What is Islamic Financing?

Islamic financing is a form of financing which conforms with Islamic laws surrounding money and the practice of doing business. Islamic financing is also known as Islamic banking, and numerous financial firms around the world offer Islamic banking to Muslim customers, especially in the Middle East. You don't necessarily have to be Muslim to take advantage of Islamic financing, however, and some non-Muslims find the terms of Islamic financing to be more agreeable than those of secular banking and financial arrangements.

Two issues in Islamic law are of concern which it comes to Islamic banking. The first is riba, which is commonly translated as “usury,” better known as “exploitative interest.” Islamic law specifically prohibits charging or paying interest, and since most loans include a rate of interest, devout Muslims cannot use traditional financing to buy cars and homes or to finance an education. Muslim law also prohibits involvement in haraam or forbidden business practices, which include the manufacture and sale of alcohol and pornography.

Banking institutions which offer Islamic financing pledge not to involve their funds in haraam industries, so that Muslims can avoid the taint of forbidden businesses. They also use a variety of creative techniques to get around the prohibition on paying interest so that Muslims can still get loans and financial assistance.

For example, a bank might buy a home or car and lease it to a customer, or sell it in installments, for a profit. Since the bank is not charging interest, the loan is considered to be acceptable. A bank might also offer a business loan in return for a share of the profits for a set period of time, distinguishing this as a fee, rather than as interest. A variety of other techniques may be used in Islamic financing to connect the Muslim community with sources of loans which can be used for improvement.

Islamic financing started in Egypt, and spread from there through the Middle East as Muslims began to see the appeal of religiously acceptable financing. There is some debate in the Muslim community as to whether or not Islamic financing is fully acceptable, however. Some people argue that riba is a term with a fluid and unclear definition, and that the Qu'ran prohibits involvement in loans in general, not just usurious interest. Others feel that without Islamic banking, the Muslim world would not have an opportunity to compete on an equal footing due to a lack of financial liquidity, so Islamic financing's benefits outweigh the possible drawbacks.