Life Insurance in Islam - What You Need To Know
WHAT IS LIFE INSURANCE?
Life insurance is essentially a contract between a person and a life insurance company. In exchange for you making regular premium payments, the insurance company agrees to pay out a lump sum to your beneficiaries upon your death. Choosing life insurance policies can be a difficult task as there is a lot of information to plough through online. For Muslims, comparing and choosing a life insurance plan means that additional consideration needs to be given to insurance plans on the market that are compliant with Islam and Sharia laws and principles. Life insurance is about protecting those you love, and ensuring that when you die your estate is and interests are kept safe. Life insurance pay outs provide an essential benefit to dependants and family members. The life insurance policy does not insure the life of the insured, instead, it is more of a financial transaction that protects families of the deceased from unexpected financial risk in the future.
Whilst Islam does not expressly prohibit life insurance, there are some considerations that need to be borne in mind by those looking for Islam centred insurance products.
Life Insurance Plans In Islam
In Islam, life insurance is not seen as contradictory to any Islamic laws or principles. The last few decades have witnessed a monumental rise in the availability and popularity of Islamic banks and finance products in mainstream markets, offering Sharia and Islam compliant products such as Islamic mortgages, life insurance policies and Sharia compliant finance options. Mortgage loans in particular have become increasingly popular amongst people looking for banks that offer financial services that do not contravene any principles of Islam. Conventional mortgage loans were always deemed to be unlawful in Islam due to the interest (riba) elements.
Whilst most life insurance plans do not include interest payments, there have been some questions raised relating to the permissibility of life insurance, particularly when there is an element of risk involved.
Whether the life insurance policy is deemed to be halal in Islam is dependent on the type of life insurance policy you are dealing with.
What Are The Types Of Life Insurance
There are various types of life insurance policies available on the market. However, we will focus on two of the most common types of life insurance policy.
WHAT IS WHOLE LIFE INSURANCE?
This type of life insurance policy is one that ends on the date the insured passes away. Whole life insurance policies guarantee the family a pay out when the insured person dies. These types of policies continue to provide lifelong protection by the operators of the insurance policy. Whole life insurance is also known as life assurance. It essentially operates to ensure that whenever you die your family is protected financially when you die. There is no uncertainty about the monies being paid out, but you do have to maintain premium payments on an ongoing basis.
Whole life insurance is far more expensive than term life insurance when it is compared to term insurance (see below).
WHAT IS TERM INSURANCE?
Term insurance policies are considered to be protective insurance policies. These policies cover lost income when the insured dies and cover things like mortgage costs and the coverage protects you for a limited term.
One example of a term insurance policy is where a person is aged 30 and buys a term insurance policy that costs £20 a month. The terms of the policy guarantee a pay out to your beneficiaries of £100,000 if you die before you turn 50. If you do not die before you turn 50 then the policy comes to an end and the insurer is not required to make any payments. There is no guaranteed pay out to beneficiaries (unless of course the insured dies before they turn 50).
Although used interchangeably, the two terms - life insurance and life assurance - are very different. Both are forms of protection designed to pay out sums when a policyholder passes away. When you compare the two, however, it is clear that life insurance relates to a specific term and life assurance covers the whole life of the insured.
Islam And Life Insurance Plans
When it comes to Islamic life insurance policies, many scholars agree that when the principles of takaful are applied to insurance then it is deemed as permissible Islamically. Takaful is a form of insurance system that is compliant with Sharia law principles, and it basically involves the pooling and investment of funds.
Takaful is a form is Islamic insurance and is based on principles of cooperation, mutuality, joint interests and indemnity/ debt, solidarity, and common interests.
Policyholders of takaful policies are considered joint investors with the insurance operators. The vendors and the policyholders share in the pooled monies and they also share any losses. There is no guarantee of a positive return on investment, and there is no element of definite and fixed profits.
Muslims looking for Islam and Sharia compliant life insurance policies and products that contain terms that do not contravene Islamic laws need to ensure that they choose policies that do not include the following:
- any element of interest
- uncertainty
- high-risk
- ambiguous terms
- gambling
These are all prohibited in Islam.
The basic concept of takaful is that a group of people pool their funds together in a way that does not generate profit, but acts as a mutual benefit to those within the group.
Takaful is about communal, charitable ventures.
The principles of takaful in Islam can be summarised as:
- co-operation between policy holders
- losses and liabilities shared
- uncertainty eliminated or minimised
- No advantage for one party over another
In Islam, the concept of insurance is takaful based - a form of social solidarity. The takaful is based on principles of co-operation and trustees that safeguard the position of each person who has pooled their funds. Muslims looking for life insurance policies should seek to find products that are based around the concept of takaful.
Life insurance with takaful is considered to be fully halal, and provides financial protection alongside long-term savings.
Gharar And Life Insurance
Life insurance is considered to be an important financial planning tool, aimed at providing protection for the family and children of the deceased. However, Muslims looking for Islamic insurance products and services have raised the question about whether some life insurance policies, in particular term insurance policies, contain elements of gharar that deem the policies non-Islamic.
Gharar basically refers to uncertainty, risk, and deception. In transactions where there is a speculative element or a degree of uncertainty.
As term life insurance policies tend to involve an element of uncertainty about whether the pay out will be made (for example, if the insured passes away during the term of the insurance), there have been questions about whether this level of uncertainty leads to gharar. the uncertainty of death, that is only in the hands of Allah (SWT) is deemed to add a nuance of gharar to term life insurance policies.
Whole life insurance policies (life assurance policies) are deemed to be compliant with Sharia laws as there is no element of risk or uncertainty as the pay out is made on death. The certainty lies in the fact that we all die, and there is a guaranteed pay out.
Islam prohibits transactions where there is gharar - uncertainty. Whilst it can be argued that term life insurance policies have an element of uncertainty as none of us really know when we will die, modern insurance policies are less speculative than we like to think. Insurance companies will undertake due diligence based on the health and history of the insured to make sure that the risks are measurable and contained.
Also, it is important to note that, historically, Islam has permitted some gharar is transactions that provide a great benefit and this argument can be applied here.
Maysir And Life Insurance
Conventional insurance policies, particularly term insurance policies, require that policyholder could lose all the sums they have paid in to the policy if they do not die within the term. Maysir refers to the gambling element within insurance policies. In term insurance policies, whilst there is no profit element, if the insured does not die within the term then the insurance vendor does profit from the premiums paid in.
Islam prohibits gambling, and transactions where there are elements of gambling.
There are some Muslims who may think that term life insurance policies and products contain elements of maysir due to the uncertainty relating to the timing of the death, benefits, and pay out. However, unless a policy contains huge elements of uncertainty and elements of taking a gamble, it is unlikely that maysir fully applies. Ultimately, the responsibility lies with the person looking for the insurance policy to ensure that it does not contravene any Islamic laws or rules. This is why it is always best to search out policies that are based on Islamic finance rules.
Riba And Life Insurance
We know that riba (interest) is not permissible in Islam, and this is why so many mortgage loans and bank products on the market are not Sharia compliant. Riba usually comes into play in endowment insurance policies that promise a payment that is guaranteed.
Often in endowment policies, the insurance funds are invested in financial products and businesses that may contain elements of riba.
Islamic Insurance Policies
Muslims looking for insurance policies that comply with Islam and Sharia laws relating to financial products and services need to ensure that elements of uncertainty, risk and interest are not present in the insurance products they invest in.
Those looking for insurance policies that do not contravene any Sharia and Islamic principles should make sure that they undertake due diligence on the contractual terms of the policies and compare and contrast them.
We know that takaful is deemed halal in Islam, so any insurance policy that complies with the principles of takaful should also be deemed to be permissible. If you have a policy with insurers who invest the monies and the investment is in areas deemed haram by Islam (ie industries related to alcohol, gambling, porn etc), then you should look to switch to a policy that is more Sharia compliant.
Conclusion
The key to ensuring you have a life insurance policy that is Sharia compliant is to question what type of policy you have. Is it an investment based policy? Is there an exchange of money? Does it feel speculative? Where are the funds invested? Is there an element of risk that may lead to a cause of action against the insurance company? These are all questions that need to be addressed when looking for a Sharia compliant insurance policy.
Most reasonably minded people would agree that getting your financial affairs in order and protecting your family from financial risks in the future is a responsible action to take. Some people have speculated that taking out life insurance could incentivise others to murder the insured, but this is rarely the case. Insurance policies act as a form of protection, particularly for those who do not have substantial have assets or real property. Life assurance/ whole life insurance policies are considered to be compliant with Islamic rules.
Before you take out any life insurance policy, check for elements of gharar, riba and maysir. These three concepts are not permissible in contracts according to Islamic law.
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WHAT IS BANKING?
When we talk about banking, we are discussing the products and services offered by the financial industry including lending money, facilitating payments, and managing accounts. Banking services are available to individuals, companies, and governments. There are some key differences between commercial banking and Islamic banking.
Banks and financial institutions play an important role in the economy. Not only do they facilitate financial transactions, but they also act as intermediaries between businesses, between borrowers and savers, and between lenders and businesses.
Banks facilitate transactions and manage credit and debit accounts. The role in the economy goes beyond managing money. They are also responsible for ensuring the financial systems remain stable, and they are therefore subject to regulation and oversight by central banks.
The regulation of banks ensures that there is ongoing prudent financial management, and risk mitigation in addition to compliance with legal standards.
COMMERCIAL BANKING - HOW DOES IT WORK?
Commercial banking is a traditional form of banking used across the globe, especially in Western economies. In its very basic form, commercial banking relates to the services and activities that banks can provide to individuals, entrepreneurs, businesses and governmental organisations.
Commercial banks undertake various activities, including:
- Payments: commercial banks facilitate incoming and outgoing payments, transfers, cheques.
- Debit and credit cards: commercial banks provide customers with debit and credit cards
- Trading: banks also facilitate national and international trade by enabling international payments and foreign exchange transactions.
- Investment services: commercial banks offer brokerage services and accounts, advisory services, and information about investment options.
- Corporate banking: commercial banks offer the corporate world specialised corporate services to encourage and facilitate corporate trade and transactions.
Main Principles Of Commercial Banking
One of the main underlying principles of commercial banking is the payment and receipt of interest. A commercial bank makes money by earning interest on loans and financial instruments that it provides to businesses, individuals, and large corporations.
Commercial banks also make money from the fees they charge for their products. For example, when offering loans and mortgages, the bank will usually charge a fee for this service.
Commercial banking rests on the following main principles:
- Profitability - as with any commercial business, the banks main focus is on profitability.
- Liquidity - liquidity refers to the ability of assets to be quickly converted into cash/ money.
- Solvency - commercial banks need to be solvent at all times. What this means is that they have financial sufficiency and capability. This level of solvency enables banks to remain in competitive markets with enough capital.
ISLAMIC BANKING - HOW DOES IT WORK?
Islamic banking is very different to traditional commercial banking. Islamic banking is based on Islamic finance principles and guidelines. These guidelines follow Islamic Sharia law. Sharia law prohibits the receipt or payment of interest, as this is considered to be deeply unethical and exploitative.
Sharia compliant banking, underpinned by Islamic finance principles, does not charge or pay any form of interest. This does raise the question of how do Islamic banks make a profit if they do not charge interest to the customer.
The answer to this lies in the structure and the practices within Islamic finance institutions. Instead of making profit through interest, Islamic banks profit through equity sharing and partnership arrangements. These arrangements ensure that the profits and losses are shared between the parties.
Let's have a look at the way Islamic banks operate and how they make a profit:
- Profit and loss sharing - Islamic banks rely on Sharia concepts such as musharaka (cost-plus financing) and mudaraba (partnership based financing). The former requires both the customer and the bank to contribute capital and share in any profits arising from the investment. Mudaraba is a slightly different arrangement where the bank provides the capital and the individual manages the running of the business. Both these arrangements facilitate profit sharing in an equitable way.
- Asset-backed finance - Islamic banks rely on asset-based finance arrangements. Often, this means that the bank or financial institution will purchase an asset at the request of the customer and then sell it back to them. The sale back is at a higher price which is usually paid back in instalments.
- Investments - Islamic banks are permitted to engage in investment activities. However, the difference between Islamic banks and conventional banks is that Islamic banks retain control over the industries they invest in. They do not invest in industries that are deemed to be impermissible in Islam (ie, gambling, porn, alcohol). Additionally, any investment activity is not interest based and is not speculative or uncertain. This means the level of risk is often lower than the investment activities of commercial banks.
Key Principles Of Islamic Banking
As already mentioned above, the main principles relating to Islamic banking are derived from Sharia law. Sharia law guides Islamic finance and differentiates it from conventional commercial banking.
The key principles of Islamic banking are:
- No interest - there is a strict prohibition on interest (riba). This means that any deposit or payment does not accrue or attract interest in any form.
- Profits and losses - Islamic finance centres on the notion of equitable relationships and non-exploitative relationships. This means that there has to be equitable sharing of profits and losses between the parties.
- No uncertainty - excessive uncertainty is not permissible in Islamic banking. This means that any investor, entrepreneur, business, or leader looking to engage in activities needs to ensure that the trade or investment is not uncertain or ambiguous. Financial transactions should be transparent and solution based.
- Ethical and social responsibility - Islamic finance is underpinned by the key concepts of ethical behaviour and social responsibility. There is an onus on those with control to ensure that the parties engage in activity that does not adversely affect others and that benefits society as a whole.
- No speculation - it is important for Islamic banking to ensure that financial activities are based on real economic transactions, not hypothetical or speculative activities.
- No excessive debt - again, to ensure there is equity and transparency, Islamic finance requires that excessive debt is avoided. Islam promotes responsible borrowing and lending practices.
Commercial Banking Services Vs Islamic Banking Services
The main difference between commercial banking and Islamic banking are the main principles which guide the banking activities. As already discussed, Islamic banking does not rely on interest payments or interest based activities.
Whilst commercial banks rely on interest as a fundamental component when it comes to lending and borrowing, Islamic banks are more focused on a profit-loss sharing arrangement.
Whilst both commercial and Islamic banks offer a variety of financial products and services, Islamic banks have to ensure they are compliant with Sharia rules about financial activities. Islamic banks provide similar services to commercial banks (loans, mortgages, savings accounts etc) but the key difference is that they offer Sharia compliant alternatives to their clients.
Islamic banks actively avoid financial deals and transactions that are deemed to be risky and speculative such as derivatives and trading securities. The ethical and social responsibility element of finance is not something that features as heavily in commercial banking as it does in Islamic banking.
Commercial banks aim to generate and maximise profits through interest that is earned on lending and other banking services. For Islamic banks, interest is prohibited, so they look to Sharia compliant ways of generating profits.
It is important to remember that both Islamic and commercial banking aim to offer financial services to meet their clients needs. Islamic banking is favoured by Muslims because the principles of Islamic finance mean they remain compliant with their religious obligations. However, Islamic finance has a much wider appeal to customers across the Muslim and non-Muslim world.
The Regulatory Framework For Banking In The Uk
In the United Kingdom, the regulatory framework is managed by the Financial Conduct Authority.
As part of its supervisory and regulatory role, the Financial Conduct Authority aims to protect the customers of financial institutions that offer any form of financial product or service. The Financial Conduct Authority also ensures that it promotes healthy competition between financial service providers.
Risk Management In Commercial Banking
Risk management and mitigation are essential tasks for banks. Not only does risk management ensure that banks have a risk management strategy in place, but it also ensures banks remain compliant with the relevant regulatory regime in place.
Commercial banks assess risks on an ongoing basis to ensure that they can maintain their financial stability. Risk management also prevents unexpected losses that could occur and help the bank prepare for long-term viability and market fluctuations. Ultimately, commercial banking is arguably more volatile that Islamic banking as it places itself in a more fluctuating, interest and economy based market.
Islamic banking mitigates risk by avoiding interest based transactions, and discouraging speculative behaviour. The risk and reward is shared between the parties, this leads to shared responsibilities when it comes to risk.
Risk Management Is Islamic Banking
Risk management in Islamic banking is different from the risk management in conventional commercial banks.
Islamic finance promotes the forecasting of financial risks and ensures the necessary risk mitigation strategies are in place from the outset. Under Sharia rules and guidelines, Islamic banks manage risk via practices which actively mitigate risk. These practices include ensuring that is an equitable profit and loss sharing arrangements. Islamic finance also requires that parties to a transaction share the risk, so one party is not left dealing with huge losses.
Through intense screening and due diligence, Islamic banks assess feasibility in a more rigorous way than commercial banks. This helps them identify potential issues before they arise and mitigate risks early on.
Islamic banks will usually have Sharia compliant scholars and boards working with the bank and ensuring it is compliant and regulated. These boards provide Islamic guidance on complex transactions and reduce the risk exposure. Many Islamic banks will also ensure they have contingency funds and reserves to deal with unexpected events and losses.
When it comes to investment strategies, ethical investing (also known as impact investing) is gaining traction. Some commentators have credited the likes of Greta Thunberg for the increase in demand for impact investment products, but this type of investing has been around for centuries in religious communities and societies.
Impact and ethical investments concentrate on approaches and strategies that facilitate inclusion and integration. As a result, the transaction has a positive impact on the social and economic environment. The investment itself is deemed to be one which benefits the investor and the wider community.
For investors looking to align their ethics and values with their financial output, they want to be sure that their portfolio grows in a sustainable way that supports their role as an ethical consumer and investor. Many mainstream funds do not offer ethical products and services, but the tide is changing fast and there are more companies offering bespoke ethical funds for discerningly ethical investors.The main benefits of ethical/ impact investing include the following:
- The values of companies and investors can be aligned
- Companies committed to social causes can be supported
- There is a feel good factor associated with ethical investments
- For religious communities, ethical investments are compliant with religious rules relating to investing (Sharia rules for Muslims)
- Ethical funds are a real catalyst for change
- The financial outlay does what it says on the label - ethical investment
Socially Responsible Investments
Socially responsible investing is a term associated closely with ethical investing. Socially responsible investment has a social conscience and does not negatively impact society. There are many companies on the market that offer investors the opportunity to invest in funds that provide positive social change and impact.
Of course, for Muslim investors socially responsible ventures have always been on the agenda, even when the opportunities to invest responsibly were not widely available on various platforms. Islamic finance dictates that Muslims should not invest in any project that could be detrimental to individuals or society as a whole. This is part of a much broader Islamic value-based social system. Muslims are instructed to safeguard society, the environment and make ethical choices that do not negatively impact society.
Ethical Investments
The definition of ethical investing is centered on the core concept that it is possible to align your financial goals with your moral and ethical values. Ethical ventures are focused on ensuring that the primary filter when selecting opportunities relating to money is based on ethical principles and considerations. There is a demand for increased transparency when it comes to shares, trusts, stocks, bonds and returns.
Used interchangeably with socially responsible and impact investing, ethical investments require due diligence before the capital is actually spent. Assessing whether a fund is ethical is based on using certain environmental, social, and governance criteria which can help you decide whether your investment is, indeed, ethical and socially responsible.
What ethical investment facilitates is the ability for individuals to allocate their capital with companies and funds that align with their own personal beliefs. One example of this is investors who want to avoid industries deemed to be unethical such as gambling, porn, weapons, and alcohol.
For Muslims, ethical ventures go further and also seek to ensure that the investments are compliant with the principles of Islamic finance and Sharia law.
Islamic Finance And Ethical Investments
Whilst ethical transactions may appear to be a relatively new concept in the West, Islamically, ethical investments have been a central principal of Islamic finance for centuries.
Historically, religion and ethical investing have been aligned. Islamic finance prohibits any financing of industries deemed to be haram.
Socially responsible investing and Islamic finance have seen rapid growth in recent decades, and it is no coincidence that the two go hand in hand. Islamic finance centres on principles of social responsibility and impact. This is achieved through principles of sustainability, positive impact, and strong governance.
More and more investors are joining Muslim investors in looking for ethical funds, and funds that offer green funds, or those that support the environment positively.
In recent years, the growth of ethical investing has been fuelled by religion AND social views. Social trends that have begun to lean towards ethics, environmental impact, and transparency have meant that ethical investments have become more mainstream.
In the 90s there was a move away from funds and ventures in the fuel and coal industries, and industries using animal testing, as these were seen as being harmful to the environment and society as a whole. Moving away from environmentally damaging industries was seen as a way of problem-solving some of the damage caused by the operations of these industries.
Sharia Compliant Investments
Ethical halal investing focuses on socially responsible principles, prohibiting:
- Riba (interest)
- Gharar (speculation)
- Financial transactions in industries deemed to be haram such as the tobacco, alcohol and gambling industries
Environmental, Social, And Governance Considerations
In order to assess whether your portfolio is indeed socially responsible and ethical ,there are certain criteria that you can use. The criteria can broadly be divided under three main categories - environmental, social, and governance.
Investors need to review a broad variety of behaviors to understand if the investment is indeed sustainable, responsible, and socially impactful.
ENVIRONMENTAL
Environmental factors to look out when investing include assessing the impact of the investment on the following:
- Climate
- Pollution
- Waste
- Water stress
- Energy use
- Renewable energy
- Conservation
- Carbon footprint and ecological footprint
- Local economic policies
Environmental criteria will assist investors and companies to ascertain the impact of their ventures on the wider environment. Ethical companies should be aware of the environmental impact of their investments by using the criteria above to ensure that the risks are being identified, assessed, mitigated, and managed.
For example, investing in land development may seem like an ethical project, but what if the development adversely impacts local populations, natural resources, and contamination?
GOVERNANCE
In similar vein, anyone investing with a company will want to ensure that the company they use has a very transparent and accurate governance structure in place. Without strong governance, there is less accountability when it comes to ensuring that the investments you make are socially responsible.
The financial reporting and accounting methods, shareholders involvement, accountability, and financial management must have clarity and be transparent. For Muslims, they will also want to ensure that the investment company does engage in any investment behaviours deemed to be haram under Sharia law and Islamic finance rules, and ensure that haram industries are avoided.
When examining the practices of companies and businesses claiming to have ethical investment services and products, the following criteria should be carefully examined:
- The ethical and moral stance and values of the company
- The diversity within the company, shareholders, and board members
- The voting rights of shareholders and profit sharing arrangements
- Previous governance records
- Tax treatment and financial transparency
- What anti-competition practices are in place
- How the company manages financial and ethical conflicts of interest
- Asset management strategies and choices
- How the company treats its customers and investors
SOCIAL
Social criteria focuses on the business relationships of the investment company/ investment and the social impact.
Socially responsible investing focuses on social values, the environment and good governance. Does the investment company you want to invest in hold similar values to you? How committed are they to ethical values? Do they uphold Islamic finance principles? Does the company donate to charities that align with your charitable focus?
When considering the social criteria, you need to look out for investment and financial impacts on the following:
- Supply chain labour
- Ethical sourcing
- Data and privacy
- Protocols relating to health and safety
- Impact and bonds with local communities and links with them
- Previous investment history and sectors invested in
- How the investment portfolio is socially responsible
Ethical Investing
In order to ensure that the investment you make is ethical, you need to ensure that you do your research and analyze the historical, present, and predicted performance and standards of the investment you are interested in. Of course, there are many companies that offer ethical investment products, but that does not mean investors are absolved of their own personal responsibility to undertake research and ask their own questions.
Investors should:
- Review the mission statement of the investment company
- Check their track record of investments
- Review their ethical values and see if they align with your own
- Check if the company complies with laws and statutes
- Understand how ethical investments and funds operate
Is Ethical Investing Profitable
Ethical investing does not guarantee a profit. However, when it comes to the performance of ethical funds as compared to traditional investment funds, there does not appear any significant difference. In fact, ethical investments can sometimes outperform traditional investment funds.
The whole point of ethical investing is that you can invest your money in a way that yields positive results on society and also makes a profit. According to an article in the Guardian (December, 2021), in the United Kingdom alone, the annual spending on ethical services and products has exceeded £100 billion [1]. With the onset of the global pandemic and climate change, people are looking for ethical investments and industries far more than ever before.
The Future Of Investing
We have entered an era when socially responsible investing is increasingly in demand. The increase does not only relate to ethics and morals, but is also centered on principles of sustainability, investor goal-setting, values, protection of the natural environment, whilst still making money.
Gone are the days when investing in the stock market was solely for the purpose of generating income, with no thought for the impact of the investment. Modern ethical investors are keen to ensure their investments are transparent, socially responsible and with solid governance structures in place. Sustainable long term results are seen as aligning with the much broader objectives and principles within Islamic finance and the wider society.
For too long, investments have focused on profit margins over values. Ethical investing means that profits can still be prioritized, but they ranked alongside ethics and values and do not lead to the social exclusion of marginalized groups or countries.
Tips To Invest Ethically
Investing ethically is about more than making sure your investment appears to be ethical. It is focused on investors learning about what it is they are investing in, the social and environmental impact, and holding investment companies to account.
The following tips will help you avoid investments that do not align with your personal values and goals:
- Assess and identify your values and principles
- Learn about ethical investments and how they operate
- Build your investment portfolio carefully with sustainability and social responsibility in mind
- If you have ISAs or pensions review where they are invested
- Check your investment strategy - do you want to focus on start-ups or existing ethical investment companies?
- Make sure you diversify your portfolio across regions and sectors
- Planning your investment in advance
Sources Used In This Report
[1] UK annual spending on ethical products surpasses £100bn for first time [The Guardian, Dec. 2021] [https://www.theguardian.com/money/2021/dec/31/uk-annual-spending-on-ethical-products-surpasses-100bn...]
The purpose of Debt Consolidation is to reduce your debt and reshuffle it to make it more affordable to pay off.
Debt Consolidation works by combining multiple debts into one manageable pot. For example, if you have numerous debts that have a combined total of £10,000, you can get a single £10,000 loan to pay off those debts. You then would repay the £10,000 loan in one single monthly repayment.
Debt Consolidation can also reduce the interest you need to pay by having all your debt in one pot, at a lower interest rate.
Overdraft loans can take different forms, such as cash advances, business debt, and credit card debt. Keeping track of various debts and the interest required to be paid on them can be exhausting and time-consuming.
You may have various debts from different providers, but these debts are first paid in full before monthly repayments are made to a single provider. This way you are only accountable to one provider, keeping things simpler and straightforward.
For example, Sarah has a credit card with Santander, an overdraft with Barclays, and an asset finance loan she’s taken against a product. Consolidating these debts into a single loan allows Sarah to gradually chip away at her debts to one single provider.
Another example would be Ahmed, who takes out two business loans with the same provider. He now wants a third to invest further into his business. Just like Sarah, Ahmed can consolidate the loans he has already taken into one, straightforward loan from a single provider.
WHAT ELSE CAN DEBT CONSOLIDATION BE USED FOR?
Examples of different types of debt a consolidated loan can be used to combine:
- Credit card debt (consolidated loans help reduce the impact of the high APR - annual percentage rate - charges most credit cards have).
- Personal loan debt (these are often used to fund a car purchase, a holiday, or home improvements).
- Overdraft (most banks charge high-interest rates on overdrafts which can lead to substantial debts that can be financially crippling).
- A Store Card (like credit cards, store cards often have high APRs and fees, despite initially offering front-end discounts).
- Payday Loans (loans which can be paid directly into your bank account but have high-interest rates attached that can make repayment difficult).
- Bailiff debt (such as unpaid Council Tax bills, parking fines, court fines and county court, high court or family court judgments).
How Debt Consolidation Works
First, you’ll need to establish the total sum of your existing debts.
You can then take out a loan which will cover the total cost of the outstanding debt. When you’re looking for a new provider for a debt-consolidating loan, you will want to find a loan that works with your budget.
The idea is to create straightforwardness, simplicity, and manageability by consolidating your debts. So when choosing a new loan provider you’ll want to pick a loan repayment plan which is manageable within a reasonable time frame you know you can pay the loan back in.
Like any other loan, a debt consolidation loan is available in two forms:
AN UNSECURED LOAN
This is a personal loan that does not require an asset, such as your home, to act as security for the loan.
A SECURED LOAN
This is a loan in which you attach an asset, like your home or a car, as security. In the instance where you are unable to repay the agreed-upon loan, the loan provider can repossess the asset put forward by you as a security, where they can then sell it and recoup the loan by another means.
The Pros And Cons Of Debt Consolidation
BOOSTING YOUR CREDIT SCORE
Keeping to a single monthly repayment consistently will improve your credit score, giving you greater financial flexibility into the future. Alternatively, your credit score may be at risk if you cannot meet the monthly repayments.
LOWER OVERALL INTEREST RATES
Debt consolidation loans often have lower APRs than alternatives like payday loans, or credit cards.
EASIER DEBT TRACKING
Managing one repayment a month is much easier than several at a time.
YOUR ASSETS MAY BE AT RISK
If you choose a secured loan any asset you use as security for that loan will be at risk. This could be your home, car, or any asset the loan provider can reasonably be expected to sell should you be unable to meet the monthly loan repayments.
Ways To Consolidate Debt
O% INTEREST, BALANCE-TRANSFER CREDIT CARD
Balance-transfer credit cards are designed to let you move existing debt from one credit card - or several - to another card from a different provider. The purpose of this is to pay less interest on the transferred money. By doing this you will be able to clear your debt faster, because all of your repayments will be going towards paying off your debt, instead of being used to cover the interest.
When you receive a balance-transfer credit card you pay off the balance on your existing credit card using the new credit card. You then make repayments on your new balance transfer card to pay off the debt.
By using a 0% balance transfer card, you won’t be charged interest on the transferred balance for the duration of the interest-free period.
A DEBT CONSOLIDATION LOAN
A debt consolidation loan can help you gain greater control over your finances. Debt consolidation loans often offer terms between one and five years. In general, longer loan terms require you to borrow a more significant amount of money, so they may not be available if your consolidation loan is less than £10,000.
FEES AND CHARGES FOR DEBT CONSOLIDATION LOANS
It’s important to be aware of some of the high fees some companies charge for arranging a loan. You should read the small print carefully for any extra fees or charges before you sign anything. Check to see if there are any costs associated with paying off the existing loans early. This could cancel out any savings you make. Avoid paying a fee for a company to arrange the loan on your behalf, that is, unless you’re receiving advice and you’re sure it's worth the cost.
IF YOU CHOOSE A DEBT CONSOLIDATION LOAN
Get advice before you make a final decision. If you choose to go ahead with a consolidation loan, it may be worth talking with an independent financial adviser who might be able to find the most suitable product for your needs. Avoid just looking at the annual percentage rate (APR), or the annual percentage rate of charge (APRC) for secured loans. The APR is the interest you’ll be charged, and the APRC will include the extra costs such as an arrangement fee.
Qardus does not provide financial advice.
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