Interest-bearing Loan or Trade?

For anyone seeking to avoid riba, it is necessary to clearly understand the distinction between riba and trade. The simplest way to accurately differentiate between the two is to write out a list of the rights and responsibilities involved in the transaction. If they resemble the rights and responsibilities in a lender/borrower relationship then it is a loan no matter what is said. If they resemble the rights and responsibilities of partners involved in an investment, then it is trade.

In trade one is fully committed to the subject of the trade with the risk of any potential loss and gain, while a loan is based on a predetermined return with the risk of default in repayment. Creating a planned, limited risk and incorporating it in the loan agreement does not make it a trade transaction. Rights and responsibilities come as a package which must be accepted as a whole or rejected as a whole. One cannot choose which rights and responsibilities to observe and which ones to ignore.

In a shariah lending relationship the following applies:

• It is the lender’s right to have the money returned by an agreed upon date and time. It is acceptable for the lender to secure the loan with a lien, but only for the actual amount lent without any appreciation provisions. The lender is encouraged (but not obligated) to accept delay in payment should the borrower be in financial hardship. The amount returned must be equal to the amount lent, with NO increase, regardless of how long the loan is for. We are told that such a loan is considered a good deed which is rewarded, even more so if the lender accepts a delay in repayment. Lending money in Islam is NOT a business model and the goal behind it is to help others, not to receive financial gain. This is why it is completely meaningless to have terms such as Islamic Mortgage or Shariah Lending in the context of revenue generating business because the two are completely contradictory in term and essence.

• The borrower owes the lender money and has an obligation to ensure the safe and timely return of the loan without regard for his convenience or economic welfare unless it is very dire. He is bound until the Day of Judgment to return that money and therefore debt is generally discouraged unless it is a necessity. In fact, a borrower is spiritually bound by debt to the degree that he should take a lender’s permission to travel if there could be risk in traveling.

 

In a trading relationship the following applies:

• All parties in a partnership or co-ownership have the rights and responsibilities of peers. Within a trade relationship, no partner owes money to the other or has an obligation to repay any money. Any money contributed by a partner is an investment that may increase or decrease. Profit and loss is proportionate to each partner’s investment or the share of trade agreed upon at the outset of the partnership. While the share is usually proportionate to the money invested, other factors can play a role such as the work of each partner (sweat equity). Once the partnership is formed and the share of each partner is set, all responsibility, gain, or loss is shared accordingly. This is the basis of musharaka (partnership) in shariah.

• An investor who buys a property then resells it at a profit can do so within the bounds of a normal transaction. The seller (investor) may collect the sale price in installments but has nothing to do with the financial “time value of money” and the seller must own the property before any sale can occur. This is the basis of murabaha (profit) in shariah. Read more about what constitutes murabaha.

• A third party may act as an intermediary or broker (such as a real estate agent), taking no risk yet taking a commission at the time of sale for services that facilitate the transaction. Such a commission is set and cannot be for money lent or credit extended, or related to the length of time it takes for the payment to be fully collected. In this case, the broker cannot be a co-owner, a seller or a financier.

     

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