What is Riba (Interest) and its Types

Rana Muneer Ahmad

The word 'riba' means to increase, to grow, to multiply and to climb. However, in economic context, it is generally considered as a contractual increase on loaned money or commodity. This word as such or its variants have been used in numerous versus of Quran. There is, however, a complete consensus among Muslim jurists that only in the following eight verses of Quran, this word has been used in its economic sense: -

What is Riba?

And from the riba-based giving (investment), you think as if your wealth is increasing at the cost of others (borrowers), but in the sight of Allah (from overall perspective), it is not increasing. On the other hand, when you give something in charity to please Allah, then your wealth is increasing (in the sight of Allah). (al-Room 30:39)

And for their (Jews’) devouring of riba even though it was forbidden for them, and for their (Jews’) wrongful appropriation of other peoples' property, We (God) have prepared for those among them who reject faith a grievous punishment. (al-Nisaa 4:160-1)

O Believers! Do not charge riba on top of riba and fear God so that you may prosper. (Aale-Imran 3:130)

People who indulge in riba shall be raised like those who have been driven to madness by the touch of Devil. That is because

they say that a riba-based transaction is just like trading, while God has permitted trade and prohibited riba. Hence

those who have received the admonition from their Lord and have desisted accordingly, may have what has already

passed, their case being entrusted to God; butthose who revert to riba-based dealings, shall be the inhabitants of the hell-fire and abide therein for ever. (You must know that) God deprives riba from all blessings and blesses charity; He loves

not any ungrateful sinners. (al-Baqarah 2:275-6)

O you (who claim to be) believers! Fear God and give up riba that remains outstanding if you are true believers. Watch out! If you do

not obey this commandment, then God declares war against you from Himself and from His Prophet. But, if you give up your outstanding riba, then you can claim your principals. Neither should you inflict harm

(due to riba) to others, nor others should do harm to you. (al-Baqarah 2:278-79)

Riba in Hadith: On the topic of riba, there is a big number of ahadith.3 Here a selection of commonly quoted ahadith is reproduced that is divided, for

pedagogical purposes, under the following four titles: -

1. Ahadith that reinforce the concept of Quranic riba

1.1 The Prophet said: "There is no riba except in loaning." (Nasaee 4504)

1.2 The Prophet said: "Verily riba is in loaning." (Muslim 2991)

1.3 The Prophet said: "There is no riba in hand to hand (spot)

transactions."(Muslim)

1.4 At the last Pilgrimage, the Prophet said: "All of the riba of Jahilliya is annulled.

In this respect, the first riba I annul is the riba that the borrowers owe to my

uncle Abbas; it is cancelled completely. (Muslim)

1.5 After the prohibition of riba, all Muslims were clear not to indulge in it anymore. However, a

dispute arose between two Muslim tribes about

the settlement of outstanding interest on previously loaned capital. The dispute was put up to the Prophet who forbade demand and payment of that

interest too. (See Shafi 1996 p.28-9)

There are two types of riba which are Riba on credit (riba al-nasiyyah) and riba on cash (riba al-fadhl).

1. Riba on Credit (riba al-nassiyyah)

Literally: Riba denotes increase, addition or excess.

Usury on credit (riba al-nassiyyah) refers to a stipulated increase over the loan which a debtor agrees to pay to his creditor in relation to a specific period of time. In other word It is a fixed charge payable by the borrower to the lender irrespective of what the loan money produces.

Types of Riba

The additional amount is determined

in relation to the amount of debt and

the period of the loan.

Accordingly, the scholars consider

any advantage that is derived from the loan as usurious.

This type of riba is prohibited by the Quran in 2: 275-281, 3: 130, 4: 160 and 30:39.

Determination of the additional amount

2:275 "Those who charge usury are in the same position as those controlled by the devil's influence. This is because they claim that usury is the same as commerce. However, GOD permits commerce, and

prohibits usury. Thus, whoever heeds this commandment from his Lord, and refrains from usury, he may keep his past earnings, and his judgment rests with God. As for those who persist in usury, they incur

Hell, wherein they abide forever.

The hadith of the Prophet (pbuh) states: “Jabir said that Allah’s Messenger (pbuh) cursed the accepter of interest and its payer, and one who records it, and the two witnesses, and he said: They are all equal.”

Riba usually arises when the parties to a loan contract deal with properties which are perishable and homogeneous such as gold, silver, money, dates, salt, etc.

When lending these properties the creditor is not allowed to charge the debtor for their use.

In contrast, a person may charge another for the use of his usable property such as a house or a car.

• A question may arise that if a person can charge another for the use of his house why shouldn’t he charge him for the use of his money.

Question

• House and money belong to two different types of properties. While a house is a usable property that can be used many times, money can only be used once. For example a person who uses his money to buy a computer cannot use the same money to buy another thing. The same applies to other homogeneous properties such as rice, sugar, oil, etc.

Answer:

These properties can only be used once and therefore, Islamic law prohibits renting money which amounts to usury and allows renting a house and other usable properties.• It is allowed to lend or borrow money. While lending these properties, any condition for additional return is considered usury. Assigning time value to money is equivalent to accepting that money can be rented out. Usury therefore amounts to renting money. Furthermore, when a house is rented it is certain that the tenant would get benefit or usufruct from the house.

Money, on the other hand, had to become part of an enterprise and combined with efforts in order to give

benefit/profit. The money would have to be invested and there could be the possibilities of profit and loss. Charging an extra amount for the time, irrespective of the outcome of the enterprise is considered injustice. Instead of renting

money Islamic law recommends profit and loss sharing contracts.

Some writers have differentiated between usury and interest on the ground

that:

Usury involves loans for consumption while the

interest involves loans for production.

They argue that

Interest, is an extra charge imposed on a debtor who borrows

money for productive purposes such as investment, industry and

trade.

Usury and interest any difference?

Usury is an extra charge imposed on a debtor who

borrows money for consumption such as his own personal day-to-

day needs.

Interest is a reasonable charge for the use of money employed

in productive purposes while usury is unjust and forbidden.

• This view however could not be maintained. A debtor who borrows money for investment, trade, and business may face one of the four possible situations:

Observation on this opinion

1) He may make enough profit to pay the capital and interest and

keep the balance.

2) It is also possible that he may make

profit enough to pay for the interest while he may not get any share of the profit.

3) There is the possibility that he may not earn any

profit in which case he has to return the capital and pay the

interest. He may suffer losses.

In these three out of four possible scenarios, the

transaction is not fair to the borrower. Even in the first example

the transaction is not fair to the creditor as it is possible that the debtor may keep a larger share of the

profit for himself and return a smaller

percentage to him.

Thus: charging interest on loans granted for productive purposes could also be

exploitative and unjust to either or both of the parties. It is therefore argued that riba covers all types of loans where interest is

charged whether they are made for consumption or production purposes.

Exploitative nature of granting loan for business•If a loan (qardh) is granted for investment purposes:•The lender is only guaranteed his capital and he cannot claim any share in the profit.

He is also protected from any loss made by the borrower.

Islamic law prohibits the stipulation of any condition in a loan contract that would benefit the lender. Any

loan that generates conditional benefit to the lender is prohibited.

• It is recommended that loan should not be granted for investment purposes. The parties instead should enter into musharakah or mudharabah contracts where they have to share profit and loss on equitable terms.

Granting loan for investment purposes

This is based on the fact that:• One of the main purposes of the Shariah that the use of wealth should benefit not its owner, but also the other contracting party and the society as a whole. This is best achieved by musharakah, mudharabah and other trade-based transactions.

• In musharakah or mudharabah the risks and rewards of investment are shared between the fund owner and its user. The investment also benefits the society as it serves their needs.• In contrast, usury only guarantees a certain pre-determined rate of return to the fund owner and ignores its user.

The shares of fund owner and fund user in a musharakah or mudharabah are tied and connected to the underlying economic activities. They are entitled to receive a certain pre-determined percentage of the actual profit made by the investments.

A fund provider cannot claim a certain fixed rate of interest irrespective of the amount of profit made.

In contrast, in usury the return to the usurer is fixed in advance. The usurer is guaranteed a certain cost for his fund irrespective of the actual outcome from the investment.

This pre-determination of return to the usurer ignores the economic realities on the ground and therefore introduces distortion into the market. Particularly,

when we consider that the pre-determined interest is

added to the cost of production and the prices

of goods.

Comparison between Islamic economy and

usury based economy:

1) An Islamic economy is an exchange-based

economy, economy where goods, assets and services are exchanged for money. In a usury-based economy

the principal economic activity is the exchange of

money now for more money later.

2) Islam wants a society of investors and entrepreneurs while a usury-based economic system

creates a society of lenders and borrowers.

3) Islamic transactions connect the fund to a real asset-based economy. When there is inflation the loss in purchasing power of a currency is

compensated by the increases in the value of the assets. In contrast, usury-based transactions create artificial money in the system without any

corresponding increase in the real goods and products which leads to inflation.

Fadhl literally means excess or surplus. Usury in sale (riba al-

fadhl) was not known to the pre-Islamic Arabs and was

prohibited at a later stage by the hadith of the Prophet

(pbuh). Usury in sale takes place when a ribawi commodity

is exchanged for an unequal amount of the same commodity or when the amounts are equal but one of the counter values is

delivered later. The hadith states:

2. Riba in Cash (Riba al-fadhl)

"Abu Said al-Khudri (Allah be pleased with him) reported Allah’s Messenger (pbuh) as saying: Gold is to be paid for by gold, silver by sliver, wheat by wheat, barley by

barley, dates by dates, salt by salt, like for like, payment being made hand to hand. He who made an

addition to it or asked for an addition, in fact dealt in usury. The receiver and the giver are equally

guilty.”

In another hadith narrated Abu Said Al-Khudri and Abu Huraira (Allah be please with them): Allah’s Apostle (pbuh) appointed somebody as a

governor of Khaibar.

That governor brought to him an excellent kind of dates (from Khaibar). The Prophet (pbuh) asked, “Are all the dates of khaibar

like this? He replied, “By Allah, no, O Allah’s Apostle! But we barter one Sa’ of this (type of date) for two Sa’s of dates of ours and two Sa’s of it for three of ours.” Allah’s Apostle (pbuh) said,

“Do not do so (as that is a kind of usury) but sell the mixed dates (of inferior quality) for money and then buy good dates with this

money”.

• Gold, silver, wheat, barley, dates, and salt are also called ribawi properties.

The Zahiris have maintained that riba

al-fadhl may only happen with regard to those six specific commodities. They do not extend the

hadith to other commodities.

All other Fiqh Schools are of the opinion that the

hadith is of general application and is not necessarily

confined to these six items but could be extended to other

commodities through analogy (qiyas).

Juristic opinions on ribawi commodities

a) Riba al-nasiyah is prohibited by both the Quran and the

Sunnah while riba al-fadl is prohibited by

the Sunnah only.

b) Riba al-nasiyah may happen in cases

of loan where the parties are the lender and the

borrower while riba al-fadhl may happen

in a sale contract where the parties are the seller and

the purchaser.

The differences between riba al-nasiyah and riba al-fadhl:

c) In cases of debt it is possible that a debtor voluntary returns an

additional amount t the creditor while in exchange of ribawi commodities against each other any addition by

any of the parties is prohibited.

d) Riba al-nasiyah arises in relation to time while riba al-fadhl may also arise in a spot

transaction.

e) Riba al-nasiyyah is considered bad in itself

(haram li-dhatihi) while riba al-fadhl is considered bad for the sake of others (haram lii ghairihi) as it leads to riba

alnasiyah.

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