bartered with a similar commodity;

– Second viewpoint:The common feature of these six commodities is that they are

either eatables or they are used as a universal legal tender. Wheat, barley, date, salt represent eatables while gold and silver represent universal legal tenders. Therefore, all eatables and universal legal tenders are subject to the rule mentioned in the hadith;



– Third viewpoint:The common feature among these six commodities is that

they are either food items or they can be stored. Therefore every thing that is a food item or can be stored is included in the same category, hence, subject to the same rule.

– Forth viewpoint:The major characteristic on the basis of which the rules of

Riba are applicable to other commodities by is 'their being in the nature of money'. Therefore, rules of Riba would apply to anything that serves the functions of money, such as, paper currency;

There are now two conditions for exchanging money for money:► Spot payment and delivery – Hand-to-hand basis;► Equal quantity – in case of same currency;► Like exchange of PKR with PKR and exchange of PKR with US $;



Types of InterestTypes of Interest

The modern forms of interest of two types: Interest on loans:

– This is main type of interest which is clear and easy to understand for everyone;

– Lending and borrowing on interest is simple example of it like Banking interest;

– Under this way cash is advanced to a borrower for receiving interest from him;

Interest on debts:– Debt originates with a loan and also with a sale and other

transactions wherever the payment of money is deferred to a future date. The Quranic prohibition of Riba in debt, no increment is permissible when the debt is repaid or settled;

– The settlement of debt sometimes involved its replacement with a new increased debt and this has been condemned as the worst form of Riba or Riba al-jahiliyya;


Types of InterestTypes of Interest

– The Riba in debts corresponds to the compounding mechanism used in case of interest-based debt. Therefore, the rules for exchange of debts is that::Exchange of debt for money:

► When a debt is exchanged for money, it must be at par;Exchange of debt for debt:

► When a debt is exchanged for debt, it must also be at par;Rescheduling of debts:

► When a debt is recheduled it should be without any increase or decrease;

Some implications of these are as follows:► The compounding and discounting of debt are two similar

functions and both are prohibited;► Once the debt is established, it is repayable at par. Charging an

increase for further deferment of the payment of such debts as a function of time (e.g. a late rental payment in a lease, or a late installment payment in a credit sale) would be Riba;

► The opposite rule, in which the amount of the debt is reduced due to prepayment, is prohibited too;


Gharar and its Gharar and its explanationexplanation


Gharar:– The Arabic word Gharar ( غرر ) means 'risk', 'uncertainty',

and hazard. Gharar is also defined by some scholars as 'any bargain in which the result of it is hidden'. Unlike Riba, Gharar is not precisely defined by Shari'ah. Gharar is also considered to be of lesser significance than Riba;

– The prohibition of Riba is absolute but some degree of Gharar or uncertainty is acceptable in Shari'ah. Normal Gharar (that does not lead to conflict) is acceptable. Also Gharar is acceptable in some social contracts;

– Gharar has two ways. First, Gharar implies uncertainty. Second, it implies deceit. Shari'ah has forbidden all business transactions, which cause injustice in any form to any of the parties;

– Gharar may be in the form of hazard or peril leading to uncertainty in any business, or deceit or fraud or undue advantage;

Gharar and its definition and Gharar and its definition and explanationexplanation


Explanation of Gharar:– Inadequacy and inaccuracy of information about the essentials

of the contract; The Gharar exist when a contract does not have clarity in its

essential elements. Such a contract becomes matter of conflict between parties and become a way of cheating, deceiving and unjust dealing;

For example if price in a contract is not clear or the attributes of sold goods are not clear to buyer or the time of payment is not clear to seller the contract becomes a point of conflict between parties;

Hiring a cab without telling the deriver the destination or without agreeing on fare is case of Gharar. Also sale with through of stick on anything is a sale with element of Gharar;

– Complexity in Contracts: Gharar also refers to undue complexity in contracts. Shari'ah

does not permit interdependent contracts. For instance, “combining two sales in one” is not permitted;

– Pure Games of Chance (Al-Qimar & Al-Maisir): The term Gharar is also used in the context of pure games of

chance;



Game of chance means one party's loss is confirm at the start of contract;

Contracting under conditions of uncertainty and gambling (qimar) are examples of this;

The two words, uncertainty and gambling are not synonymous, though related;

Uncertainty is same as Gharar and under such conditions, exchange or contracting is reduced to a gamble;

Contemporary scholars are of the view that forwards, futures and options contracts are financial example of this type;

They are almost always settled in price differences only. Hence, these are used more as tools of gambling than as tools of risk management;




Gharar sometimes appear in mechanics of the Contract;– For example (a) two Sales in One, (b) the 'Pebble', 'Touch'

and 'Toss' Sales, (c) suspended (Mu'allaq) Sale and (d) the Future Sale are sales with element of Gharar;

Gharar sometimes appear in object of the Contract;– For example ignorance of the Genus, Species, Attributes

and Quantity of the Object fall under Gharar;– Also ignorance of the essence of the object like Ignorance

as to Time, inability to Deliver, Contracting on a Non-Existent Object and Sale of the Unseen items come in sense of Gharar;


Rules for GhararRules for Gharar

Any transaction with element of Gharar is not allowed in Islam;

Until the element of Gharar is removed the transaction become hung and sometimes void;

Gambling and conventional insurance is not allowed for this reason.


Questions?Questions?

Documents

4. Riba & Gharar