Ethical Equity Finance Solutions | Sharia-Compliant
Introduction
Equity financing refers to a particular method of funding a business to sustain and grow its operations. Equity involves raising funds by issuing shares for investors. Investors who buy shares of a company become shareholders and can earn investment gains if the stock price rises in value or if the company pays a dividend. Dividends are typically cash payments as a reward to shareholders for investing in the company. Equity finance allows a company to raise these funds without borrowing from conventional banks, which typically charge interest. In equity financing, there is no promise to repay the investment like in a loan arrangement, nor is there an interest component.
Impact
Equity finance has no impact on a firm's profitability, but it can dilute existing shareholders' holdings because the company's net income is divided among a larger number of shares. This means that the overall number of shares have increased but the percentage of shares owned by a shareholder decreases. For example, let's say a company has 100 shares outstanding, and an investor owns ten shares or 10% of the company's stock. If the company issues 100 additional new shares, the investor now has 5% ownership of the company's stock since the investor owns five shares out of 200. In other words, the investor's holdings have been diluted by the newly issued shares.
Generally, equity finance has the following characteristics:
- Shareholders get a level of ownership in the company
- Shareholders do no receive any interest payments, but may receive a dividend
- The investment is generally permanent without any maturity
- Upon liquidation, shareholders through equity financing are generally last to be paid
Sources of Equity Financing
- Funds are generally raised through the following methods when financing through equity issuance:
- Personal finances / bootstrapping - most small business begins this way
- Venture capital (VC) - businesses who specialise in making investments in companies in whom they see potential
- Private investors / angel investors - like VC, but they are usually individuals rather than firms
- Family & friends - taking cash from people you know in exchange for part ownership
- Crowdfunding or equity crowdfunding - a recent method of fundraising which gives the public early or exclusive access to a product or service in exchange for up-front funds. Equity crowdfunding involves offering shares for funds at an early stage
- Government - in certain circumstances a government grant may be available for small businesses
- IPO (or initial public offering) - to float your company on a stock exchange and sell shares to the public
Shariah structures for Equity Financing
There are two famous structures in Islamic Finance which are used to establish equity financing, they are Mudaraba and Musharaka.
Mudaraba
Mudaraba refers to a relationship between an investor (Rab al maal) and an investment manager (Mudarib) to establish a profit-sharing partnership to undertake a business or investment activity. Under this structure, the Rab al maal provides the financing or funds and the Mudarib provides the professional, managerial, and technical know-how to carry out the business or manage the investment. The Mudarib must invest the funds in a Shariah compliant way. The parties share in any profits according to a pre-agreed ratio. In a Mudaraba, the Mudarib:
- Puts only its time and effort at risk and does not contribute any capital.
- Is not responsible for any losses of the venture. Losses, however, are borne entirely by the Rab al maal.
Musharaka
A Musharaka is an investment partnership or joint venture compliant with Islamic principles. In a Musharaka, the financing party and its client contribute assets (cash or property) to a joint venture and share in the profits of the joint venture in agreed percentages. The joint venture is structured so that the financing party receives its initial investment plus a return that is usually calculated by a reference to a benchmark. Losses, however, are shared in accordance with the parties' initial investment. All Musharaka parties have the right to exercise control over the joint venture but it is typically managed by the client.
Musharaka is similar to Mudaraba except that in a Mudaraba only the financing party bears the losses associated with the joint venture or partnership.
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The success of your business depends on three factors - your product, your marketing and your funding. Most businesses fail not because of their product or their marketing, but because of cash flow problems. It's poor funding that brings them down.As an entrepreneur and business owner, it's easier to get excited about your products and their potential, rather than about your finances. But without secure financial foundations, that excitement can soon turn to frustration.Cash will flow into your business as you sell. But in order to sell you first need money to invest in stock, people and premises. Whether yours is a startup company or you're looking to expand, you need funds to invest in advance of starting to see sales coming in.There are many different forms of business funding. Here are some of those most commonly used by business owners.
Your own money
Many small businesses rely on the founder or owner providing at least some of the capital. There's always an element of risk in starting or growing your business and by funding it yourself, you're not accountable to anyone else. This does mean, however, that if the business doesn't grow as you hope, you risk losing some or all of the money you've invested.Using your own money allows you to be in full control of how you run the business. However, you could be missing out on the advice and guidance that's often available when you're borrowing from someone else.If you're starting a new business, or expanding your current business into a new market, you should anticipate costs being higher than you expect and allow a generous contingency to cover the unexpected. Small businesses don't grow without some mistakes being made, and these cost money. In the longer term, you learn from these mistakes, and they help you make better decisions in the future. However, if you're working on a very tight budget, these costs could seriously hold you back.
Friends and family
You may know people who are open to investing in your business. Some may be willing to give you a loan, quite possibly on generous terms such as with low or no interest and flexible repayment terms. Others may want equity in return for their money - they effectively become co-owners of the business, although probably only owning a small slice.It's for you to determine whether friends and family money is appropriate. It can be very convenient, and flexible, but at the same time you need to be aware of how financial arrangements can affect your relationships with people close to you. If all goes well, there's unlikely to be a problem. But if the business struggles, they may become concerned or even demand some of the investment back.When borrowing from friends and family, it's a good idea to draw up a document that will help to set everyone's expectations, both for how much involvement they will have in running the business, and how and when they will be repaid. They should be made fully aware of the risks involved when putting money into a new venture.
Grants
A grant is money that does not usually need to be repaid. There are various local and national grant schemes available to businesses, usually linked to startups, growth or innovation. They can range in size from just a few hundred pounds to many thousands, even millions.While grants can be hugely beneficial to entrepreneurs, they can also be time-consuming to apply for and sometimes come with quite stringent conditions. Many grants are based on match funding, meaning they won't cover the full cost of a specific project - you are expected to raise some of the funds from elsewhere.
Secured loan
A secured loan is where you borrow from a bank or other institution and if you fail to make repayments the lender has rights over an asset that you own, such as your home or business property. Because the loan is secured on an asset the lender has confidence they will get some or all of their money back, should you run into financial problems.It can take a few weeks to set up a secured loan because legal documents must be drawn up and signed off. The advantage of such a loan is that because it's secured, you may get more favourable terms, such as lower interest charges or a longer repayment term. The downside is that if you fail to keep up with repayments, your property is at risk. Most lenders aren't in a hurry to sell your asset, as they'd rather you found ways to keep up your repayments. However, they have that option if they need it.Applying for a loan will usually require you to provide considerable information about the financial position of your business, along with projections about future income and cash flow.
Unsecured loans
An unsecured loan is where you borrow without providing an asset as security. However, most banks and other financial institutions do ask for a director's guarantee or equivalent. This is where the director agrees to take personal responsibility for repaying the loan, should the business be unable to do so.Because it's not linked to an asset, an unsecured loan can be set up more quickly. However, for the same reason the amount you can borrow is likely to be lower, and the terms less favourable.These loans can come in various forms, including business credit cards, which are effectively an indefinite loan where you choose how much you want to borrow and repay on a monthly basis, subject to certain limits.
Venture capital and angel investors
Venture capitalists and angel investors are individuals or groups seeking to put money into businesses with growth potential. Venture capitalists are investing funds on behalf of a third-party and as such, they are more risk averse. They're looking for evidence that the business has a promising future. An angel investor, or business angel, is a high-net-worth individual who is often more open to getting involved with a startup and will take a bigger risk.The money they give you is not a loan. They are effectively buying part of the business - they have a stake in the equity of your business, meaning they become co-owners. This can have some implications for the amount of control that you have over how you run the business, but can be beneficial, giving you a source of advice and support, and it can provide a strong incentive for you to be more successful.Both VCs and angel investors will make a careful assessment of your business and its potential, and they know that by investing they are taking a risk. At some point they will want to be repaid - often when the business is sold.
Crowdfunding and peer-to-peer finance
The internet has made it much easier to connect people who want to invest, often small amounts, with businesses looking to raise working capital - the cash they need to operate and grow.Crowdfunding is where a business wants to raise money to launch a specific product. The business can be either a startup or an established firm. It launches a crowdfunding appeal to people likely to be interested in the product. The funders typically don't have a right to be repaid if the business or product fails, but if it all goes well, they get access to the product on preferential terms. Two of the most well-known crowdfunding platforms are Indiegogo and Kickstarter.Peer-to-peer finance matches people and businesses with money to lend with others looking to borrow. Top peer-to-peer sites include Zopa and Funding Circle.Any business looking to raise money through crowdfunding or peer-to-peer systems is usually required to undergo credit checks and other financial assessments, to ensure the risk to investors is minimised.
Finding the right way to fund your business
Finding the right way to fund the plans for your small business depends on many different factors, including how much you need to raise, when and how you'll be able to repay it, and your attitude towards giving up some ownership or control of the business. Potential lenders or investors will be interested in your business history, your credit rating and your growth potential. Each will have different attitudes to risk.
Small business funding with Qardus
We provide funds to small businesses with a proven track record that are looking to grow. Our finance is ethical and community based, providing funding from £50k to £200k with terms of between six and thirty-six months. Our funding process follows Islamic principles, meaning we don't charge interest and we don't work with industries considered harmful to society, such as alcohol, tobacco and gambling. The funding is Sharia-compliant, making it an attractive option for Muslim business owners, but we also fund others outside the Muslim community.We offer fast, flexible and affordable unsecured finance, firmly grounded in ethical principles.
WHAT IS STUDENT FINANCE?
Student finance in the United Kingdom is funding that is available for students to access to help cover the cost of their further education. The organisation that is responsible for administering and calculating the extent of the student loan payment is the Student Loans Company.
The Student Loan Company was founded in 1990 and was created to provide students with financial support towards their further education. Currently, student finance can be applied for by students to pay for their university tuition fees and living costs while they are studying.
Every student in the UK is entitled to a loan to cover tuition fees. Tuition fees tend to be decided by the universities and the Student Loan Company will make the payment direct to the educational establishment. Currently, in the UK those studying full time can receive up to £9250 per annum towards tuition fees, and additional funds for living costs known as the maintenance grant.
Repayment Of Student Loans
Student loans need to be repaid in full whether or not the student completes the university course or not. The amount you repay depends on your income and is deducted from your salary in the same way National Insurance and tax are deducted.
You become eligible to repay your student loan (with interest) once your income exceeds a certain threshold. In the UK this threshold is currently around £25,000 per year. Repayments are calculated at 9% on sums over the threshold, and the repayment is subject to interest charges.
WHAT IS MEANT BY HALAL STUDENT FINANCE?
Halal student finance in the UK refers to those financial arrangements that students can access to advance and fund their further education. Any halal student finance or loan needs to be compliant with Islamic finance and Sharia principles relating to money.
Specifically, Islamic student finance means that there should be no interest payable or charged on the loan or fees associated with education. Islamically, interest is considered to be haram and should be avoided at all costs.
The concept of halal student finance is structured to ensure that is adheres to Sharia rules and that the financing of education is compliant with ethical and religious rules. The main principle to be aware of is that the arrangement must not involve any form of interest and the transaction should be non-exploitative and transparent.
For many Muslim students, not having access to halal student finance via the Student Loans Company means they do not pursue their further education goals. The main reason for this is that the current student loan system is based on interest repayments.
Student Loans And Interest
Interest on student loans is an integral part of the system that funds further education. This is generally how student loans operate:
- Student applies for university, is accepted on to the course, and then makes a student loan application.
- There are two main elements to the student loan:
- Tuition fees that cover the cost of the course tuition
- Maintenance loan that is aimed to help with the living costs including rent, and books.
- To be eligible for a student loan you need to be resident in the UK and have been accepted on to a course.
- Repayment of the student loan includes interest and the rate of interest depends on factors such as when you took out the student loan. Repayment only begins post graduation and once you earn over a certain threshold.
- Interest on the loan accrues from when you receive the funds until the full loan is repaid.
In addition to student loans, there are also scholarships and bursaries available for some students. Postgraduates can also apply for student finance but whether they receive it or not depends on their circumstances.
Before considering any form of loan it is important for you to gather all the information relating to the loan and how it impacts you now and in the future. Whilst many see student loans as an investment in the future, there have been concerns raised about the inability of Muslim students to access student finance.
WHY IS IT IMPORTANT FOR MUSLIM STUDENTS TO ACCESS HALAL STUDENT FINANCE?
Muslims want to be able enter and partake in higher education without breaching Sharia rules. Currently, as the UK student loan system is interest-based, this precludes many Muslims from being able to access the funding they need to study further.
Islam prohibits interest and at the moment there is no interest-free funding option for students. There is a need for student finance based on Islamic finance principles that form part of the student loan scheme in the UK.
It's not only the interest element that is a problem for Muslim students. The existing student loan system is subject to change and this could fall into the remit of gharar (uncertainty) in Islam which is discouraged.
Without doubt, a halal payment system for Muslim students will facilitate greater inclusion in the education system.
Islamic Finance And Student Loans
Some key features of a halal student loan include the following:
- interest free loans: it goes without saying that any form of student finance must ensure there is no interest being charged or paid in order for the loan to be deemed halal. Instead, what is expected to happen is that the lending institution or bank charges fees or alternative structures to fund the transaction.
- Ethical: halal student finance cannot be unethical. This goes against the basic Islamic finance principles. Any halal form of finance or funding needs to steer clear of haram industries such as gambling, porn, and alcohol.
- Transparent: for a student loan arrangement to be compliant with Sharia rules, it must be transparent and clear. Both parties in the transaction should fully understand the terms which themselves should be clear and non-ambiguous.
- Risk and profit sharing: a key component of Islamic finance is that there is adequate profit and risk sharing between the parties. The student should not bare all the responsibility and risk in this kind of arrangement.
Consultation On Halal Student Finance
In 2014 the government launched a consultation relating to Islamic finance based student loans. What they found was that of the 20,000 respondents, over 90% stated that there was a demand for Sharia compliant student finance.
In March 2023 the government in the UK (having consulted on lifelong loan entitlement) confirmed that although a Sharia compliant student finance product was not available, it was committed to funding an alternative form of finance for students.
The government discussed several criteria that should be applied in a halal student finance system including:
- repayments should be easy to make
- any alternative system should be operated through the student loans company
- debt and repayment levels should be the same as they are for other students
- the service should be easy to use and transparent
Halal Student Finance And The Takaful System
At the time they were considering halal student finance options, the government concluded that a takaful system would be most appropriate. In Islam takaful refers to Islamic insurance and is based on cooperation and mutuality.
Takaful systems operate without insurance or gharar.
Unfortunately, no halal student finance option ever really emerged. Instead the government focused on other areas of student finance and simply concluded that they would continue to consider halal student loans.
Whilst government controlled and regulated student loans may not be available as yet, there are still halal finance options available. Some financial institutions are offering Sharia compliant loans that could be used for education.
Tips For Students Who Want Halal Student Finance
For students who are looking for halal student finance alternatives, here are some options you can consider:
- Research Islamic finance products and services
- Look into Islamic scholarships
- Speak with Islamic finance advisors
- Speak to your university finance team and ask them for details of hardship funds or grants
- Consider interest-free loans from family
None of the above are ideal for Muslim students but could provide alternative halal funding for further study.
The future of halal student finance is dependent on many factors including the demand, the economic landscape, and the continued growth of Islamic finance. The Islamic finance industry is innovative and dynamic and could partner up with educational establishments in the future.
Increased awareness and education about the need for halal student loans is also something that could potentially speed up the availability of halal loans. Muslim students need to stay informed and alert and always explore all the options available to them before deciding against pursuing further education.
Introduction
A pension fund is a pool of money that is managed by professional fund managers. The aim of the fund is to save money and invest money in preparation for retirement. A Sharia pension fund is a saving scheme for retirement that aligns with the rules of Islam. Sharia pension funds do not attach themselves to any form of interest or any haram industries.
Sharia pension funds are ethical investments, with funds invested in industries that offer social benefits such as healthcare, agriculture, and education.
With the rise of Islamic finance on a global level and the increased demand for Sharia-compliant financial services, the growth of Sharia pension funds has expanded significantly.
Sharia pension funds will typically have a screening process ensuring they comply with Islamic finance rules. It is important for these types of pension funds to have ongoing compliance monitoring, which means that a qualified Sharia scholar or expert reviews compliance regularly.
In 2024 Sharia pension funds saw significant growth. The Nest Sharia Fund increased its assets by a third to over £180 million.
Historically, Muslims have found it difficult to fund Sharia-compliant funds. The Office for National Statistics found in 2021 that 33% of Muslim employees did not have a workplace pension due to concerns about Sharia-compliance.
These statistics make it clear that there is a huge market for pension funds that comply with Islamic finance principles. Recently, the Financial Times has reported that Sharia pension funds are seeing a huge swell 'amid returns boost'.
WHAT MAKES A PENSION FUND SHARIA-COMPLIANT?
The key features of a Sharia-compliant pension fund are:
- Strictly no interest: the pension fund should have no involvement with interest in any way. This means that any interest-yielding activities, industries or products are not permissible.
- Ethical investing: the pension fund should be mindful of the industries the investments are involved in. Industries and sectors considered haram such as gambling and alcohol should be avoided.
- Compliance: compliance and ongoing monitoring are essential for a Sharia complaint pension fund.
- Sharia screening: financial and ethical screening must take place to ensure that organisations invested in have low levels of overall debt.
- Models of operation: profit-sharing and risk-sharing are the encouraged models of partnership working.
Some examples of Sharia-compliant funds include the following:
- sukuk/Islamic bonds
- investing in property without interest-based loans
- investing in ethical and sustainable industries such as healthcare
Comparing Top Sharia Pension Plans
If you are looking for Sharia-compliant pension funds to ensure you can save for retirement without breaching Islamic rules, then Penfold and Nest pension funds are a good place to start.
Nest Sharia Pension Fund
The Nest Sharia Fund invests in what are known as Islamic bonds (sukuks) that are fully Sharia-compliant. Nest ensures that Islamic scholars screen the investment products and services to ensure they adhere to Islamic rules.
In addition, Nest's Sharia Fund avoids haram industries and interest-bearing investments.
Nest's fee structure consists of a contribution charge (around 1.8%) and an annual management charge in the region of 0.3% based on the value of the fund.
With ethical investments at the core of its activities, the Nest Sharia Fund delivers growth whilst generating income. More recently, Nest has worked on diversifying its investment portfolio to include a 30% allocation to the sukuks it invests it.
Penfold Sharia Pension Fund
The Penfold Sharia Fund invests in a diverse portfolio of companies and funds that all operate in accordance with Sharia principles.
The Penfold fee structure charges an annual fee for savings up to £100k of 0.88%, and this fee drops to 0.53% on amounts over £100k. This transparent and easy to follow fee structure makes this pension fund attractive to investors.
Both these Sharia pension funds use rigorous screening processes that aim to ensure that all investments comply with Islamic finance rules.
If any company they invest in has a proportion of what is considered to be non-compliant income (ie income from interest), then they use purification processes such as donating money to charity.
Investment Risks And Rewards
Sharia pension funds are the same as all investment vehicles on the market. They come with their own unique set of risks and rewards. For Sharia pension funds, the risk management and mitigation strategies should be aligned with Islamic rules.
Sharia pension funds tend to avoid fixed income securities and conventional bonds as these vehicles rely on interest. Instead, Sharia pension funds prefer to invest in Islamic bonds.
Risk
The risk profile for Sharia pension funds can sometimes have a higher risk exposure due to the fact that they stay away from conventional interest-bearing bonds.
Return
In the long term, Sharia-compliant funds deliver comparable and competitive returns to conventional bonds.
Ethical Investments Vs Conventional Funds
It is important to note that Sharia pension funds maintain a balance between competitive financial returns and ethical investment strategies. This makes Sharia funds an attractive option for investors.
If you are looking for investments that focus on societal benefit whilst generating an income (or savings pot) then Sharia pension funds are a great alternative to conventional bonds.
Ethical sectors have seen a massive resurgence in recent years, with strong growth potential. Industries such as renewable energy and technology are prime for investment.
Investors are increasingly considering environmental, social and governance (ESG) factors when examining pension funds.
- Over 89% of investors consider ESG when investing.
- In the UK over 57% of investors now hold ESG investments
- Young Gen Z investors are increasingly interested in ethical investments
- Islamic funds continue to deliver results with nominal growth rates of 84% and 13% of annualised growth rates (Morningstar.CA)
How To Choose And Switch To A Sharia Pension Fund
In order for you to choose a Sharia pension fund you need to ensure you understand what a Sharia pension fund is and how it operates.
If you have a pension fund that you want to switch to a Sharia fund then you need to:
- Review your current pension fund.
- Find out if your pension fund provider is able to offer a Sharia-compliant fund.
- If not, ask if you can switch your pension fund.
- Check your pension fund information to see if there are any penalties or fees for switching to a Sharia-compliant provider.
- Research what Sharia pension fund providers are available and make sure they are fully Sharia compliant.
- Choose your new pension fund provider and open an account.
- Ask your current pension provider to transfer your fund to the new Sharia-compliant provider.
If you want to transfer a workplace pension then speak to your HR team or your employer to find out if they accept transfers of the fund.
Switching to a Sharia pension fund should be straightforward.
Future Of Sharia Pension Funds
Sharia pension funds are becoming a popular investment vehicle and retirement savings plan for Muslims and non-Muslims. The ethical investment market continues to grow as investors across the world seek out sustainable and ethical investments.
Underpinned by social responsibility, the investments within Sharia pension funds appeal to a global audience of investors.
Sharia funds have become known in financial circles as promoting financial inclusion. They cater to investors who have not been able to fund ethical investments or investments that align with Islamic rules.
If you want to prepare for retirement in a Sharia-compliant way then Sharia pension funds provide the perfect vehicle for you. Providers like Penfold and Nest provide Sharia-compliant pension funds with competitive fees.
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