Sharia law affects Muslim and non-Muslim investors
Source: Courtesy of INSEAD Knowledge , Author: Grace Segran
Posted: Sat October 15, 2011 5:48 pm

UAE. Most countries within the Gulf Co-operation Council (GCC) have a dual legal system where the Sharia courts hear family disputes, including matters involving divorce, inheritances, child custody and guardianship of minors; and issues relating to corporations and businesses are heard by civil courts that operate on the basis of common law.

Non-Muslims are generally not required to appear before a Sharia court. However, this does not mean that foreigners in the GCC are completely unaffected by Islamic legal frameworks.

Ludmila Yamalova, a senior partner at the Dubai-based law firm Yamalova & Plewka, says she has seen cases in which expatriates in the United Arab Emirates (UAE) are affected by laws that are influenced by Sharia, such as inheritance laws.

For instance, if a foreigner has a will disposing of real estate in the UAE, it would undergo a very different process than it would in their home jurisdiction.

One area in which Sharia law is particularly evident in business today is in Islamic banking. For example, Sharia forbids earning money by investing in unethical businesses such as those that involve alcohol, pork, pornography, gambling or other things forbidden to Muslims. Hence Islamic banks and investment firms invest only in ethically acceptable ventures.

Sharia also forbids making interest on monetary loans. How then do modern economies in the Islamic world do business? Banks are known to hire Sharia scholars for the purpose of supervising its activities to ensure that they are in compliance with Islamic law.

Islamic economists today have developed a complex system of interest-free banking that complies with Sharia law, largely by organising banks on the basis of profit sharing. For instance, instead of lending a home buyer money and collecting interest, an Islamic bank buys the property and leases it to the buyer.

The buyer pays a certain amount to the bank every month, which covers the cost of the house as well as a predetermined fee that keeps the bank in business.

These efforts are seen by some as a constructive means by which the world's Muslims can participate in a globalised economy without undermining their cultural identity. Critics, however, argue that the means that Islamic finance uses to avoid the receipt of interest are just a sham in which interest is in effect paid, but called by another name.

Nonetheless, Islamic banking products have become hugely popular. According to The Banker, worldwide Sharia-compliant assets grew by 29 percent in 2009 to US$822 billion.

In the same year, Iranian banks were the biggest Islamic banking players, holding seven out of the top 10 ranks, and 12 of the 100. Saudi Arabia's Al Rajhi Bank had the highest net income figure of US$1.74 billion - the only bank to break the billion-dollar mark, which was almost three times more than the second-placed Kuwait Finance House. The bank also earned over five times the most profitable Iranian bank, Bank Tejarat.

Sharia-compliant finance is now the fastest growing segment of the global financial system. Samer Qudah, a partner at the law firm Al Tamimi and Company, argues that (for this reason) Sharia is not always a hurdle to foreign businesses in the region.

In light of the global financial meltdown, governments are now taking a closer look at the principles of Islamic economics, which they believe can mitigate against some of the risks that have affected so many banks around the world.

Financial instruments such as derivatives, which are believed to have caused the collapse of the banking industry, are forbidden within the Sharia framework. Since Islamic banks cannot make money from interest, they must find ways of investing in economic activity, such as an asset or a service. The innovative products offered by Islamic banks may offer solutions to a global banking industry that has become increasingly risk averse.

This article is republished courtesy of INSEAD Knowledge

Copyright INSEAD 2011.

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