The role of technology in advancing Sharia-compliant business finance

Crowdfunding

For new businesses, entrepreneurs, and those with creative ideas, finding the appropriate finance to fund their ideas and projects can be difficult. It is even more difficult for those who are looking for funding options that are Sharia compliant. Without the necessary funds, creating a successful business or launching an idea is near impossible. Crowdfunding has emerged as a great way to raise capital and find the financial backing you need.

For Muslims, crowdfunding can be viewed as a halal way to raise funds, without having to resort to conventional funding options which are interest-based.

Crowdfunding facilitates economic growth for many companies, startups, medium enterprises, and individuals. In return for the investment, investors aim to receive a return from the profits generated.

This article will examine what crowdfunding is, who benefits from it, why more and more Muslims are using crowdfunding platforms, and what you need to look out for if you want to keep your money halal.

Basic Concepts Of Crowdfunding

The very basic concepts of crowdfunding revolve around raising funds from a crowd of people - hence the name crowdfunding. Essentially, it is the crowd that funds the project.

This is an alternative to going to a bank for a loan and securing funding that is essentially a debt.

Some of the key concepts that crowdfunding is based on include:

• the project: a creator or company starts the crowdfunding campaign based on a project or idea. The idea is presented via the online crowdfunding page coupled with a request for for investment and financial backing.
• the platform: the crowdfunding platform is the means by which creators are connected to the angel investor, venture capitalists, potential donors, investors, companies, and backers. Some popular crowdfunding platforms include Indiegogo, GoFundMe, and Crowdfunder.
• Investors: the investors or backers are the individuals or companies that contribute funds to the campaign. In return, they can either receive rewards, equity or just the satisfaction of knowing they have made a contribution to a campaign they believe in.

You can see why any startup company or entrepreneur would look to crowdfunding as a viable way of raising funds.

A crowdfunding campaign should include full details of the project and present it well on the relevant platform or website. The details should be precise and include:

• the project details (including the industry, the market targeted, services on offer)
• the funding goal
• what the money will be used for
• timeline of the deal

Conventional Crowdfunding Types

Some conventional crowdfunding types include the following:

• Donation based crowdfunding: this is where donors contribute to the campaign without expecting anything in return. Many charitable causes raise money this way, but it is also used by individuals for personal fundraising.
• Reward based (equity crowdfunding): this type of crowdfunding is when backers contribute funds to a particular project in exchange for non equity rewards. These can include incentives, early access offers, or special merchandise.
• Debt based crowdfunding: this is the type of crowdfunding where backers lend money to the crowdfunder on the understanding that the money will be repaid (this usually includes interest repayments).

Crowdfunding - Islamic Finance

Some of the basic Sharia rules relating to finance must be complied with if any crowdfunding campaign is to be considered halal. As a financial model, Islamic finance has been successful for many decades. Not only does it facilitate financial inclusion for marginalised communities, but also ensures that small and medium sized businesses have accessible finance.

Islamic crowdfunding aligns with the ideals of Islamic finance, with the focus on the development of society and individuals whilst meeting Sharia goals.

Conventional finance and management has not been able to support small and medium Muslim businesses in the way that crowdfunding has. This is because conventional financial transactions relating to funding are based on interest and debt repayments. For Muslims, this is a price they are not willing to pay.

Crowdfunding is a public-private collaboration, and when done in a Sharia compliant way, it can offer Muslims a viable way of raising money whilst also delivering economic growth.

In fact, crowdfunding as a concept is not unfamiliar to Islamic finance. The current crowdfunding concept can fund its roots in the concept of Islamic microfinance which aims to bring social justice and equity into financial transactions.

IS CROWDFUNDING SUITABLE AS A HALAL FORM OF FINANCING?

To answer this question we need to examine whether crowdfunding can be compliant with Sharia rules, and what Sharia rules state in relation to crowdfunding. Crowdfunding at its very essence is a social collaboration idea, and this fits with Islamic finance principles.

The idea is that individuals collaborate and donate resources to a project, service, or trade that they believe in. With Islamic finance's emphasis on equitable wealth distribution, crowdfunding certainly meets this focus.

Wealth distribution in a fair way is a core principle of Islamic law, and what better way to flow funds from one person to another than crowdfunding. Crowdfunding enables the public to help private sector companies and individuals to grow their enterprises in a socially responsible way.

Another important aspect of Islamic finance to mention here is the focus on ethical responsibility and profit and loss sharing (risk taking). This is pretty much what crowdfunding does. It allows companies and individuals to share in the risks being faced as well as the opportunity to share in the rewards and returns that are generated.

Of course, not every form of crowdfunding model is halal. For example, any form of crowdfunding that includes interest payments or haram industries or enterprises is not permissible and not Sharia compliant. In fact, any crowdfunding model involving interest or speculation is prohibited.

It is important to ensure you do your research and find a project and platform that works within the parameters of Islamic finance rules.

Islamic Crowdfunding

Islamic crowdfunding enables investors to support small and medium businesses in their economic activities via a distribution of wealth. Look out for projects that have an element of social and economic justice attached to them.

There are many crowdfunding projects out there which aim to relieve poverty and to provide financial aid to the poor based on charitable donations and these projects always do well.

Mudaraba contracts can be used in Islamic crowdfunding. They work on the basis that:

• profits from the projects are distributed between the creators and the investors.
• predefined percentages are used in relation to profits
• Investors do not influence the project or have veto powers
• the contracts are beneficial for startups with innovative ideas

In addition, having a zakat based crowdfunding project would also be a concept that is compliant with Sharia rules. Those in need of zakat can set up campaigns asking for zakat money or charitable donations.

Sharia Rules And Regulations

As already mentioned, any crowdfunding project must be Sharia compliant if it is deemed to be in accordance with Islamic finance rules. This means:

• the project, goods, or services must not be involved with any haram industries (porn, alcohol, gambling).
• the capital used to finance the project must be halal
• no interest can be paid or charged
• a Sharia supervisory review should be in place to monitor and track the crowdfunding campaign

Challenges For Those Offering Islamic Crowdfunding

Despite their popularity, crowdfunding campaigns also have their own unique challenges.

Some of the challenges include:

• Generating public interest: one of the main reasons crowdfunding campaigns fail is that they do not generate enough interest from people. Getting the attention of potential funders and investors is key to a crowdfunding campaign.
• Trust: with so many crowdfunding campaigns live at any given moment, some investors shy away from crowdfunding. Before you try and raise any money via crowdfunding, it is important to be able to tell the story of the project and why funding is needed.
• Ideas protection: as with anything these days, once a crowdfunding campaign does well, 10 similar projects will come forward. When presenting your project on any platform you need to ensure that you provide enough information to garner interest from backers, but also keep enough back so you can protect your idea.
• Risk management: as Sharia rules state that profits, losses and risks should be shared equally it is important to ensure that the crowdfunding arrangement meets these goals.
• Technology: in many countries around the world, electronic payment methods are still not common. This means crowdfunding still has limited availability to the poorest in our society.

Overcoming Challenges

The best way of overcoming the challenges relating to crowdfunding is to make it more accessible. By its very definition, crowdfunding is a concept that relies on the crowd to forward fund projects.

Due to the importance crowdfunding places on sharing and participation, crowdfunding platforms across the world are demonstrating cultural and social benefits. As a new platform, there is still more regulation and development to come, but for Muslims it is an innovative approach to raising finance in a halal way.

One of the most fundamental points to remember with crowdfunding is that crowdfunding itself is not automatically deemed to be halal. Each crowdfunding investment opportunity of project needs to be evaluated by the investor or creator to make sure the investment complies with Islamic finance rules.

In addition, the crowdfunding platform and the project need to be assessed on an ongoing basis. Do not assume that once a project starts it will remain halal. Muslims who want to use crowdfunding to raise funds or to invest must ensure that they continue to ask questions, undertake due diligence and consult with scholars and financial advisors who understand Islamic finance.

Green investments or sustainable investments are those that are deemed to be socially responsible with a positive impact on the environment and wider society. As a complete financial system, Islamic finance facilitates green investments and what this means for investors is an increase in sustainability growth. When green investment and Islamic finance come together they drive sustainable growth.

Islamic finance is growing in popularity and was a system devised many centuries ago. In comparison, the green industry is relatively new. Islamic finance's emphasis on economic justice and focusing on marginalised communities and organisations is the foundation of its principles.There are increasing collaborations between the green industry and the Islamic finance industry.

They complement each other and offer benefits for organisations, and both client and customer.

WHAT ARE GREEN INVESTMENTS?

Green investments are also known as socially responsible investments or sustainable investments. They are centred on those investments that positively affect society, organisations, and people.

Green investments range from renewable energy, to clean technology, sustainable agriculture, green bonds to impact investing.

Green investing aims to ensure that investors who want to align their financial transactions with their ethics can do so. That is not to say that green market investments do not provide good financial returns. On the contrary, like Islamic finance, green investing has proven to be revenue generating whilst also being eco-friendly.

Types Of Islamic Finance Based Green Investments

The kinds of Islamically compliant green investments are wide ranging. They cross various industries from agriculture, to environmental protection, to clean technology. Both Islamic finance and green investments focus on equity, regulation, risk management ,and understanding the needs of the parties.

ESG, that is environmental, social and corporate governance are all key considerations. Islamic finance is the financial tool that an institution can use to remain Sharia compliant and green focused.

With the alignment of both the green industry and Islamic finance, there are a great deal of products on the market now that are tailored to be green and Sharia compliant.

Let's have a look at some green products that are Islamic finance compliant:

• Ethical mutual funds: these kinds of mutual funds are managed in accordance with Sharia rules. When it comes to the actual investment, these kinds of funds only invest in projects and companies that meet both the Islamic finance and green criteria.
• Green sukuk: these sukuks are a type of bond that raise funds for projects that are environmentally sound and sustainable. The sukuks have to be Sharia compliant for them to be halal. Projects range from providing capital for clean water initiatives, decarbonisation, to renewable energy, technology, and agriculture.
• Real estate: green real estate funds invest in sustainable real estate projects and are financed by money that is generated and spent in accordance with Sharia rules. This means any loan comes without any interest payments being charged or paid. Often, ethical real estate investments take place in areas of crisis with a view to enabling local communities to transition away from the crisis in an affordable and ethical way.
• Microfinance: Islamic microfinance services and products are increasing in popularity. This is mainly due to them being regulated in the same way in the UK as other non-Islamic finance products (although, you must always do your own research - knowledge is key). Islamic microfinance can offer funding to SME businesses and individuals who are engaged in eco-friendly ventures and sustainable growth.
• Islamic stocks: if you look carefully you will see there are various Islamic stocks on the market that are green and sustainable. These stocks are usually in companies that are green focused and ethically sound.
• Islamic crowdfunding: when looking at sustainable and ethical finance models, then Islamic crowdfunding ticks all the boxes. For those with aspirations of raising funds for green projects, Islamic crowdfunding offers a great alternative for raising start-up funds.

Commonalities Between Islamic Finance And Green Investments

Both green investing and Islamic finance have many points of convergence and commonality. As models of investment, they complement each other. Both encourage and promote social responsibility and ethical investing.

It is important to remember that both green investment and Islamic finance have foundations in ethics, justice and social responsibilities. It therefore makes perfect sense that they are great partners in the financial world.

In addition, both Islamic finance and green investing principles share the following key principles:

• Prohibiting harmful activities and industries: one of the main rules of Islam is that we should stay away from harmful activities and industries. This means a prohibition in investing, managing or working in industries such as the porn industry, and the alcohol and gambling industries. Similarly, green investments tend to stay away from these industries as they serve no real green benefit to society.
• Sustainable development goals: Islamic finance and green investing play a significant role in promoting sustainable development goals. So, how is this achieved? it is done through the encouragement and support of economic growth, social wellbeing and environmental sustainability.
• Assessing the impact on society: both Islamic finance and green investments are focused on benefiting society as a whole. The aim is to positively impact society and sustainable development, whilst trying to ensure that wealth inequality is reduced and there is economic justice. Investing in industries that tackle climate change, poverty reduction, renewable energy, education, research, and innovation are referred over more profit based industries.
• Ethical screening behaviours and tools: in order to ensure that the investments are compliant with both Sharia laws and green principles, ethical screening is high on the agenda. Both the green investment industry and Islamic finance focus on ensuring that investments and industries are screened, their governance is clear, and policies are not exploitative.

HOW DOES ISLAMIC FINANCE RELATE TO SUSTAINABILITY?

Islamic finance is based on Sharia rules which provide the legal and financial framework within which to live, transact and behave. Islamic finance is more particularly focused on providing rules pertaining to the economy, business and finance.

Due to the very nature of the ethical way Islamic finance operates, this immediately irradicates the purely profit driven and interest based activities of conventional forms of finance.

Islamic finance has always been a key player in achieving and promoting sustainable development goals by:

• promoting poverty eradication
• promoting UN goals relating to sustainability
• Ensuring there is financial inclusion in all countries
• Holding banks accountable and insisting on interest free services and products
• promoting health and wellbeing including clean sanitation and renewable energy
• promoting better education and the eradication of interest based debt
• having strategies that focus on gender equality
• encouraging sustainable agriculture and food security projects

For anyone looking for green projects to invest in, in a halal way, then you must consult with financial advisors who are experienced and knowledgeable in both areas.

In the West investors are looking for more conscientious ways to invest. Neither green investment nor Islamic finance are taught at school or featured heavily in the news. However, the impact of the alignment of these 2 distinct industries is becoming more known in investment markets.

This strategic alignment is opening up major market opportunities for investors. ESG financing is expected to see huge growth in the next decade, as is investment in clean technology and net zero industries. There is clearly an appetite for financial products that are Islamically sound, but also sustainable and green.

Islamic finance, when coupled with green investment, is bridging cultures, finance models and inclusivity. It is an area of finance that is seeing exponential growth in major financial hubs such as London, Washington, Geneva, and Dubai.

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.