Salam Alaikum,
Setting the Stage for "Buy Now Pay Later" discussions
Setting the Stage for "Buy Now Pay Later" discussions
Salam Alaikum,
I was planning to speak about "Buy Now Pay Later" providers this week, but in conversations with a few friends, realized that before getting into the weeds about whether or not BNPL is a credit transaction or an asset sale, that we need to set the tone with a quick review of sales transactions and loan transactions, as the rules here need to be remembered when talking about 3rd parties intermediating either a sale or a loan.
The Rules for Sales under Islamic Law
In Islamic law, sales are generally permissible, with the primary elements of a valid sale being the offer, acceptance, buyer, seller, and object of sale. The object of sale must exist at the time of sale, be capable of private ownership, and be deliverable to the buyer. There must be no uncertainty about the object, price, or terms of the sale, and the sale must not involve prohibited items.
If the object contains both permissible and impermissible components, the majority view is that the entire sale is void. The buyer and seller have responsibilities to ensure lawful possession of the goods and money, and to deal with each other justly, without exploitation or deception. Ownership is transferred by the creation of the contract, even if there are negotiated variables like delivery or payment at a later time, but for now we’re concentrating on the basic rules of sales. We’ll cover these adjustable variables another time, along with exceptions to this rule.
Examples of a Valid and Invalid Sale
At this point, let’s look at two examples based on the above, one that is a valid sale and another that is not.
Example 1 (Valid Sale):
A buyer enters a clothing store and expresses interest in purchasing a specific shirt on display. The seller informs the buyer about the shirt's material, size, and price. The buyer inspects the shirt, agrees to the terms, and makes the payment. The seller then hands over the shirt to the buyer. In this case, the sale is valid because the shirt exists at the time of sale, is owned by the seller, and is deliverable to the buyer immediately. The price and terms of the sale are clear, and the shirt does not contain any prohibited materials.
Example 2 (Invalid Sale):
A buyer enters a clothing store and expresses interest in purchasing a specific shirt on display. The seller informs the buyer about the shirt's material, size, and price. The buyer agrees to the terms and makes the payment. The seller goes to the back and grabs a shirt, then puts it in a bag and hands over the shirt to the buyer. When the buyer inspects the shirts, he finds that it is different than the shirt on display. While most of the conditions of sale are in line, there is a problem. The price and terms of the sale were clear, but the specifications of the shirt delivered to the customer are different than the one on display, making the sale invalid. This gives the customer the ability to return the item and receive either the item they ordered or a refund.
The Rules for Loans under Islamic Law
Moving on to the rules of loans in Islamic law, it is important to note that interest-based loans (riba) are strictly prohibited, as they are considered a form of usury. Contracts are three types under Islamic law: Commutative (meaning they exchange value, each party compensated), documentary (they record rights), or donative (they transfer value without compensation.
Loans are donative under Islamic law. They are based on the principle benevolence and helping others when they are in need and not allowing the lender to profit from the debtor by stipulating additional payment or benefit in return. The time value of money is recognized, as the person who lends money to others is rewarded as if they’ve donated 50% of the same amount. Why the prohibition of profiting off of loans from the debtor? Islamic law is trying to preclude any value creation above and beyond real economic activity by preventing charitable acts from becoming a means to extract value from others. If we take the interest earned on a loan as value created without real economic activity, then it becomes clear why Islamic law prohibits such transactions. The principle behind this prohibition is to ensure that all value creation is tied to genuine economic activity, such as trade, production, or services.
In an interest-based loan, the lender receives a return without participating in the borrower's economic activity or bearing any risk associated with the use of the borrowed funds. This essentially allows the lender to extract value from the borrower without contributing to the real economy. Islamic law considers this practice exploitative and unjust, as it can lead to a concentration of wealth in the hands of a few and create an imbalance in society.
There are number of other considerations for a loan as well. The loan agreement should be documented in writing, with details such as the loan amount, repayment terms, and any collateral or guarantees. The lender should not put undue pressure on the borrower for repayment, and the borrower should make efforts to repay the loan in a timely manner. The borrower has the responsibility to use the loan for the intended purpose and not for any unlawful or unethical activities, repay the loan in full and on time, and inform the lender of any difficulties in repayment. The lender, on the other hand, is responsible for ensuring the loan is used for a lawful purpose, providing the loan without interest or additional charges, and being flexible and accommodating if the borrower faces genuine repayment difficulties.
A Thought Experiment
Both sales and loan transactions in Islamic law emphasize fairness, transparency, and adherence to Shariah principles. Buyers, sellers, borrowers, and lenders all have obligations to uphold these standards. Understanding these foundational principles is crucial when discussing the role of third-party intermediaries in either a sale or a loan, such as in the case of "Buy Now Pay Later" providers.
Before we talk about “Buy Now Pay Later” next week here’s a thought experiment for you: If you wanted to become a BNPL provider, how would you intermediate a sale? At what point would you need to become involved? What liabilities and responsibilities should you or are you willing to assume? Based on the above rules for sales and loans, anything you should avoid?
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