Thread by @DrNazamDz

@is_storytotell @aminonati @sukhywukhy @afyanIFP
@SafdarAlam #islamicfinance #ethicalfinance
Memulakan pagi saya di tahun baru 2022 dengan tweets debat isu yang telah lama diperkatakan tetapi sering di ulang siar. Orang putih kata “old wine in a new bottle”. Tak salah

https://twitter.com/is_storytotell/status/1477880220275253249

terus memperkatakan isu ini semoga terus diberi pencerahan insya-Allah. Izinkan saya berkongsi sedikit tulisan saya dan rakan-rakan dalam isu ini. Dipetik dari Bab 6: The Integrity of Islamic Finance

dalam buku Ethical Discourse in Finance: Interdisciplinary and Diverse Perspectives terbitan 2021 oleh Palgrave Macmillan link.springer.com/book/10.1007/9…

Al-Ijarah Thumma Al-Bai’ (#AITAB)
Experience from Malaysia matters here because Islamic hire-purchase practice is more widespread in this Muslim-majority country. In Malaysia, Islamic hire-purchase is commonly marketed as Al-Ijarah Thumma Al-Bai’ (AITAB). The fundamental issue is

that both AITAB and conventional hire purchase are regulated through the Hire-Purchase Act 1967. Therefore, the calculation of ‘term charges’ for both conventional and AITAB adopt the formula set out in the Sixth Schedule of the Act.

The concern here is that the term charges are calculated on a simple interest basis at a rate specified in the agreement. For example. in the case of a vehicle financing, if the term charges calculated as a rate per centum per annum specified in an AITAB agreement is 2.44%, and

the repayment period is nine years (i.e., 108 months), then the monetary value of term charges for a vehicle with a cash price of RM114,000 is RM25,034 (i.e., 2.44% × RM114,000 × 9).

This means that the total amount repayable by the consumer is RM139,034 (i.e., RM114,000 + RM25,034).

The AITAB agreement may state that term charges are the profit rate that is used to calculate the rental rate for the Islamic hire purchase, but the use of an identical formula

to compute the interest rate for conventional hire-purchase raises eyebrows. It can be similarly argued that the bank is actually lending RM114,000 and charging RM25,034 in interest. In this case, the simple interest per month to be paid by a borrower to the bank

is approximately RM231.80 (i.e., RM25,034 / 108 months).

One could argue that the vehicle and ‘aqad’ instrument used in AITAB can be seen as disguising the money-lending activity of the bank. As in the case of a conventional banking system,

the bank essentially ‘created’ a deposit (money) of RM114,000 and loaned the money out to a borrower who was in need of a vehicle. The bank can actually generate more profit than RM25,034 from this money-lending activity due to the reinvestment activity.

If the bank invests the monthly interest it receives of RM231.80 and reinvests for every successive month during the repayment period, the bank will also profit from interest-on-interest. Following the Annual Percentage Rate (APR) for term charges as calculated in accordance with

the formula set out in the Seventh Schedule of the Hire-Purchase Act 1967, the effective annual rate for the investment and reinvestment of interest income is 4.5%. This yields a monthly reinvestment rate of approximately 0.375% (≈ 4.5% / 12).

Therefore, using the monthly compounding concept of interest, the total interest and interest-on-interest earned by the bank throughout the 108 months is RM25,034 and RM5,759, respectively (Note:RM5,759 is the total interest earned on reinvesting every sum of RM231.80 in interest

on a monthly basis). In this practice, when the bank lends RM114,000 in money that it had created, it could be receiving in return RM144,793 (i.e., RM114,000 + RM25,034 + RM5,759) though the borrower’s repayable amount is RM139,034.

One could gather from the above illustration that, by default, banks can earn not only interest but also interest-on-interest (compound interest) through their money-creating, lending and reinvestment activities. The calculations of both simple interest and compound interest are

provided in the Hire-Purchase Act 1967, which regulates both Islamic and conventional hire-purchase in Malaysia. According to Section 4c(1)(c)(viii) of the Act, every hire-purchase agreement shall set out in a tabular form the APR for term charges which shall be calculated

in accordance with the formula set out in the Seventh Schedule of the Act.

Not surprisingly, in practice, the APR is not stated in an Islamic hire-purchase agreement. By all means, such concealment (if any)

does not necessarily suggest the absence of compounding interest practice. Following the conventional norm, a bank is deemed inefficient by letting money sitting idle not earning anything.

From this perspective, an attempt to distinguish Islamic banks from their conventional counterparts is fraught with confusion, if not deception.