What is a sukuk
A sukuk is a form of financial certificate that is issued in compliance with Islamic finance principles and Sharia law. Sukuk is an Arabic word meaning 'deed, cheque, or legal instrument'.
The main purpose of a sukuk is to create returns for investors that are similar to the returns available on traditional fixed income bonds.
As the Islamic finance market has grown over the last few decades, so has the interest in and demand for sukuk bonds. Essentially, sukuk bonds are similar to traditional bonds in that they have parties who are involved in seeking a return on investment, and sukuk bonds are subject to the same credit rating as conventional bonds.
Sukuks are commonly used by corporations and even governments to finance their business operations.
Islamic Finance Principles And Sukuk
Sharia law does not permit investors to partake in investment activities that involve riba. The payment or receipt of riba (interest) is strictly forbidden in Islam.
Most conventional Western market bonds are based on an interest paying structure, and this is not permissible for investors who do not want to receive or pay interest on their financial investments.
Sukuks were first issued over a decade ago in Malaysia who were forward-thinking when it came to creating and supporting financial investment products that Muslims could be involved in. Bahrain was quick to follow Malaysia in issuing sukuks, and these days sukuks can be found in economies across the globe.
Sukuks take up a respectable share in the fixed income market globally. Sukuks have emerged as a great Sharia compliant alternative to traditional interest based bonds.
Sukuks offer Muslim investors the opportunity to invest in bonds and subscribe to certificates that represent the right to actually receive a share of profits that are generated by an asset base. The profits are generated by the asset base being traded on the market.
What do we mean when we refer to fixed income bonds? Sukuks are fixed income bonds. This means that they are fixed income investments and they can provide what is considered to be a more steady stream of income.
Islamic Bonds
Sukuks are considered to be Islamic bonds. They involve asset ownership which is direct, rather than indirect interest based bonds that Western markets tend to offer.
Any income, return, or profits generated from a sukuk cannot be derived from any speculative activity. This would render the return haram under Sharia laws.
So, how do sukuks work? What normally happens is that the issuer of the sukuk certificate will sell an investor a certificate. The proceeds of the sale are then used towards the purchase of an actual asset. The investor then has a partial interest in the asset based on their respective investment.
Another element of sukuk that is important to note is that the issuer of the certificate must promise that they will buy back the sukuk at a future date.
When it comes to sukuks, compliance with Sharia law means that any profits that are derived from the investment must be totally free of speculative activity and interest.
Sukuk Versus Traditional Bonds
As Islamic finance rules do not permit interest, this means that the traditional Western debt and loan instruments are not accessible to Muslim investors who want to comply with Sharia rules.
Sukuks have therefore become a great alternative for investors (Muslim and non-Muslims) to use sukuks as a viable alternative method of raising funds.
Sukuks are considered to be an interest in an asset, and not a debt obligation or debt instrument.
Conventional bonds and sukuks do have some similarities:
- Both traditional bonds and sukuks offer investors a stream of income payments. The payments on traditional bonds include interest payments, and the payments from sukuks are based on profits from the assets.
- Both bonds and sukuks are sold initially by issuers of the certificates.
- Sukuks and bonds are viewed as less risky than equity based investments
When it comes to ownership, sukuks allow for partial ownership of the asset, whilst conventional bonds are more of a debt obligation. Sukuks are not debt obligations.
It is also important to note that often, conventional bonds finance businesses or industries that are deemed to be haram under Sharia law principles. These haram industries include the gambling industry, alcohol industry, and porn industry. Sukuk bonds cannot be linked to any form of haram activity or industry.
HOW ARE SUKUK CERTIFICATES ISSUED AND HOW DO THEY WORK?
Sukuks are usually found in the form of certificates, also known as trust certificates. In the United Kingdom, sukuk certificates are regulated by the Financial Services Authority. In other countries and economic landscapes across the world where sukuk certificates are issued, there is similar regulation of them.
There is a very specific process for issuing any form of financial certificate including sukuk certificates/ bonds.
The steps below outline the most common steps that are involved in issuing a sukuk certificate:
- Normally a company that requires some form of capital will establish a special purpose vehicle that is known as an SPV for short.
- The company is known as the originator.
- The special purpose vehicle aims to protect the underlying asset from potential creditors in the event that the originator gets into financial difficulties.
- The special purpose vehicle issues the sukuk certificates.
- These sukuk certificates are then sold on to investors for a price.
- The originator uses the funds raised from the sale of the sukuks to purchase the asset they want.
- The special purchase vehicle will then purchase the asset from the originator.
- The special purpose vehicle will then establish a form of lease to lease back the asset to the originator.
- The originator will make the necessary lease payments to the special purpose vehicle.
- The special purpose vehicle will then distribute the lease payments to the investors.
- Once the lease is terminated, the originator will buy back the asset from the special purpose vehicle at nominal value.
- The proceeds of the sale are then distributed by the special purpose vehicle to the holders of the certificate.
Different Types Of Sukuk
As mentioned above, most sukuk certificates have been presented in the various global markets as trust certificates. It is very common for English common law to govern the law relating to sukuk trust certificates in different countries.
However, the management of sukuks varies from country to country so it is always advisable to do your research about the jurisdiction that regulates your sukuk. Information and transparency are key when it comes to any form of investment, especially sukuks. Where possible, always carry out an analysis of the sukuk product or service before you proceed.
The main types of sukuk are as follows:
- Trust certificates - in this form of structure the originator of the sukuk will create the special purpose vehicle and issue trust certificates to the investors. The proceeds are then used to build a portfolio of assets which will eventually yield a return.
- Civil law structures - these types of structures have emerged to enable sukuk transactions to be undertaken in accordance with the local laws of the country where the originator is based. One example of a country that used civil law structures when it comes to sukuks is Turkey. Turkey have passed their own legislation relating to sukuks which has to be complied with.
Sukuk For Investors
As Muslim investors have historically not had the opportunity to invest in bonds without an interest element, sukuk bonds have been welcomed across many global economies.
Sukuks are a great way of enabling investors to link returns with the cash flow of financing assets without the riba of traditional form of debt financing.
However, it is important to point out that sukuks as a form of financing should only be used for identifiable assets. Identifiable assets are those assets whose commercial value can be ascertained at any given point of time. Identifiable assets include things like real estate, equipment, cash, and stock.
In this way, the holder of the sukuk bond /certificate does not own a debt, but as the owner of the sukuk certificate, they own a share of the asset that is purchased using the sukuk funds.
Even though the special purpose vehicles that issue the sukuk certificates are usually brand new, this does not mean that investors will bear exposure to the credit risk of that special purpose vehicle.
Advantages Of Sukuk
Here are some of the main advantages of investing in sukuks:
- For those looking for investment from Islamic economies and markets there is a great marketing benefit to sukuks who will appeal to investors looking for Sharia compliant ways of investing their money
- Sukuks are known to yield similar profit on par with conventional bonds
- More bank and financial institutions are offering sukuk products (always check the website of any organisation offering Sharia compliant products to ensure that you have all the information you need)
- The investor base of Sharia compliant investors is vast and continues to grow
- In addition to the Islamic finance investment market, there is also potential to tap into the ethical investment market which has developed over the last few decades and is always in the news
- Issuers of sukuk certificates are entitled to the same tax arrangements as the equivalent traditional financing arrangements
- Assets that are acquired by the sukuk bonds are jointly owned
- Instead of receiving interest, the holder of the sukuk certificate receives actual profits
- Sukuks offer banks the opportunity and tools to invest their excess liquid assets
- Sukuks can operate for contractual terms that are agreed upon between the parties
- Sukuks continue to grow with success attracting all kinds of high-quality investors including Muslim and non- Muslim investors
- Sukuks have been used across various locations and industries including transport, water, power, education, infrastructure and industrial
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WHAT IS QARD AL-HASSAN?
Qard al-hassan, also known as qard al-hasan, is an Islamic finance term that essentially refers to a loan that is interest free. Typically in a transaction that includes qard al-hassan, the borrower will repay the amount owing under the principal amount without any other mark up or interest payment being charged. Qard al-hassan financial products are compliant with Sharia rules that dictate that interest (riba) payments are not permissible, whether the interest is being paid or being charged.
These types of loans offer financial solutions for Muslims looking to borrow funds that do not include any interest payments.
Qard al-hassan loans are loans that are provided to help others. The word hassan itself means acceptable or good (of good faith). Islamic banking services are now offering qard al-hassan loans for both Muslims and non-Muslims.
Qard Al-Hassan Loans
In Islam and Islamic banking, Qard al-hasan loans do not have an interest rate element, and this means that businesses and consumers are able to borrow money on a goodwill basis. Generally speaking, qard al-hasan loans tend to be used for welfare purposes. The Quran stipulates that Muslims should endeavour to provide these types of benevolent loans where possible and to those who need these kinds of services.
"Establish regular prayer and give regular charity and give Allah Qard Hassan" (Quran 73:20)
The principle of qard al-hassan in Islam enables Muslims to further the social justice ethos that underpins Islamic finance. Islamic finance facilitates loans from those with the funds to those who need financial assistance without breaching Sharia rules. Qard al-hassan can be viewed as a loan agreement that is akin to giving charity. The borrower and lender sign an agreement confirming the terms of the qard.
HOW DOES QARD AL-HASSAN WORK?
In Islam, qard al-hassan works in the following way. A lender will lend a business or service an amount of money that they need (usually for social justice purposes). The principal amount borrowed will be interest-free. The borrower will then repay the amount of money borrowed without any interest or surplus payments owing. Borrowers are permitted to pay an additional amount back to the lender as a gesture of goodwill, but this cannot be done based on any promise or commitment.
Qard al-hassan loans do not increase over time or accumulate any interest charges like traditional loans do. This means they offer problem solving solutions for Muslims.
The most important element of Islamic qard al-hasan loans is that they are untouched by any form of riba. There should not be any reference or link to the economic market conditions and fluctuations, and the lender cannot ask for the return of the loan before the contractual repayment period ends.
Qard Al-Hassan - The Redistribution Of Wealth
Islamic finance systems focus on socio-economic justice and the enhanced wellbeing of society, especially the alleviation of poverty. Alongside sadaqa and zakat, qard al-hassan is an essential Islamic finance instrument of redistribution of wealth.
Qard al-hassan minimises the cost of borrowing and remains compliant with Islamic Sharia law. It's one of several halal investing principles that guide how Muslims manage and grow wealth ethically.
Social Justice, Qard And The Islamic Finance Economic System
The Islamic finance economic system has always centred on principles of social justice (as mirrored throughout the practices and teachings of Islam). The focus of the finance system is to ensure and improve the overall wellbeing of society and using money to enhance social conditions.
Qard al-hassan is a key concept that acts as a crucial redistributive instrument. The distribution of funds from the rich to the poor aims to reinforce social unity and cooperation. As the global experience of, and appetite for, ethical finance options and factor analysis continues to grow, qard al-hassan is fast emerging as an important tool in the fight against poverty and the drive to ensure there is more financial freedom and equity for poorer communities.
As more and more Islamic finance companies and banks are offering innovative qard al-hassan products and financial services, project management for those customers and business operations working within the social justice sector will become easier and more accessible. Qard al-hassan services will start to become more readily available in banking and private sector financial industries.
The opinion of scholars is that qard al-hassan loans are problem solving as they facilitate the redistribution of funds that are compliant with ethical and Islamic finance principles. Islamic finance is facilitating financial freedom and investment options for those who have historically been excluded from traditional financial markets and industries that did not cater to their religious requirements.
According to Sharia law, qard al-hassan loans are deemed to be acts of good faith, and loans that help those in need. Advancement of news relating to qard products and websites, and information technology means that qard al-hassan financial services are more readily available and searched for online, especially in Middle Eastern territories. This has enhanced the supply and demand of qard services. Historically, qard al-hassan loans have proved to be effective for economic growth, enhancing employment, and alleviating poverty.
According to reports, global sustainable investment assets had exceeded $30 trillion by 2018, driven primarily by a surge in values-based investing [1]. The core concept behind values-based investing is that investments are made around a shared set of values present in an investment philosophy. This topic is even more prevalent now, as sustainable investing has been identified as key for the post-pandemic recovery. In this article, we provide an overview of a rapidly growing area within values-based investing called impact investing, that has grown to an estimated total market size globally of over $715 billion in 2020 [2]. We then compare the core values that are inherent in Sharia-compliant (i.e. Islamic) investing with those of other values-based investing strategies.
Overview of impact investing
The Global Impact Investing Network (GIIN) defines impact investments as "investments made into companies, organizations, and funds with the intention to generate social and environmental impact alongside a financial return".
Whereas financial returns are typically measured using commonly used metrics (ROE, ROI, etc.), what distinguishes impact investing is the measurement of social returns as well. Within this context, the main points to consider when measuring social returns are according to the United Nations Development Programme (UNDP) [3] are:
- Outputs are activities carried out by an organization or project. Outputs are meaningless without context. Let's take the example of building a solar power or solar farm to provide reliable power to communities for the first time.
- Outcomes on the other hand are short or intermediate-term, tangible effects observed by project beneficiaries. A tangible effect from the construction of the solar farm would be for example a reduction in energy costs for the project beneficiaries.
- Impacts are broader, more long-term and sweeping changes usually affecting a larger groups of people or community. Measuring impact in this sense is extremely difficult, particularly with regards to being able to isolate and quantify changes that are directly related to a project (i.e. holding all else constant).
Among all social returns impact is the most difficult to measure and hence there is an increasing focus in impact investing on measuring outcomes.
Foundations of Islamic finance
Islamic finance or Sharia-compliant finance involves financing activities that comply with the Sharia (Islamic law). For instance some prohibited activities include that financing must not involve:
- Riba or an increase in capital without any real services provided - akin to "usury" or unjust exploitative gains.
- Gharar or speculation or chance is not allowed - this includes for example excessive uncertainty regarding essential elements of a contract, such as price in a contract of sale.
- Haram (Forbidden) businesses or industries - This practically involves an exclusionary screening process as it is forbidden to finance companies that derive significant income from the sale of alcohol, tobacco, pork, weapons, gambling, pornography and interest-based financial institutions.
It is important to note that in Islam, money has no inherent value on its own. Money increases or decreases in value only when joined with other resources for the purposes of productive activities. All transactions must be based on real economic activity. Islamic finance also goes beyond the purpose of financing to cover the structure of financing. Contemporary Islamic finance incorporates these principles and others in a wide variety of products to meet the growing global demand for Sharia-compliant investment and financing.
Other values-based investing strategies
Socially Responsible Investing (SRI) also known as ethical investing, involves avoiding industries that negatively affect the environment and its people.This includes actively removing or choosing investments from a portfolio based on specific ethical criteria. SRI exclusionary screening avoids for example companies that produce or invest in alcohol, tobacco, gambling and weapons. Environmental, Social & Governance (ESG) investing grew out of investment philosophies such as SRI. ESG however is a framework for evaluating companies and not a standalone investment strategy. It is intentionally neutral - Not faith, country or industry specific.
Areas of overlap
Islamic finance & SRI show some similarities in their objectives (do good, avoid harm), methods (exclusionary screening) & claims (an emphasis on ethics). As mentioned earlier however, Islamic finance goes beyond the purpose of financing to cover the structure of financing as well. Islamic screening also goes over and above SRI screening to exclude other sectors such as interest-based financial institutions for example.
Similarities between impact investing and Islamic finance on the other hand stem from a a strong emphasis in Islam on social and economic justice as well as supporting any action with a view to protecting the planet and the environment. One area of overlap for example is around access to finance for the world's populations that are directly or indirectly kept out of formal financial sectors. Another interesting development is the issuance of green sukuks that are Sharia-compliant investments in renewable energy and other environmental assets. They address Sharia concerns for protecting the environment. It is however important to note that more has to be done in the Islamic finance space to measure impact and in particular measuring outcomes.
What is the role of Qardus?
Qardus is a social impact investment platform that promotes financial inclusion. The SMEs we finance in the UK were prior to this financially excluded due to the lack of financial products that conform with their ethics & values. Financial inclusion is positioned prominently as an enabler of other development goals in the 2030 UN Sustainable Development Goals (UN SDGs) such as regarding SDG 8 on promoting economic growth & jobs & SDG 10 on reducing inequality.
Along these lines, a recent report by Oxford Economics has also attempted to measure the outcome of lending on another crowdfunding (P2P) platform [4]. The report on page 9 indicated for every £1 million lent on their platform, there was a £2 million contribution to GDP, 37 jobs were supported, and £635k were generated in taxes.
[1] http://www.gsi-alliance.org/
[2] https://thegiin.org/research/publication/impinv-survey-2020
[3] https://www.undp.org/content/dam/istanbul/docs/Islamic_Finance_Impact.pdf
[4] https://www.oxfordeconomics.com/recent-releases/1074dfbd-d5e1-4498-abd3-95b399ad63fc
In the fast-paced and dynamic world of cryptocurrency and blockchain, staking is emerging as a popular way to earn passive income. This has led to discussions and debate about whether staking crypto is halal.
This article will examine the concept of staking and the considerations relating to whether it can be deemed to be halal.
WHAT IS STAKING IN CRYPTOCURRENCY?
In cryptocurrency staking occurs when investors lock cryptocurrency for a specific period of time. This is done to support the blockchain operation. The investor will lock in their digital tokens to a specific blockchain network and in return, they will earn rewards.
For the blockchain network, it means that transactions can be validated and for investors and individuals it means they can earn rewards without having to sell their crypto.
In comparison, bitcoin and staking are not linked. Bitcoin tends not to use the staking mechanism. Instead, it uses the proof of work mechanism where miners compete with each other to problem solve maths puzzles to validate transactions.
Any locked up cryptocurrency acts as collateral to support the blockchain network. This means that it is no longer available for use and therefore staking reduces the liquidity of the asset that has been staked for any given project.
HOW DOES STAKING WORK?
Crypto staking is a consensus-based mechanism. It enables token owners to validate a crypto chain by adding blocks. Using existing crypto to validate holdings as proof of stake on a blockchain.
Any newer blocks are also validated using the proof of stake mechanism. As the crypto funds are effectively locked in for a period of time this supports the activity of the blockchain. For the investor or asset owner who are using the blockchain platform, they earn staking rewards which are similar to earning dividends on their assets.
There are two main forms of staking:
- Independent staking : this method is used when an individual deposits their crypto token as a single and sole validator on a blockchain. There is usually a minimum token threshold. For investors using this form of staking they aim to benefit from being the sole beneficiary of rewards earned.
- Staking pools: staking pools are when there are a group of people who effectively pool their crypto tokens. This is the preferred method for newcomers to staking who want to share the risk with others.
Staking involves contractual terms that identify the obligations and the rights of the parties in the staking process. These terms can vary depending on the nature of the staking.
Sharia Compliance And Staking Crypto
Islamic finance provides the conceptual and foundational basis for operating financial transactions in line with Islamic rules. Operating in an Islamic finance framework means you use your finances to ensure you manage funds in an ethical and socially responsible way.
When considering crypto staking, it is important that you do all your due diligence. Investors or those staking their crypto need to understand the mechanism of staking and screen it for Sharia compliance. You need to fully understand what happens once you deposit your crypto onto a blockchain network.
In a proof-of-stake system, any crypto being staked is used to strengthen the consensus based network and improve the integrity of it. The profit is made from the rewards you receive for investing in the blockchain's sustainability.
Always make sure you understand the level of risk involved, the projects involved and the legitimacy of the network before staking your assets. A problem could arise if the blockchain itself is deemed halal but further down the line it starts to become involved in haram industries. Management of your crypto wallet should follow the same Islamic principles as your physical wallet. This requires ongoing due diligence.
Considerations
As a starting point, you need to ensure that the blockchain is not associated with any haram industries such as gambling, alcohol and pork. Look for morally sound initiatives and well-researched projects that have already been screened.
Another important point to consider is riba / interest. Whilst earning rewards via staking is not considered to be riba, examine the structure and payment of the rewards you will be generating. For many, staking a deposit is not seen as a loan so interest cannot therefore be generated. The reward is seen as the benefit of a joint endeavour, as more people join the blockchain, more rewards are achieved. The purpose of the stake is to improve the legitimacy of the network and to maintain it.
Another consideration is the governance and the values of the blockchain platform. Make sure that the governing values are ethically sound.
IS STAKING HALAL?
Consider all the advice in this article, but in particular, if you want to determine if any staking activity is halal you need to evaluate the halal status by ensuring:
- there is no interest / riba involved in the staking or the investment of any capital
- There is no excessive uncertainty or ambiguity - the terms required must be clear
- look for ethical compliance
- focus on asset backed transactions and stay away from gambling
- seek an expert opinion
- review the market the blockchain might be linked to and evaluate it for Sharia compliance
- review the other users of the blockchain
- make sure any incentive being offered is halal
- check the governance, infrastructure, platform and protocols being used
- learn all you can about your stake and the price
Staking in its traditional form does not currently involve any kind of loan or interest. There is no borrowing of money or any interest payment. Essentially, the software involved generates tokens as rewards. These rewards do not impact or come from any other users currency so there is no exploitation of others via investment or trading.
Practical Steps For Muslims Considering Staking
For anyone looking to stake crypto, it is essential that you seek guidance from scholars who are fully aware of Islamic finance concepts and principles when it comes to money matters. Look for blockchain platforms that are already established within Islamic networks.
Some of the benefits of crypto staking include having the opportunity to earn additional tokens (passive income). Also, as you are contributing to the security and efficiency of the blockchain network this could be seen as strengthening the decentralized platform for others.
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