What are Shariah Compliant Mutual Funds?
Before we get into the details of Shariah-compliant mutual funds or investments in specific, it is important to understand what Shariah is and what is the Shariah Law.
What is Shariah Law?
Islamic Law or better known as the Shariah Law is a religious law that forms a part of the Islamic tradition. It is derived from the religious precepts of Islam, particularly the Quran and the hadith. In Arabic, the term Shariah refers to God’s divine law.
What is investing as per the Shariah Law?
The Shariah Law mentions some restrictions with regard to businesses that an individual pursues. Some of these restrictions are as follows:
- High Risk: One of the principles of Islamic law is to avoid gambling. Gambling as per Islamic law is considered a sin. Going by this logic, individuals following the Islamic law are restricted from entering into any business that has high risk as that is equivalent to gambling.
- Ban on payment of Interest: Taking a loan against interest is considered unlawful. It is deemed morally unjust and unfair to pay interest. This is one of the primary reasons that business tends to rely on partnerships and ownerships. They tend to share profits (and losses) rather than borrowing or lending.
- Restricted Businesses: One of the most important aspects with regards to investments as per Shariah law is the restriction from investing in certain types of businesses. Businesses such as gambling, alcohol, tobacco, drugs are considered immoral.
Which Shariah Compliant Mutual Funds are available in India?
There are currently 2 multi-cap funds that are offered as per the Shariah Law. These are as follows:
- Tata Ethical Fund – This fund has given a return of 9% over the 3-year period from 2016 to 2019.
- Taurus Ethical Fund – The fund has given a return of above 11% over the same period of 2016 to 2019.
Both these funds invest in equities across categories, with the restrictions of the Shariah Law. Other than these, investing in gold is considered as Shariah-compliant. However, as most gold funds invest some portion of their money in fixed income securities, it is ethically not an option. However, one may consider investing in a Gold ETF.
Who can Invest in Shariah-compliant Mutual Funds?
Even though the investments done by a Shariah-compliant mutual fund are as per the Shariah law, any individual, NRI, company or HUF is permitted to invest in these funds.
How are Shariah-compliant Mutual Funds Taxed? Are there any special benefits?
As of now, there are no special tax benefits for investors in Shariah-compliant mutual funds. Since both the funds mentioned above are equity-oriented funds, they are taxed as per the rules of taxation for equity-oriented funds. In the case of holdings of less than 1-year, any gains accrued are considered short term (STCG). Such STCG is taxed at a rate of 15%. In the case of holdings of 1-year or more, the capital gains are considered long term in nature and hence long-term capital gains (LTCG) tax is applicable. The tax rate for such gains is 10%. However, gains up to an Rs.1,00,000 in every financial year are free of tax.
In the case of a gold fund, the holding period for gains to be deemed long term is 3 years. In case of redemption before 3 years from the date of purchase of the units, the gains are considered short term. The gains accrued are added to one’s income and taxed at the prevailing tax rate. For long term holdings, the gains are taxed at a rate of 20% with the benefit of indexation.
What is the minimum investment in a Shariah-compliant Mutual Fund?
In the case of a lumpsum investment, the minimum investment is Rs. 500. However, in the case of SIPs one may start with an investment of only Rs. 100, payable periodically.
What is the benchmark?
The benchmark for comparing the performance of the Shariah-compliant mutual funds is the
S&P BSE 500 index
. This index has been designed to track the performance of the Shariah-compliant companies in the S&P 500 index.