Islamic Contract Law

TAt the outset, it is important that we highlight, many of the sections within Education including Islamic Contract Law, simply aim to provide the reader an introduction to Islamic finance (for more indepth information, please refer to the Research section). With this in mind, we aim to delve into some of the key aspects of Islamic law, which have underpinned the growth within Islamic banking.

The Arabic word for a contract is Aqd'. Before we look at some of the intricacies of a contract, we will delve into two preliminaries: how Islamic law deals with unilateral promises (the Wa'd) and bilateral promise (the Muwada).

Wa'd (unilateral promise)

Wa'd relates to a promise by an individual or a party to do or not do a particular action. Such an agreement would consist of a promisor (promises to buy/sell) and promisee (enters into a promise with the promisor). For example, Shareen promises to sell her house to Sarah. This is a unilateral or one-sided promise, which only binds the promisor (Shareen). As a result this is not considered to be a contract, which would involve an offer and acceptance (bilateral).

There are four main schools of thought on Wa'd promises, which are summarised below.

School One: This school consists of Imam Abu Hanifah, Imam Al-Shafai' and some Maliki scholars. The view of this school is that satisfying a Wa'd promise is honourable, but not obligatory.

School Two: Samurah b. Jundub and some Maliki scholars. The promisor is under a legal obligation to fulfil the promise.

School Three: Some Maliki scholars. The promise is only binding when the promisee incurs a loss or expense in an effort to meet the promise.

School Four: Islamic Fiqh Academy (generally accepted view). Fulfilling a promise is accepted if the following points are met:

  1. The promise should be unilateral (one-sided)
  2. The promisee incurs a loss or expense in an effort to meet the promise.
  3. The actual sale is completed.

Muwaada (bilateral promises)

The definition of a muwaada is two parties performing two unilateral promises on the same subject. For example, Moneeb promises to buy Jake's house for $150,000 in the next 6 months. In return Jake agrees to sell his house o Moneeb for $150,000 in the next 6 months.

Most Islamic jurists look less favourably at Muwaada, compared to Wa'd since the use of two unilateral promises can lead to a forward contract, which is impermissible. We can summarise the two main schools of thought as per below.

School One: AAOIFI, Islamic Fiqh Academy and the majority of scholars. Muwaada is is only permissible when it can be validly executed.

School Two: Hanafi jurists. Forward contracts can be based on the Muwaada principle, as long as there are no other prohibitions (such as excessive gharar and short selling).

Aqd' (The Contract)

There are two types of contracts:

  • Uqud al Mua'wada: compensatory contracts, e.g. party A sells his car to party B for £1,000.
  • Uqud Ghaer Mua'wadha: Non-compensatory contracts, e.g. loan with interest.

The above examples show that for valid contracts, the following conditions must be met:

  1. Two parties
  2. Offer and Acceptance (this must relate to the same price and subject matter).
  3. Material Effect in exchange of subject matter.

It is important to note that the contracting parties to the above contract need to be mature and sane.

With regards to the subject matter or the object, the following conditions need to be satisfied:

  • Value: The subject matter needs to be consistent with Islamic teachings, i.e. a contract involving wine, pork and military would not not be valid, as these subjects have no value.
  • Existence: The subject matter needs to be in existence, e.g. a contract involving the sale or purchase of a house yet to be built would be invalid. There are of course two exceptions to this: salam and istisna.
  • Ownership: The seller needs to have ownership of the object.
  • Deliverability: The seller is able to deliver the goods to the buyer. Of course this condition does not apply to certain objects, such as houses.
  • Specific: In this case, the subject must be clearly defined, e.g. "I will sell you one of my cars..." would be invalid as the car has not been defined.

References & Further Reading

  1. The Vision of Islam, Sachiko Murata and William C. Chittick, 1994, London and New York: I.B. Tauris
  2. Islamic Finance Qualification (IFQ) / workbook authors Abdul Sattar Abu Ghud et al. - Edition 2, 2007. - London : Securities and Investment Institute; Beirut : Ecole Supérieure des Affaires