Bermuda: The Incorporation Of Shari’a In Offshore Trusts

Last Updated: 2 June 2008
Article by Appleby  

Recently, the Archbishop of Canterbury, Rowan Williams, sparked a stormy debate when he appeared to suggest that some aspects of Shari'a law should be adopted in the United Kingdom, and that such adoption appeared to be unavoidable.

Islamic law is very different from English common law or the European civil law traditions. Many Muslims who live in Western countries attempt, insofar as is possible, to live by Shari'a rules. This, in turn, has created a niche for lawyers experienced in Islamic dispute resolution, and those who are able to offer trusts and other arrangements that follow Shari'a rules of succession. There is increasing interest in the Middle East in structures designed to ensure that family wealth remains available for the benefit of future generations. A trust structure is a useful vehicle for this purpose and, with the long established use of the Islamic waqf, general trust principles are not an alien concept under Islamic law.

A waqf is an inalienable religious endowment in Islam, typically devoting a building or plot of land for Muslim religious or charitable purposes. The Islamic waqf system is conceptually similar to the common law trust e.g. someone gifting to a third party specific property to be held for the benefit of others. Muslims may be able to use a trust to achieve many of the same ends, since the flexibility of the trust allows adherence to Islamic law and the holding of property for the benefit of others, including charities.

When drafting a Shari'a compliant trust, the Islamic rules of inheritance and restrictions on investment have to be the primary focus. Islamic inheritance rules provide a formula for the division of property that is regarded as having been divinely revealed, and is designed to prevent the familial strife that may result from mere human calculation. Restrictions on investment provide that a Muslim is not allowed to benefit from lending money, or receiving money from someone.

When creating a trust, there do not appear to be any restrictions under Shari'a law in relation to lifetime gifts, but upon the settlor's death, the Qur'an sets out precise inheritance rules that must be followed. Rights accrue to the legal heirs of the deceased by operation of law, with the order of preference based on class and degree of strength of blood relationship.  

To be Shari'a compliant, a trust must provide that on the death of the settlor, the trust fund will be paid to the settlor's heirs under Shari'a law in the proportions set out in the Qur'an. According to the Qur'an, the division of an estate follows a two-step process in which the qualifying "sharers" take their Qur'anic entitlements, and then the closest surviving relative whose kinship is traceable exclusively through the male (agnate) inherits whatever remains.

For example, if a man dies leaving a wife, one son, two daughters, and two brothers, the wife will inherit one-eighth of the estate as a "sharer". The children inherit the remaining seven-eighths of the estate according to the Qur'anic principle, "the share of a male is equal to that of two females." Therefore, the son inherits seven-sixteenths of the estate while each daughter inherits seven-thirty-seconds of the estate. As the closest surviving agnates, the sons and daughters exclude the deceased's brothers from the inheritance.

For the settlor whose dominant motive is to preserve assets for the benefit of future generations, while also having regard to the Shari'a inheritance proportions, then the most useful vehicle is likely to be a fully discretionary trust.

In addition to careful drafting of the trust instrument, attention must be paid to how a Shari'a compliant trust is administered in respect of investment policy. The belief that money itself has no intrinsic value it is simply a medium of exchange -- is central to Islamic finance. Each unit is 100 per cent equal in value to another unit of the same denomination and one is not allowed to make a profit by exchanging cash with another person. The key to identifying whether an investment is Shari'a compliant is the type of profit that the investment generates. Where the investment generates a pre-determined fixed return, then this profit will be regarded as illegitimate (haram) under Shari'a law. The most important example of haram is usury (earning interest) or riba. The Qur'an strictly forbids riba. In western financial institutions, the main incidence of riba is the charging of interest on loans. The concept of interest is regarded as inequitable in Islamic law.

There are sound economic reasons for arguing that the very idea of an obligation to pay interest in relation to business activity that is, by its very nature uncertain, is economically unjust. A businessman is forced to pay interest regardless of whether or not he makes a profit. The inflexibility of the interest based system results in bankruptcies and inflation. For an investment to be legitimate (halal) under Shari'a law there can be no guaranteed return; instead, the investment must carry with it not only the chance to make a profit but also the risk of loss. Any profit made from such investment is regarded as halal and therefore Shari'a compliant.

This article summarises a number of important principles about Shari'a compliant trusts, and addresses the practical consequences of preparing trusts for Muslim settlors. Shari'a law is a complex area, and special care needs to be taken in particular cases to ensure that all relevant formalities are complied with.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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