What’s Islamic finance?

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Islamic finance complies with Islamic laws and prohibits charging or paying interest. Banks use creative techniques to get around the ban on interest, such as buying a house or car and leasing it to a customer. Islamic finance began in Egypt and spread to the Middle East, but there is debate in the Muslim community about its acceptability.

Islamic finance is a form of finance that complies with Islamic laws surrounding money and the practice of doing business. Islamic finance is also known as Islamic banking, and several financial companies around the world offer Islamic banking services to Muslim customers, especially in the Middle East. However, you don’t necessarily have to be a Muslim to take advantage of Islamic finance, and some non-Muslims find the terms of Islamic finance more agreeable than those of secular banking and finance arrangements.

Two issues of Islamic law preoccupy the Islamic banking sector. The first is riba, which is usually translated as “usury”, better known as “exploiting interest”. Islamic law specifically prohibits charging or paying interest, and since most loans include an interest rate, devout Muslims cannot use traditional finance to buy cars and houses or to fund an education. Muslim law also prohibits engaging in haraam or prohibited business practices, which include the manufacture and sale of alcohol and pornography.

Banking institutions offering Islamic finance pledge not to involve their funds in haraam industries, so that Muslims can avoid contamination of prohibited businesses. They also use a variety of creative techniques to get around the ban on paying interest so that Muslims can still obtain loans and financial assistance.

For example, a bank might buy a house or car and lease it to a customer or sell it in installments at a profit. Since the bank is not charging interest, the loan is considered acceptable. A bank may also offer a business loan in exchange for a share of profits for a specified period, distinguishing it as a fee rather than interest. A variety of other techniques can be used in Islamic finance to connect the Muslim community to sources of loans that can be used for improvements.

Islamic finance began in Egypt and spread from there to the Middle East as Muslims began to see the appeal of religiously acceptable finance. There is some debate in the Muslim community as to whether or not Islamic finance is entirely acceptable, however. Some people argue that riba is a term with a fluid and unclear definition, and that the Qur’an prohibits engaging in lending in general, not just usurious interest. Others feel that without the Islamic bank, the Muslim world would not have the opportunity to compete on an equal footing due to lack of financial liquidity, so the benefits of Islamic finance far outweigh the possible disadvantages.

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