# The AAOIFI Standard For Halal Investing

This post covers the AAOIFI standard of investing in shares, dictating what is permissible and what is not according to the standard. We'll investigate the sources behind these conclusions as well and assess their reasoning and applicability.

## What is AAOIFI?

The Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) is an Islamic body that sets Shari’a standards for Islamic financial institutions. In essence, they draft the standards that islamic banks comply with in order to offer Islamic products to their customers.

## What does AAOIFI say about investing in stocks?

I've pulled some excerpts from the Shari’ah Standard No. (21): Financial Paper (Shares and Bonds), Pages 562 — 567, in the section titled 3. Rules for Dealing in Shares.

These describe their recommendation for how investors (both individuals and companies) should decide whether or not to invest in a company:

The fundamental rule is that of prohibition of acquiring shares of and transactions (investment and trading) in the shares of corporations that sometimes undertake transactions in Riba and other prohibited things even when their primary activity is permissible, but from this rule subscription and transactions (investment or trading) are exempted with the following conditions:

The default posture relating to investing in companies that deal with interest (which is most companies) is prohibition, but they lay out some exceptions:

3/4/1 That the corporation does not state in its memorandum of association that one of its objectives is to deal in interest, or in prohibited goods or materials like pork (swine) and the like.

3/4/2 That the collective amount raised as loan on interest – whether long-term or short-term debt – does not exceed 30% of the market capitalization of the corporation, knowingly that raising loans on interest is prohibited whatsoever the amount is.

3/4/3 That the total amount of interest-taking deposits, whether short-, medium- or long-term, shall not exceed 30% of the market capitalization of total equity, knowingly that interest- taking deposits are prohibited whatsoever the collective amount is.

3/4/4That the amount of income generated from prohibited component does not exceed 5% of the total income of the corporation irrespective of the income being generated by undertaking a prohibited activity, by ownership of a prohibited asset or in some other way. If a source of income is not properly disclosed then more effort is to be exerted for identification thereof giving due care and caution in this respect.

3/4/5 For the determination of these percentages, recourse is to be had to the last budget or verified financial position.

Further, it describes what is required of an investor in companies that engage in some interest:

3/4/6 It is obligatory to eliminate prohibited income specific to the share that is mixed up with the earnings of the corporations, and this in accordance with the following:

3/4/6/1 The elimination of prohibited income is obligatory on one who is the owner of the share, whether an investor or a trader, at the end of the financial period, even if the payment is due at the time of issuance of the final financial statements whether quarterly, annual or for other period. Accordingly, elimination is not obligatory for one who sells the shares before the end of the financial period.

3/4/6/4The figure, whose elimination is obligatory on the person dealing in shares, is arrived at by dividing the total prohibited income of the corporation whose shares are traded by the number of shares of the corporation, thus, the figure specific to each share is obtained. Thereafter the result is multiplied by the number of shares owned by the dealer – individual, institution, fund or another – and the result is what is to be eliminated as an obligation.

So, in summary, AAOIFI offers the following criteria for determining whether a stock is halal or not:

1. Interest bearing debt should not exceed 30% of market cap
2. Current interest earning assets should not exceed 30% of market cap
3. Income generated from prohibited activities should not exceed 5%

## Criticism of the AAOIFI standard

I was particularly interested in understanding what the basis was for the percentages mentioned in the previous section. An inspection of Appendix (B) The Shari’ah Basis for the Standard (Page 573) came up with this reference:

The basis for exempting trading in the shares of these corporations, whose primary activity is permissible, however, they deposit amounts and borrow on the basis of interest, is the application of the rule of removal of hardship and acknowledging of general need, widespread practice, the acknowledged principles of surplus, shortage and predominance,(5) as well as the permissibility of dealing with one the major part of whose wealth is permissible,(6) along with reliance upon the issue of separation of bargains according to some Jurists.(7) This is upheld by most fatwa issuing organisations as well as the Shari’ah Supervisory Boards of Islamic banks. (8)

Points 5 & 6 are exactly what we're after, so I went ahead and pulled up the references made there, and all of the remaining references:

(5) “Al-Furuq” by Al-Qarafi [4: 104]; “Al-Muwafaqat” [1: 37]; “Ahkam Al-Quran” by Ibn Al-Arabi [4: 1804]; and “Qawa’id Al-Ahkam Fi Masalih Al-Anam” [1: 18, 41-45].

(6) “Badai’ Al-Sanai’” [4: 104]; “Al-Ashbah Wa Al-Nazair by Ibn Nujaym (pp. 112-114); “Al-Bayan Wa Al-Tahsil” [18: 194-95]; and “Al-Manthur Fi Al-Qawa’id” [2: 335].

The original sources (cited as references) mention nothing about 30% of interest earning/bearing debt, or the 5% tolerance limit on prohibited activities.

Alot of the criticism surrounding the AAOIFI standard stems from the fact that it derives conclusions with no reference or justification explaining the basis for these conclusions.