Islamic Banking in Iran
What is Islamic Banking?
A banking system that is based on the principles of Islamic law (also known as Shariah) and guided by Islamic economics is called Islamic banking. Two basic principles behind Islamic banking are the sharing of profit and loss and, significantly, the prohibition of the collection and payment of interest. Collecting interest is not permitted under Islamic law. Here's an example of how the Islamic banking system uses methods of profit/loss sharing to facilitate financial transactions: for some types of loans, the borrower only needs to pay back the amount owed to the lender, but the borrower can choose to pay the lender a small amount of money to serve as a gratuity. Since this system of banking is grounded in Islamic principles, all the undertakings of the banks follow Islamic morals. Therefore, it could be said that financial transactions within Islamic banking are a culturally distinct form of ethical investing.
According to the Holy Quran, gaining interest on loans is forbidden in Islam. Instead Islamic economics is based on profit sharing rather than interest. In many places of the Holy Qur'an, Allah has mentioned and encouraged His creature for Gharz Al-Hasanah (qard al-hasan) by assuring better reward in this world and in the Hereafter. In the Qur'an Allah says,
He who will give Allah Gharz Al-Hasanah, which Allah will double into his credit and multiply many times. [Al-Baqarah (2): 245]
If you give Allah Gharz Al-Hasanah. He will double it to your credit and he will grant you forgiveness. [ Al-Tagabun (64):17]
And give Allah Gharz Al-Hasanah. [ Al-Maidah (5): 12]
And give Allah Gharz Al-Hasanah, it will be increased manifold to their credit. [ Al-Hadid (57): 18]
Who is he that will give Allah Gharz Al-Hasanah? For Allah will increase it and manifold to his credit. [Al-Hadid (57):11]
This means that people must work for the money they earn and deals should be based on mutual profit or loss for the partners. Such loans are given to those in need according to the same law. Despite the excessive demand for such loans, Iranian banks and financial institutions have a small share in rendering such services. These institutions blame the lack of enough financial resources for their shortcoming.
The History of Islamic Banking:
Although in recent history not much has been explored in this regard, basically it is not explained properly in practice but mainly for activities according to the Islamic way, it goes back to the early 1940s. Perhaps the first institution to be considered as a cohesive Islamic banking was formed in Egypt in 1943 and 9 other banks in this country opened up later in 1947. These banks neither charged nor paid any interest and in the field of trade and industry the benefits were shared either directly or through investment partnerships.
Nasser Social Bank was founded in 1971 in Egypt and began its activities as an interest free commercial bank. Shortly afterwards Islamic banks in the Middle East were gradually came into existence. This new wave of activity along with the establishment of Islamic banks came to Southeast Asia.
At the conference of foreign ministers of Muslim countries in 1970, the governments of Egypt and Pakistan jointly supported the establishment of the International Islamic Bank. Finally, in 1975, "Islamic Development Bank" was established. Over time, Islamic banking institutions in Islamic countries began to expand. However, there are differences of methods being used in Islamic banking in different countries which made the Islamic banking popularization fail and even reached the point where some of the methods used in a country has no place in another country!
Islamic Banking in Iran:
Before the victory of the glorious Islamic Revolution in Iran, practically there was no activity in the field of Islamic banking and mainly faced severe criticism from leading religious authorities (Grand Ayatollahs) from the banking status while after the victory of Islamic Revolution the need for the establishment of Islamic economics was considered as one of the crucial necessities.
The first step to achieving this was the elimination of usury in the banking system. Changes then began by eliminating interest and replacing the commission in the banking system in the first year after the revolution. Of course, right from the beginning everyone knew this was not something that could move all of the banking system to an Islamic Bank as one of the foundations of the Islamic economics so a lot of efforts to search and find the perfect solution began with several meetings in the presence of professors and experts in banking and economic experts. Eventually in 1982 the "interest-free banking" draft bill was developed and presented to the cabinet. The bill was sent to the Parliament for approval after the board of Ministers approved it in the same year. In September 1983, after some assessment and amendment the act was approved by the parliament and then by the Guardian Council. The government had been notified after some banking experts prepared the bylaws (executive regulations) and the desirable operating instructions. Following the approval of the competent authorities such as the Cabinet and the Money and Credit Council, the "interest-free banking operations" have been implemented in the country's banking system since early 1984.
Specifications of Islamic banks:
1. Prohibition of payment and receiving a fixed or predetermined amount:
Gaining interest on loans is forbidden in Islam. Instead Islamic economics is based on mutual profit or loss sharing for the partners rather than interest according to the Holy Quran. Therefore the interest rate can be determined only when the real benefits are achieved as a result of the transactions or productions which involve a number of specific collaborative and transactional contracts.
2. Islamic banking seeks to achieve the objectives of profit-making banking in order to achieve the Macro Islamic Economic System goals and must take steps within the framework of Islamic economics rules and ethics.
3. Islamic banking has a sense of duty towards the poor and the needy of the society and pursues to enrich them through microfinance, problem-solving as well as diminishing poverty in the communities as its objective. Hence as we can see the fulfillment and realization of an interest-free banking is only a foundation level in the implementation of the Islamic banking which is part of the Islamic economy as well.
According to this presentation so far, it can be said that after the victory of the glorious Islamic Revolution, They made a decision that usury banking system which used to be incredibly prevalent in the country converted to an Islamic banking system in a gradual process. The first step in this long path was the realization of interest-free banking and the elimination of all the operations of the banking system that were based on interest. Although this action has been taken firmly with the approval of the interest-free banking, then, in the later stages of revision and fixing problems, unfortunately no serious effort was made! The ever-increasing demand from the banking system grew from day to day and created problems. Today however; experts, officials, scholars, the authorities and even the public have all reached a unanimous consensus and agree that Islamic banking in the country has not been implemented thoroughly. Even the "interest-free banking" has not been properly implemented in practice.
Mechanism of Mobilization and Allocation of Resources in the Interest-free Banking Operations:
There are two standard methods to mobilize resources:
1. Opening Gharz Al-Hasanah Accounts:
I. Gharz Al-Hasanah Current Accounts
II. Gharz Al-Hasanah Savings Accounts
2. Opening Investment Deposit Accounts:
I. Short-term Investment Deposit Accounts
II. Long-term Investment Deposit Accounts
Gharz Al-Hasanah Current Accounts are credits in essence and by opening an account with the bank, the legal and individual entities can make a deposit with the bank and be given a checkbook in return so that they can withdraw from their accounts by making out cheques and it will be no interest bearing deposit on the balance (the amount left). Depending on the loan agreement, these types of funds are owned by the bank and considered as the bank’s resources.
Gharz Al-Hasanah Savings Accounts are credits in essence as well and depositors can withdraw from their accounts either through their passbook or through their credit cards. These types of funds are also owned by the bank and a certain proportion of it must be spent granting Gharz Al-Hasanah loans. In order to inspire people to make deposits with the bank, a percentage needs to be devoted to advertising and promotions. However, those who leave their deposits with the bank with the intention of gaining interest assign the bank a power of attorney to employ their resources in some profitable operations and grant them the profits the banks make. Such customers are those who invest their money in the form of deposits. The calculated profit varies depending on the time as customers expect to receive more profit as they leave their deposits with bank for a long period of time. Usually banks allocate their accumulated reserves in invested deposits to allocate facilities in accordance with law and within the framework of Islamic contracts to which we will refer in the allocation of resources.
The resource allocation in the system is carried out by using Islamic contracts and facilities can be divided into four sections:
1. Partnership: including civil partnership, Mudarabah, Mozaraeh and Contract of farm letting/ sharecropping.
2. Trades and Transactions including Installment sales, Hire purchase agreement, Liability –purchase, In advance–purchase (making a forward purchase).
3. Letter of guarantee, Opening letters of credit (currency, rial) and Jualah: “a promise of reward" is a kind of reward which usually is not based on a written contract and it can raise troubles when it comes to the tribunal. Legally, the offerer is not bound to fulfill the verbal offer or reward.
4. Gharz Al-Hasanah
As we can see; a wide range of deposit funds obtained from public contracts are allocated to the banks.
The diversity of contracts and lack of familiarity is one of the reasons for the lack of proper implementation of interest-free or non-usury banking system. Since the applicants for the credit facilities seek the financial resources to solve their problems and adjustment of such requirements have been entrusted to the people in charge at branches and over time this has led to actions that were associated mainly with contracts at face value, moreover; this led to many doubts casting on banking system.
Many explicitly consider the current banking system a usury banking system and they believe the reason is the extortionate rates of interest they are charging and demanding for the loans they are granting at the moment. For instance, they declare that interest rate of 7 to 8 percent is not usury and these types of loans do not violate the prohibition on Riba but higher rates mean that banks have stretched out of their mainstream.
Here it might be mentioned that based on Islamic teachings in loans; there is a possibility of practicing usury so the fulfillment of certain conditions is subject to the following:
1. The independence of the lender and the borrower.
2. Terms and conditions of payment and collection while granting or collecting loans in addition to the principal amount borrowed.
3. Pre-arranged collections or payments i.e. Payment (or settlement) of the specified amount
Accordingly on this basis, if in the banking system credits from the loan accounts are paid with interest rates (high or low), the issue (of usury) has been achieved. However; where people have entrusted their funds to the bank with the intention of gaining interest assign the bank a power of attorney to employ their resources in some profitable operations in the best possible way. Here in fact, the intention of the investor is to make revenue and gain profit. Therefore; within the framework of Islamic contracts which is fully explained in the interest-free banking law, the Bank may take action to make use of resources and the resultant profit will be assigned to the investors’ deposit after deducting the honorarium. If they gain more profit from the amount they state provisionally, after determining the amount, they should take action towards the expression and the definite split which of course in recent years, we have repeatedly faced this issue.
However; if profits made by banks are not enough to pay interest to depositors, the Bank by law is obliged to compensate for the deficit from its own resources. For that reason, depositors in the banking system never make a loss or at least they make an interim benefit hand over by the Bank.
But why do banks set interest rates at a certain level?! This depends on various factors and the most important one is banks’ costs and the most important cost is the interim interest payment they make to depositors. Why are these rates high? Why do banks have to demand high interest rates from credit facility applicants? One of the main reasons for this is inflation rate. That’s because if people are not satisfied with the profit they make would be reluctant to leave their funds with banks. Subsequently, they prefer to invest it the way they like better so the rate that banks announce must have the necessary attraction for people and lastly, the profits banks make is by profit margins paid by investors and the interest they receive from the credit facility applicants after other costs are deducted.
Since the Shiite scholars and the vast majority of Sunni scholars believe that any surplus in addition to the original loan is prohibited and unauthorized, one can say that even the small amounts of additional application and payment is both usury and unlawful.
Hence; we must make a distinction between usury and profit; usury on debts is the result of excess demand and interest from applying funds in the economy that is not contrary to the Sharia. In part of the verse 275 of Sura Baqara Allah says:
" احل الله البيع و حرم الربوا "
“Allah has permitted sales (business) and forbidden usury”.
So from deposited resources in “Long-term Investment Accounts", Banks began to grant loans to the clients who have investment capability and are able to work productively and the profits would be divided between the bank and customer at a certain ratio.
Gharz Al-Hasanah (No Interest-bearing loan)
Pursuant to the "law of interest-free banking", what is vitally important in different types of granted facilities is the realization or fulfillment of profit and the only facilities for which profit is not anticipated are “Gharz Al-Hasanah” because otherwise it is usury and forbidden and simply it is for the fixed “Administrative Fee / Service Charge” which is calculated and collectable in proportion to the balance that has been notified according to relevant regulations in the banking system.
A question may arise whether a charge of administration fee is allowed in Shari'ah and if yes, how much will be the charge. Now, it is a settled issue among the Muslim jurists that administrative fee or service charge for loan transaction is not against Islamic principles.
With respect to administrative fee or service charge for loan transactions, there are three circumstances that make them permissible if proving to be true:
1. It must be truly an administrative fee or a service charge not an excuse or a mask to practice usury.
2. It must be the standard amount not more than covering the expenditure. In a banking system, collecting service fees aim to cover the running costs (Operational Costs).
3. It must be done with the consent of the parties. Both parties should be legally (shari'ah) capable to enter into the contract.
The word "Gharz or qard" is derived from Arabic "qirad" which means 'to cut'. It is called Gharz or qard, as it cuts certain part of the lender's property by giving loan to the borrower. Hasan is also an Arabic word, which originates from 'ihsan'. Ihsan means kindness to others. The term al-qard al-hasan means benevolent loan, gratuitous loan, interest free loan, beautiful loan. Therefore, Gharz Al-Hasanah or qard al-hasan is a kind of gratuitous loan given to the needy people for a fixed period without requiring the payment of interest or profit. The receiver of Gharz Al-Hasanah is only required to repay the original amount of the loan.
The juridical or canonical realization of lending to another is subject to the exigency and acceptance provided that the lender’s condition is not too much and the borrower has repayment plans. One of the pious and godly things through which we can help someone get rid of their entanglements and relieve them from their difficulties is lending. This effort is so worthwhile that lending to another individual resembles to lending to Allah as stated in verse 11 of Sura Al-Hadid:
" مَن ذَا الَّذِي يُقْرِضُ اللَّهَ قَرْضًا حَسَنًا فَيُضَاعِفَهُ لَهُ وَلَهُ أَجْرٌ كَرِيمٌ"
Who is he that will give Allah Gharz Al-Hasanah? For Allah will increase it and manifold to his credit. [Al-Hadid (57):11]
Gharz Al-Hasanah is considered a valuable and desirable loan that will help the poor to meet their needs. There are various economic and social impacts and it is an efficient method based on religious teachings so that the believers’ funds are utilized in economic and social activities.
Gharz Al-Hasanah is a way to ensure that the financial problems of the needy can be tackled without being concerned about the spirit of laziness and idleness because users have to repay.
Gharz Al-Hasanah is one of the instances of retail banking that can be the area under discussion for many international finance and monetary institutions besides considering it as a means to create jobs and prosperity of small businesses.
In recent years the issue of micro-credit banking system has been very important in the international arena.
The United Nations declared 2005 the Year of Microcredit and stated that a lot of social problems such as training, employment and the provisions of small jobs, rural development, health development and tourism development will be eliminated through micro credits.
An instance of micro-credit in our country based on Islamic teachings can be interest-free loans; a contract whereby according to the criteria set forth in the directive, the bank as the lender leaves a certain amount with people whether an individual or a legal entity. (Article 1 of the Gharz Al-Hasanah action plan) and in article 2 of the guideline, with the aim of contributing to production and employment as well as meeting the essential needs of individuals such as marriage, treatment, housing supply and repair and education, banks are allowed to grant interest-free loans.
In the Qur'an, “Gharz Al-Hasanah” means giving Gharz or qard to Allah so it is considered sacred and its aim is not just a temporary fix, but it is a reliable means to meet the needs of the community and Allah will reward such a loan manifold times. (Verse 11 of Surat al-Hadid)
And give Allah Gharz Al-Hasanah, it will be increased manifold to their credit.
Who is he that will give Allah Gharz Al-Hasanah? For Allah will increase it and manifold to his credit.
The purpose of granting loans in Islam is not more than one thing; granting loans let people solve their problems and crack their desperate economic plight, so people are encouraged to meet the needs of each other.
According to a hadith, The Messenger of Allah, The Prophet (SAW) Sallallahou Alayhi Wasallam "May Allah honour him and grant him peace" is reported to have said:
“Anyone who lends to a pious follower of the faith and waits for him to seek relief, their funds will be rewarded as Zakat and as long as the borrower is due to meet his debt to the lender, Angels send blessings and peace to him/her.”
In fact Gharz Al-Hasanah is an opportunity to benefit from the blessings of Allah. These benefits are not only materialistic, but full of spiritual achievements and from the place of funds, the loanee can get his or her problems solved and will seek timely debt payments (settlement of debt(s) in due course). As a result, in such a society where basic needs are met, the risk of social disorder or anomalies is reduced to a minimum.
In the Holy Qur'an, Allah prohibits his followers from practicing usury in order to avoid the agony and torment of the fire. In part of the Surah Al-Imran, verse 130 and 131 Allah says:
"يَا أَيُّهَا الَّذِينَ آمَنُواْ لاَ تَأْكُلُواْ الرِّبَا أَضْعَافًا مُّضَاعَفَةً وَاتَّقُواْ اللّهَ لَعَلَّكُمْ تُفْلِحُونَ وَاتَّقُواْ النَّارَ الَّتِي أُعِدَّتْ لِلْكَافِرِينَ"
“O ye who believe! Devour not usury, doubled and multiplied; but fear Allah; that ye may (really) prosper and guard yourselves against the fire which has been prepared for the unbelievers!”
Imam Baqir (AS) said:
“اَخْبَثُ الْمَكاسِبِ كَسْبُ الرِّبا”
“The filthiest trade is usury”
Some social and economic effects of Gharz Al-Hasanah:
• Gharz Al-Hasanah can play an important role in bridging the gap in order to eliminate poverty.
• Granting loans lead to frozen assets release.
• Granting loans has an effect on consumption and operates as an automatic economic stabilizer.
• Lower spirit of wealth accumulation and having impact on income distribution along with elimination of monopoly fields.
• Gharz Al-Hasanah serves to strengthen social bonds.
• Gharz Al-Hasanah has positive psychological effects in the society, promotes charity and creates a sense of vitality in the community.
In a society with access to the intellectual and ideological infrastructure on which meeting mankind needs is a priority, the existence of "interest-free banking law" in which attracting Gharz Al-Hasanah Micro-resources means to help the needy and to win heavenly reward and that granting facilities is from the accumulated resources for growth, jobs creation and essential needs satisfaction at a minimum service fee, and with regard to the serious argument considered for the prohibition of usury, with all these capabilities, it is unfortunate however, to witness a spate of criticism against the status of banking just because we have a craving for making high profits!
We should note that this situation stems from what is called "unhealthy rivalry” as the main factor. Initially, the competition between the banking systems is authorized and this competition will benefit both the bank and the depositors until it serves to conserve banks’ resources. This benefit was not all about profit and the result was largely better services although once the rivalry between unauthorized institutions was added, in short, the high profits were all banks could think of! And resources were taken toward short-term trade, imports and property; as a result they caused disruption in the state of affairs and were led out of their mainstream.they made commodity prices climb sharply. It looked as if the banking system was seized, especially because of funding shortfall and debt, they were forced to bear 34% penalty rate. This situation prepared the ground for accepting high interest rates to attract resources and these measures threw in a competition in which there was ultimately no winner.
However; the high returns on deposits drew the society’s attention to this competition and made Gharz Al-Hasanah sources move to investment deposits accounts; moreover we saw more and more change in peoples’ taste of deposit making which was the starting point for further problems. We hope basis are laid down by the central bank to introduce furtherer measures while there will be more coordination among the bank executives and through the means of declining inflation rate which is the effect of the government's economic managers and policy makers, we move towards more appropriate ways.
With this brief analysis I came up about the social and economic effects of Gharz Al-Hasanah in accordance with Islamic teachings, I hope we can take steps towards a pattern of credit facilities whose implementation depends on a change in depositors’ sense of taste and how important is it for them to open a Gharz Al-Hasanah account as well as their attention to its consequences in the society. It goes without saying that this is a public duty so as long as we are profit making-oriented, we cannot expect a reform in that regard.
However, if on the one hand, we speak about the benefits of Gharz Al-Hasanah and its otherworldly traces in the long run, but on the other hand we seek out the highest rate of return on deposits from one bank to another, we assume we cannot get anywhere to meet our objectives.