Ethica Institute of Islamic Finance™

What is the definition of riba?

The word riba refers to any excess, increase or additional compensation that is not in exchange for a due consideration. There are two main types of riba: Riba Al Nassiya and Riba Al Fadal Riba Al Nassiya Any transaction of credit earning profit for the granter of the loan is referred to as Riba Al Nassiya. The establishment of a pre-determined amount in excess of the original loan, whether called a premium or interest, or whether its rate is high or low, falls into this classification.It is the type of riba that conventional interest-based banking is based on. Riba Al Fadal Any excess granted or received in an exchange between inherently similar commodities is referred to as Riba Al Fadal. The Prophet (God bless him and give him peace) said: “….gold for gold, silver for silver, wheat for wheat, barley for barley, dates for dates, and salt for salt, like for like, equal for equal, and hand to hand, if the commodities differ, then you may sell as you wish provided that the exchange is hand to hand.” This means that 10kg of wheat may only be exchanged for 10kg of wheat. In the exchange of unlike commodities an excess is allowed, however, deferment is prohibited. The exchange must take place at spot. For instance an exchange of 10 kg of wheat for 12 kg of barley is permissible at spot. This hadith may also be related to the practice of currency exchange. In order to avoid riba, the same currency must always be exchanged at spot. In an exchange involving different currencies, at least one consideration must be paid (at spot) and the payment of the other may be deferred. However, the exchange must take place at the market rate prevalent at the time the first consideration is paid.

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