While Shariah-compliant structures and arrangements differ from conventional finance in form, their enforcement and security mechanisms often rely on familiar English law concepts. Here are the key issues you need to know.
Security in Islamic finance transactions
Security arrangements in Islamic finance vary depending on the structure:
- Financier holds title: In some cases—such as Ijara (leasing) or Musharakah (partnership)—the financier retains legal title to the asset until the customer completes buyout obligations. This impacts enforcement and recovery strategies in insolvency scenarios.
- Conventional security: In other structures, such as Murabaha (cost-plus financing), security mirrors conventional finance. Customers grant charges or mortgages over assets to secure payment obligations, similar to traditional lending.
For practitioners, this means due diligence must confirm whether title or conventional security applies, as this determines what enforcement options may be available.
Governing law: why English law dominates
Islamic finance contracts performed in the UK typically adopt English law as the governing law. Even in cross-border transactions involving Middle Eastern financiers, English law is often chosen. Key reasons include:
- Parties’ familiarity with English law and courts.
- IFIs (Islamic Financial Institutions) insist on English law for certainty.
- English courts offer convenience and predictability.
- No superior alternative legal framework currently exists.
While some commentators argue English courts lack expertise in interpreting Shariah principles, no practical alternative has emerged. Arbitration under Shariah law is theoretically possible, but faces challenges:
- Shortage of scholars trained in modern finance.
- Uncertainty over interpretation and enforcement of contractual provisions.
- Risk that profit calculations or default clauses could be deemed non-compliant.
For now, English law remains the default governing law for UK Islamic finance contracts.
Enforcement and default provisions
English courts generally interpret Islamic finance agreements as financing contracts, focusing on payment obligations rather than religious compliance. This includes enforcing profit returns and remedies for default.
Default interest vs. profit:
Under Shariah, charging interest on overdue payments is prohibited. Instead, contracts often include provisions for compensation for actual loss or charitable donations, rather than punitive interest. Practitioners should review these clauses carefully, as they differ from conventional default interest mechanisms.
Case law highlights
Several English cases illustrate how courts approach Islamic finance agreements:
- Islamic Investment Company of the Gulf v Symphony Gems: The court treated a Murabaha agreement as an English contract, using expert evidence to understand its structure.
- Shamil Bank v Beximco Pharmaceuticals: A Murabaha agreement stated it was governed by English law “subject to Shariah principles.” The court held Shariah principles were not enforceable unless incorporated via another country’s law—English law governed exclusively.
- Dana Gas Sukuk case: Dana Gas argued its Sukuk was not Shariah-compliant and sought to void the contract. The court rejected this, confirming Shariah compliance does not affect validity under English law.
Key takeaway: English courts enforce Islamic finance contracts based on English law principles, regardless of Shariah compliance.
Practical implications
- Check title and security: determine whether the financier holds legal title or conventional security—this affects enforcement strategy.
- Review governing law clauses: expect English law to apply, even where Shariah principles are referenced.
- Understand default remedies: profit-based returns replace interest; compensation clauses may differ from conventional norms.
- Anticipate court approach: English courts will interpret these agreements as financing contracts, not religious instruments.
