People often ask if there is really any difference between Islamic & conventional financial institutions. Due to the frequency of this question, Insha Allah, I will post some of the major similarities & differences between an Islamic & conventional financial institution, so that the reader can be better informed to make up their own mind or discuss with those of knowledge within their community. It is important to note from the outset, that although there are many differences between Islamic & conventional financial institutions, there are also bound to be some similarities as they both operate under a similar regulatory and legal framework.

When individuals hear the term ‘Islamic bank’ or ‘Islamic financial institution’, a lot of them tend to make a major assumption that the organisation in question should be a charitable, not for profit entity or that its charges should be very minimal and token in nature. In reality, this assumption is far from the truth and it is important to understand the following point. Islamic financial institutions have been established by shareholders, who expect that the management team (CEO, CFO etc.) running the institution generate an acceptable level of profit for them on an annual basis. Failure to generate such a profit for the shareholders would possibly lead to the termination of the management team or in the worst case scenario, the closure of the institution.

Similar to any conventional financial institution, an Islamic financial institution needs to generate profit, which in simple terms, would be the difference between the income generated and the costs incurred by the institution. The major difference between the two types of institution, is that the shareholders of an Islamic financial institution want the management team to operate the institution in a manner which does not conflict with Shariah. This means that any profit can only be achieved by investing in income generating activities and for charging for services that are considered to be Shariah compliant. Hence, like conventional financial institutions, Islamic ones have been established as profit seeking entities. This is a crucial point to understand.

After understanding the above point, the question that arises and that one may ask, is that if this is the case, i.e. that Islamic financial institutions are mainly profit seeking entities, what about those individuals within the community who need access to money and cannot afford the fees/profit charged or who are not deemed credit worthy by the Islamic financial institutions? The answer to this is question, in my humble opinion, is as follows:

Firstly, Islamic financial institutions tend to have subsidiaries or CSR departments which are responsible for distributing Zakah, giving interest-free loans, Sadaqah etc. Individuals who are in need of such funds may approach these subsidiaries or departments in order for their individual case to be looked at. However, there is definitely room for expansion in this regards. 

Secondly, we must realise that Islamic financial institutions in their current form, have not been established to solve all the socio-economic issues of Muslim communities. Stakeholders within the community, need to come together themselves to form such socio-economic institutions for the benefit of their community and cannot rely solely on Islamic banks for this purpose. 

Thirdly, the act and spirit of charitable lending on an individual basis needs to be revived within our communities. This encouraged act, should not be underestimated and is an essential ingredient within any society.

Insha Allah, we will cover some more major differences and similarities between Islamic & conventional financial institutions in future posts. 

To read the next post (#2) please click the link below: