Banking, Investment, Insurance and Muslims in North America
M Raquibuz Zaman
Ithaca College
Courtesy:
Journal Institute of Muslim Minority Affairs, Volume V, No. 1, 1984, pp. 71-76.
Introduction
Muslims in North America have some special concerns about the financial
institutions such as banks (including thrift institutions),1 insurance companies, brokerage
houses, and investment companies. These institutions are routinely engaged in certain
practices, like dealing with interest, which are considered to be inappropriate, if not
prohibited altogether, for the Muslims.2
In each of the following sections on banking, investment, and insurance a brief
outline of the operation of existing financial institutions relevant for this study3 is
presented. This is followed by a discussion of some of the problems that the Muslims
face in trying to conscientiously cope with the system. It can here be noted that some
modifications or changes in the existing rules and regulations are, possibly, attainable, if
the Muslims pursue their case with the appropriate legislative bodies.
Banking in North America
Commercial banks, whether state or nationally chartered, offer a number of services to
their depositors and customers. To the depositors they offer checking accounts, NOW
(Negotiated Order of Withdrawal) accounts, passbook savings accounts, various types of
time deposits, money market accounts, etc. Except for the regular checking account all
other accounts pay some form of fixed returns to the depositors. Beginning January 1984
when Regulation Q will be phased out,4 banks will be free to pay whatever interests they
can afford on such accounts. By then, except for the fixed time deposits, interest paid on
ordinary passbook savings accounts will be variable and, hence, such accounts are likely
to be more acceptable to those who consider fixed interest rates to be usurous. However,
the depositors' accounts up to $100,000 will continue to be insured so that they are not
likely to be directly sharing any losses that the banks might incur from their operations.
Indirectly, however, all savings depositors share the losses of banks, because they
contribute to the insurance premiums the banks have to pay through a reduced rate of
return and through the taxes they pay to the government, which is the sponsor of such
bank insurance companies as the Federal Deposit Insurance Corporation (FDIC), and the
Federal Savings and Loan Insurance Corporations (FSLIC). Thus, variable interest rates
combined with loss sharing via deposit insurance may make savings accounts in the U.S.
banks more amenable to Islamic principles than such current accounts in the majority of
the Muslim countries of today.
The Muslims in America can avail themselves of the facilities offered by ordinary
checking accounts without any qualms. The account holders do not receive any interest
on such deposits. Often they have to pay service charges or fees for these accounts.
Where banking is competitive, e.g., in the North-Eastern states of the U.S., the depositors
may not even have to pay any fee for such services. Demand deposit accounts can meet
the basic transaction needs of Muslim families or businesses.
Almost all existing commercial banks provide investment counseling services,
trust services, and pension plans. The users of these services generally pay fees and,
sometimes, a small percentage of the profits to the banks. The rates of fees and/or
percentages of profits to be shared are regulated by some state governments. The users of
such services often determine where their funds are to be invested. Thus, they can help
prevent any investment which is considered to be unacceptable from the Islamic point of
view.
When it comes to borrowing funds from the banking institutions the Muslims face
a real dilemma. This is because all borrowings, either for unexpected short term needs or
for long term planned household or business expenses, oblige the borrowers to sign
written contracts which specify the mode of repayments as well as the fixed finance
charges (i.e., interest plus fees and charges). Finance charges vary according to the costs
of funds to the banks at the time the loans are extended and on the basis of expected
riskiness of the borrowers. The banks, as financial intermediaries, are not normally
interested in joint ventures with their customers and, as such, neither want, nor do they
have the manpower, to determine the rates of finance charges on a profit sharing basis.
The existing practice of determinations of finance charges evolved out of practical
considerations rather than out of any philosophical, religious or ethical considerations.
The present-day..Islamic banks," sometimes referred to as Mudarba banks (an
example is the Dar-al Mal al-Islami, that now operates in some countries), avoid the
whole issue of the determination of loan charges by specializing in investment banking
only. The funds of such Islamic banks are invested in specific projects - profits from
which can be determined with relative ease and, hence, can be shared between them and
their depositors and shareholders. The bulk of financial transactions of a modern
economy are in the form of short term business loans for financing of inventory, account
and notes receivable, payrolls, accounts and notes payable, and the like. The Muslim
bankers have done little to address this most important aspects of banking. Neither have
they done anything to address the question of determination of finance charges for
personal loans by individuals or households. Because of this failure, the Islamic banks
have not made any significant contribution to overall banking in any country in which
they operate.5
The Muslims of North America face additional problems with this aspect of
banking. The various regulatory agencies determine what portions of a bank's financial
assets are to be kept as cash and reserves, how much are to be invested in which types of
securities, how much can be invested in the form of loans to whom, and what is to be
charged. For example, the Federal Home Loan Bank Board, the FSLIC, and the state
banking authorities determine how much of the total assets of savings and loan
associations can be invested in mortgages of single family or multiple family dwellings,
and how much can be invested in consumer loans. Similarly, the National Credit Union
Administration, the FDIC, and the state banking authorities dictate how much of the
assets of credit unions can be used in mortgages or consumer loans as well as what rates
of finance they can charge to their shareholders (i.e., the member depositors). Similar
regulations are imposed by the Federal Reserve System, the Comptroller of the Currency
of the U.S. Treasury, the state banking authorities, and the FDIC on commercial banks
and mutual savings banks. One way the Muslims could circumvent these regulations in
the U .S. is by trying to form special types of financial institutions on religious grounds.
For this they need to lobby the state legislatures and the U.S. Congress and convince
them that the existing financial institutions do not meet their religious needs. This is not
going to be an easy task because the Muslims cannot cite the existence of a full service
Islamic banking institution in operation anywhere in the world which they can examine in
terms of its viability in North America. Besides, some states in the U.S. and the majority
of the Americans consider interest in regulated financial institutions as an element of
trade rather than a form of usury.
While the Muslims in the Muslim-majority countries can possibly borrow funds
from members of their extended families and friends for their short term needs, they
cannot usually do so in North America where they are not only a minority, but are also
scattered allover the continent in small families or as individuals. Forming financial
institutions is perhaps feasible in a handful of large North American cities where there is
a larger concentration of Muslims. The majority of the Muslims in North America,
however, will have to continue to use the existing banking facilities until such time as
they can convince the U.S. legislators that they need special institutions to conform to
their religious understandings. Their task will be much easier if the Muslim countries
themselves first come up with operational, full service banks that are based on Islamic
principles.
Investing in North America
The investment of surplus funds is less of a problem for the knowledgeable Muslims in
North America. Those who have sufficient funds can invest in real estate or start some
business. Others can invest in corporate common stocks.6 Returns from these are neither
fixed nor guaranteed. The investors share both losses and profits with the users of the
funds as do partners in trade. Using the services of real estate brokers or investment
brokers is sometimes warranted because such investment activities require considerable
paperwork and access to up-to-date information which an average investor cannot master
easily. The fees paid to brokers or middlemen are for genuine work and services and, as
such, cannot be considered at par with those middlemen at the time of the Prophet
Muhammad (may peace be upon him) who made money without any effort and,
consequently, were disapproved of by him.7
Investment in corporate bonds, notes, and commercial papers; in treasury bills,
notes and bonds; in C.D.'s; in bankers acceptances; or in money market funds should be
avoided by the Muslims because returns from such investments are fixed, even though
they may not always be guaranteed. There are some chances of loss of invested funds in
cases where such securities are not backed by any tangible properties. Investments in
options, commodity futures, interest rate futures, and in market indices are also
undesirable because these are all speculative in nature and may even be considered a
form of gambling.
Investment in shares of closed-end investment trust companies or in mutual funds
may be considered if the investor can ascertain that the funds of these companies are used
for investing in stocks of other corporations. These sorts of trust companies or funds do
have specific investment plans in either stocks only, or bonds only, or in a mixture of
both bonds and stocks, information which is available to all investors.
Those Muslims who are very particular about whether or not the corporations
whose stocks they buy deal with interest in their day-to-day operations have a very
limited choice indeed. Today's corporations do not generate sufficient funds by issuing
common stocks only -they are dependent on debts (i.e., borrowing on fixed charges) from
anywhere between zero to sixty percent for their total financial capital. They (i.e., the
Muslims in question) should concentrate on real estate and on direct business ventures.
The latter could be in sole proprietorship, partnership, or in the form of cooperative
ventures. If they are not dependent on investment income from their surplus funds, they
should, ideally, be lending money to the needy Muslims who cannot acquire funds from
the usual sources at no cost (or at nominal fees to compensate for the loss of purchasing
power of money over time).
The enterprising Muslims can form their own investment companies and invest
funds on behalf of their shareholders on permissible projects or securities. But before
doing so they ought to check with the state regulatory agencies for limitations or
restrictions on types of investments by such a public company.
Insurance in North America
Insurance is an essential form or financial service in North America. Without an
insurance policy one cannot register a vehicle, let alone drive it. Similarly, other forms of
property and casualty insurance are also required for property owners by law. Health
insurance is also required by major employers for their employees. The government
collects compulsory contributions for the so-called Social Security system which is
legally known as the Old Age, Survivors, Disability, and Health Insurance (OASDHI).
Contribution to group life insurance policies are often required of employees by large
employers. In addition, many Americans buy various types of life insurance policies to
protect their families from unforeseen casualties.
Many Muslims wonder about the permissibility of insurance, particularly life
insurance, in Islam.8 Those who support insurance argue that insurance is not gambling.
It is in fact an opposite of gambling. The act of gambling creates risks, while insurance
tries to manage existing and predictable risks with the objective of minimizing losses to
the insured. Insurance is based on the principle of shirakat (cooperation). Individual
buyers of insurance policies contribute towards coverage of losses by paying premiums,
which are based on objective probabilities of losses. The funds gathered through
premiums and from earnings on invested premium funds in other financial ventures9 are
pooled together to cover the actual losses of the insured. The funds that remain after
meeting all claims are then either redistributed among the insured, in the case of mutual
insurance companies, or to the shareholders of other forms of insurance companies. Even
in the latter case the insured, sometimes, benefits from surplus funds in the form of
reduced premium payments at a later date. The supporters of insurance consider the
insurance service an essential product of trade; therefore, the buyers of the product (i.e.,
the service) must pay for it in the form of payments, called premiums. Further, this group
also believes that life insurance is permissible under Islam, especially in a non-Islamic
community, so that the dependents of a deceased wage earner do not become a public
charge. They argue that it is imperative on Muslims to provide for their families ~o that
they do not become dependent on others in their absence. Every Muslim believes that the
most certain thing in this world is death and that God Almighty alone knows the
appointed time for each individual. The risk of death is there whether one buys an
insurance policy or not. According to one of the traditions of the Prophet (may peace be
upon him) a man came to see him from a far off place. "The Prophet (PBUH) asked him
if he had tethered his camel. 'No,' replied the visitor, 'I trust in God,' 'Trust in God,'
instructed the Prophet (PBUH), 'but tether your camel first.'”10 This prophetic tradition is
often quoted by the supporters of insurance to demonstrate that one should not only trust
God for the future but also should take worldly precautions against future mishaps.
(There is a saying that "God helps those who help themselves.")
Those who are against insurance claim insurance to be a form of gambling. They
believe that through insurance the insured parties try to avoid the consequences of losses
that are ordained by God Almighty. They think insurance creates risks because it
sometimes encourages the buyers of insurance to avoid taking proper safety measures
which, in the first place, could have removed the risk. They argue that insurance is the
main cause of arson and once insurance is removed, this social evil will disappear. They
also argue against insurance they believe insurance is unavoidably mixed with interest
and that without the use of interest, long term premiums for such policies as life
insurance policies cannot be properly determined. They also object to the investment
policies of insurance companies -which, by the way, are partly determined by the
government regulatory agencies and, as such, cannot be changed by the insurance
companies themselves. To overcome these objections mutual insurance companies can be
formed by the Muslims to meet their special needs provided the concerned legislative
bodies are willing to grant a variance to the existing rules and regulations.
Those Muslims of North America who seek life insurance coverage to protect the
family may consider buying term policies instead of whole life policies. Term policies
protect the dependents if the policy holder dies prematurely. If the policy holder survives
beyond the maturity date of the policy, he does not receive any lump sum like the
individual who buys whole life policy. The sum of money received by the latter includes
the agreed upon sum at the time of the initiation of insurance contract plus added sums
which are either dividends and/or interest earnings on the premiums. By avoiding whole
life policies one can avoid accepting interest payments. Besides, the premiums for term
policies are far less than those for whole life policies and the premium payments vary
over time in case of the term policy whereas it remains fixed throughout the life of the
whole life policy.
However, it may not be financially feasible for the Muslims in North America to
start their own insurance companies. This is because in order for such companies to
operate efficiently and to be affordable to the insured parties, they must insure millions of
dollars worth of policies. The existing insurance companies charge the minimal amount
of insurance premiums on insured properties (anywhere from 1/100th of 1 percent to
1/5th of 1 percent of the value of property as premiums) and on the life and the health of
the insured. Since the volumes of policies they deal with are large, they have made
insurance affordable to the average American. Whether or not the Muslims need their
own insurance companies and, if so, whether or not they can operate them efficiently
should be carefully examined before any decision is made in this regard. .
Notes:
1
By "banks" one normally means Commercial Banks. For this paper, however, thrift institutions such as.
Mutual Savings Banks, Savings and Loan Associations, and the Credit Unions-are also referred to as banks
because increasingly the distinction between commercial banks and the thrift institutions are removed
through legislation that began with the Depository Institutions Deregulation and Monetary Control Act of
1980.
2
This paper assumes that dealings in interest is prohibited in Islam without going into the controversies
about whether or not interest, as used in the U.S. financial institutions, can be called usury or Riba.
3
Financial institutions discussed in this paper refer to the ones in the United States. Canadian financial
institutions are quite similar in operation to those in the U.S. and, as such, are not discussed here.
4
Regulation Q now determines interest rate ceilings on such accounts, except on the large negotiable
certificates of deposits (CD's) which are exempt. The Depository Institutions Deregulation Act of 1982 The
Economist. Oct. 9, 1982, pp.89-90 phases out Regulation Q by January 1, 1984.
5
Some of the proponents of the Mudarbo banks feel that this problem will disappear if somehow today's
Muslim countries become Islamic countries. They argue that under an Islamic state the state will somehow
come up with funds to meet the needs of short term business loans as well as the consumer loans!
6
Preferred stocks should be avoided as the return on them are fixed.
7
There are various traditions of the Prophet (peace be upon him) which forbid a town dweller to act as a
"broker" for a desert dweller, etc. For more information see Sahih AI-Bukhari. 1976 Edition. Volume 3,
pp.206-207.
8
In the 1981 conference on "Insurance and Investment in Islam: In North American Context" we discussed
in detail all aspects of insurance from the various points of view. A monograph based on the discussed
topics and papers is now under preparation by this author.
9
Investment by insurance companies will be discussed shortly.
10
For reference to this tradition see Shaikh Mahmud Ahmed, 1964, p.160.