Hiwalah in Shariah and its

rules and applications in

Islamic Finance

Mohamad Zaky Bin Jailani

 Hiwalah in Shariah and its rules and applications in Islamic Finance

Abstract
_________

This paper seeks to elaborate on the concept of Hiwalah,

covering both the classical definitions as well as the applications
of Hiwalah within contemporary Islamic Finance. We will
compare and contrast the two different types of Hiwalah,
discuss its legality from an Islamic Jurisprudence perspective
and also identify the various pillars associated with this concept.
We also look at what basic rules and conditions are needed to
validate the Hiwalah as well as the exact conditions that
terminate the Hiwalah. Lastly, as we explore the contemporary
applications of Hiwalah, there is also a need to highlight current
issues surrounding such an application.

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 Hiwalah in Shariah and its rules and applications in Islamic Finance

Objectives of the research

This paper seeks to elaborate on the concept of Hiwalah in classical jurisprudence

and its applications on contemporary Islamic Finance. The specific objectives of this
paper are as follows:

• Clearly define and explain the concept of Hiwalah

• Elaborate further on the pillars and types of Hiwalah
• State the basic rules and conditions of Hiwalah
• Explain the legal consequences of Hiwalah and associated termination events
• Introduce the various contemporary applications of Hiwalah within Islamic
Finance
• Identify contemporary issues surrounding Hiwalah

Key terms of the research

1. Pillars of Hiwalah 2. Legal Consequences of Hiwalah 3. Termination Events of

Hiwalah 4. Hiwalah Islamic Finance Applications 5. Contemporary Issues
surrounding Hiwalah

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 Hiwalah in Shariah and its rules and applications in Islamic Finance

Table of Contents
Abstract ............................................................................................................................... 2
Objectives of the research ..................................................................................................3
Key terms of the research ...................................................................................................3
1.0 Al Hiwalah ......................................................................................................................5
1.1 Definition of Hiwalah ............................................................................................................ 5
1.2 Types of Hiwalah .................................................................................................................... 5
1.3 Legality of Hawalah ................................................................................................................6
1.4 Pillars of Hiwalah ...................................................................................................................6
1.5 Basic Rules and Conditions of Hiwalah ............................................................................... 7
1.6 Legal Consequences of Hiwalah ........................................................................................... 7
1.7 Termination of Hiwalah ........................................................................................................ 7

2.0 Application of Hiwalah in contemporary Islamic Finance ...................................... 8

2.1 Withdrawals from a current account ................................................................................... 8
2.2 Overdrawing from an account or overdraft ......................................................................... 8
2.3 Travellers’ Cheques ................................................................................................................ 8
2.4 Bills of Exchange .................................................................................................................... 8
2.5 Endorsement of a negotiable instrument.............................................................................9
2.6 Transfer of money (remittances) ..........................................................................................9

3.0 Conclusion and findings............................................................................................. 10

4.0 References ................................................................................................................... 11

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 Hiwalah in Shariah and its rules and applications in Islamic Finance

1.0 Al Hiwalah
Although various sources have also referred to this concept as Hawalah, Hiwala or
Hawala, for the sake of consistency, this paper will refer to the term Hiwalah
throughout. This paper will expand on the concept of Hiwalah, covering both the
classical definitions as well as the applications of Hiwalah within contemporary
Islamic Finance. We will compare and contrast the different types of Hiwalah,
discuss its legality from an Islamic Jurisprudence perspective and also identify the
various pillars associated with this concept. We will then look at the basic rules and
conditions needed to validate the Hiwalah as well as the exact conditions that
terminate the Hiwalah. Lastly, as we explore the contemporary applications of
Hiwalah, there is also a need to highlight current issues surrounding such an
application.

1.1 Definition of Hiwalah

The ISRA Compendium for Islamic Financial Terms (2010) states the literal
translation of Hiwalah as a derivation of tahwil: to shift from one place to another;
the reflexive form being tahawwala, meaning to move oneself from one place to
another. Lahsasna (2012) categorises Hiwalah under contracts of security (Uqud al-
Tawthiqat). A creditor through these contracts is able to confirm his right to get his
debts returned to him, thus removing the risk of losing it. Similarly, according to
Iqbal and Mirakhor (2011), Hiwalah entails transferring debt or obligation from one
debtor to another, releasing the original debtor from that debt or obligation. This is
different from kifalah where the principal debtor is not released from the obligation.
Historically, Hiwalah was transferred to Europe and other regions by Jewish scholars
and merchants throughout the Jewish Diaspora and via Spain through trade and
scholastic borrowing from Islamic sources.

1.2 Types of Hiwalah

The ISRA Compendium (2010) breaks down the types of Hiwalah into conditional
debt transfer (Hiwalah Muqayadah) and unconditional debt transfer (Hiwalah
Mutlaqah, this is strictly based on the Hanafi view). A conditional transfer is a
contract in which payment is restricted to the property of the transferor that is a
liability of the transferee. This type of Hiwalah is divided, based on the type of
liability, into a transfer limited to either a debt, a deposit or a loan secured by a
physical asset. On the other hand, an unconditional debt transfer is a contract in
which the transferee unconditionally agrees to pay the debt whether or not the debt

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 Hiwalah in Shariah and its rules and applications in Islamic Finance

exceeds what the transferee owes the transferor. It is not necessary for the
transferee to be indebted to the transferor, nor is it necessary that payment be made
from the wealth of the transferor in the possession of the transferee.
Additionally according to Hussin (2011), there are a further two categories within
Hiwalah muqayaddah, namely:
i. Hiwalah al-haqq: the replacement of a creditor with another creditor, basically
a transfer or right to claim from one person to the other.
ii. Hiwalah al-dayn: the replacement of a debtor with another debtor, which
essentially means the transfer of a debt from an obligation of a person to
another person’s obligation.
The difference between these two categories is defined by the specific party
stepping out of the transaction, one the creditor and the other, the debtor.

1.3 Legality of Hawalah

This method of paying debt was adopted from the Prophet’s (SAW) practice. The
proof is in Sahih al Bukhari and Muslim, where Abu Hurayrah (RA) reported the
Prophet (SAW) to have said, “Default on the payment by a solvent debtor is unjust
and if anyone of you is transferred to a solvent person, he must accept the transfer.”
Similarly, he (SAW) is also reported by al-Bayhaqi to have said, “Default by such
debtors is a form of transgression, so if one of you has his debt transferred to a rich
person, let him accept the transfer of debt.” (Hussin, 2011). The majority of jurists
infer from this hadith that it is preferred to accept the transfer of debt, but it does
not form an obligation. On the other hand, the Zahiris and Imam Ahmad ruled that
the text of the hadith includes an order that makes it obligatory to accept the
transfer of debt, where the transferee is rich (Mansuri, 2001).

1.4 Pillars of Hiwalah

Dusuki (2011) adopts a two pronged approach to explain the pillars of Hiwalah.
Hanafi scholars state the pillars as an offer (ijab) from the transferor (al-muhil) and an
acceptance (qabul) from the transferee (al-muhal) and the payer (al-muhal ‘alayh). On
the other hand, the jumhur ulama break the pillars of Hiwalah into the following:
i. The transferor (al-muhil)
ii. The transferee (al-muhal)
iii. The payer (al-muhal ‘alayh)
iv. The debt (al-muhal bih)
v. The offer and acceptance (al-sighah)

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 Hiwalah in Shariah and its rules and applications in Islamic Finance

1.5 Basic Rules and Conditions of Hiwalah

The AAOIFI Shariah Standards (2004) clearly entail the conditions that govern the
validity of a Hiwalah. The consent of all parties involved such as the transferor, the
transferee and the payer; must be obtained. The transferor must also be a debtor to
the transferee. If it is a non-debtor that transfers another, it is actually an agency
contract for debt collection and not a transfer of debt. However, the payer does not
necessarily need to be a debtor to the transferor, this is permissible and merely
indicates an unrestricted Hiwalah. All parties must also be legally competent to act
independently and the transferred debt and the debt to be settled must be known
and transferable. Lastly, for restricted Hiwalah, the transferred debt must be equal
to the debt owed in terms of kind, type, quality and amount. However, it is possible
for the transferor to transfer a lesser amount of debt owed to the transferee to be
settled from a larger amount owed by the transferor on condition that the transferee
be entitled only to the equivalent amount of debt.

1.6 Legal Consequences of Hiwalah

The debtor will be discharged from the debts he owes to the creditor. However, we
must bear in mind that if the acceptance of the transfer was based on the condition
that the assignee must be solvent, then the transferee will have a right to recourse to
the transferor. The transfer of debt also establishes the creditor’s right to demand
payment of the debt from the assignee. (Mansuri, 2001)

1.7 Termination of Hiwalah

A Hiwalah contract can be subjected to a termination event that renders the
contract as void. Dusuki (2011) lists four different scenarios that would effectively
terminate a Hiwalah contract:
i. Mutual Agreement between contracting parties to end the Hiwalah
contract. This returns all the parties to the status quo prior to entering
the Hiwalah contract. Hence, the transferee is entitled to claim the
debt from the transferor and not the payer.
ii. When the debt is effectively settled via full payment by the payer to
the transferee.
iii. When the payer dies and the transferee inherits his property.
iv. When the debt has been written off by the transferee.

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 Hiwalah in Shariah and its rules and applications in Islamic Finance

2.0 Application of Hiwalah in contemporary Islamic Finance

Now that we have looked at the classical definitions and theoretical structure of the
Hiwalah contract, we will explore how this concept has been integrated into modern
financial transactions. As per the elaborations below, unless otherwise stated,
AAOIFI (2004) lists and explains the various contemporary applications that
integrate the Hiwalah concept.

2.1 Withdrawals from a current account

An issuance of a cheque against a current account is a form of Hiwalah if the
beneficiary is a creditor of the issuer or the account holder for the amount of the
cheque, in which case the issuer, the bank and the beneficiary are the transferor, the
payer and the transferee respectively. If the beneficiary is not the creditor to the
issuer of the cheque, then this is not a Hiwalah transaction because a Hiwalah
cannot be in place without an existing debt. In the absence of the debt, the
transaction becomes an agency contract for recovery of the amount of the debt on
behalf of the transferor, which is lawful in the Shari’ah.

2.2 Overdrawing from an account or overdraft

According to Hasan (2011), an overdraft occurs when someone withdraws from a
bank account and exceeds the available balance. If the beneficiary of the amount of a
cheque is a creditor to the issuer, then issuing a cheque against the account of the
issuer without a balance is unrestricted transfer of debt if the bank accepts the
overdraft. If the bank rejects the overdraft, then this is not considered a transfer of
debt, in which case the potential beneficiary may have recourse to the issuer.

2.3 Travellers’ Cheques

The holder of a travellers’ cheque, the value of which has been assigned by him to
the issuing institution, is a creditor to such an institution. If the holder of the
travellers’ cheques endorses the cheque in favour of his creditor, it becomes a
transfer of debt in favour of a third party against the issuing institution that is a
debtor to the holder of the travellers’ cheque. This is a restricted transfer of debt
and the amount of the debt is the exact value of the cheque for which the institution
received payment.

2.4 Bills of Exchange

El Diwany (2010) mentions that the Hiwalah contract can be seen to be applied in a
bill of exchange in which it is a settlement of debt between one person and another

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 Hiwalah in Shariah and its rules and applications in Islamic Finance

through the medium of a third person. It is similar to instructing a third party to pay
a supplier on sight or some time in the future.

A bill of exchange is a form of Hiwalah if the beneficiary is a creditor to the drawer.

The drawer is, in this case, the transferor who gives orders for the paying bank to pay
a certain sum of money at a specified date to the defined beneficiary. The party
executing payment of such amount of money is the payer whereas the beneficiary
(holder of the bill) is the transferee. If the beneficiary is not a creditor of the drawer,
then the issuance of the bill of exchange becomes an agency contract to recover or
collect the amount of the bill of of exchange on behalf of the drawer. In the absence,
of a debt obligation between the drawer and the paying bank, the issuance of a bill of
exchange becomes an unrestricted Hiwalah.

2.5 Endorsement of a negotiable instrument

A negotiable instrument is a document guaranteeing the payment of a specific
amount of money, either or demand or on a set time. Negotiable instruments are
written orders or unconditional promises to pay a fixed sum of money on demand or
at a specific time. Negotiable instruments may be transferred (Hasan, 2011).
Examples of negotiable instruments include promissory notes, bills of exchange,
checks, drafts and certificates of deposits.

An endorsement of a negotiable instrument in a manner that transfers title to its

value to the beneficiary is a form of Hiwalah if the beneficiary is a creditor to the
endorser. If the beneficiary is not a creditor to the endorser, the endorsement
becomes one of agency contract for collection of the amount of debt. An
endorsement of a bill of exchange on behalf of a client who requires the institution
to transfer, after collection, the amount of instrument into his account is not a
Hiwalah. This is a contract of agency that is permissible with or without
consideration. It is permissible for the first beneficiary from a bill of exchange to
endorse it in favour of any other party. The second beneficiary may also endorse
such a bill of exchange in favour of a third party and so on, in which case the
subsequent endorsements are a form of successive Hiwalah which is permissible in
Shariah.

2.6 Transfer of money (remittances)

The request of a customer for the institution to transfer a certain amount of money
in the same currency from his current account to a particular beneficiary is a transfer
of debt if the applicant is a debtor to such a beneficiary. The fee that the institution

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 Hiwalah in Shariah and its rules and applications in Islamic Finance

gains from this transaction is consideration for the delivery of the money and it is
not an additional amount gained by the institution over the amount transferred.
However, if a remittance is to take place in a currency different from that presented
by the applicant for the transfer, then the transaction consists of a combination of
currency exchange and a transfer of money that is permissible.

3.0 Conclusion and findings

As illustrated in the previous section on contemporary application of Hiwalah it is

clear that this concept is embedded within multiple contemporary financial practices.
While majority of these examples occur within the traditional banking system, there
is one particular application which stands out due to the fact that it takes place
outside of conventional finance, namely money remittance or the informal value
transfer system.

Ballard (2003) points out that the informal value transfer system has grown due to a
rapid growth in the number immigrants from the third world living and working in
Europe and North America, who send large sums of money as remittances to their
families back home; as well as an equally rapid growth in business and manufacturing
activity in South, East, and South East Asia, where formal restrictions on foreign
exchange are restrictive; and thirdly the replacement of the old-fashioned telegram
with far speedier – and far cheaper – means of data transmission via fax and the
internet. Taken together, these developments have enabled Asian financial
entrepreneurs to put together an alternative system of international value
transmission albeit much easier to access, far swifter, significantly less expensive and
just as reliable as those provided by the formal banking system.

However, due to the anonymous nature of Hiwalah, Bowers (2009) asks if it is a

valuable remittance tool or a national security threat. He concludes that it is both
and this duality –an affordable remittance option to the uneducated and potential
funding vehicle for terrorists and money launderers – that makes regulation both so
tricky and so unattractive to politicians. There is, understandably, reluctance in
poorer countries to close the tap through which vital monies flow.

We have thus shown that the concept of Hiwalah has been incorporated into the
banking system, both conventional as well as Islamic. Hiwalah has also been utilized
by informal networks as a vehicle for value transfer. The impact on contemporary

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 Hiwalah in Shariah and its rules and applications in Islamic Finance

finance is fairly significant, especially in cases where there are restrictions on

currency mobility or where it is impractical and unsafe to carry large sums of money.
However, there is also a significant security interest in favour of regulating informal
remittance channels in order to prevent money laundering or financing of illegal
activities.

4.0 References
Bowers, C. (2009). Hawala,money laundering, and terrorism finance: micro-lending as an
end to illicit remittance. Denver Journal of International Law and Policy - Vol. 37 Nbr.
3, Summer 2009.

Ballard, R. (2003). A background report on the Operation of informal value Transfer systems
(hawala).

Iqbal, Z., Mirakhor, A. (2011). An Introduction to Islamic Finance: Theory and Practice
Second Edition. Singapore: John Wiley & Sons.

Lahsasna, A. (2012). A Mini Guide to Islamic Contracts in Financial Services. Kuala

Lumpur: CERT Publications.

Dusuki, A. W. (2011). Islamic Finance: Principles and Operations. Kuala Lumpur: ISRA.

Accounting and Auditing Organization for Islamic FInancial Institutions. (2004).

Shari'a Standards. Manama: AAOIFI.

International Shariah Research Academy. (2010). ISRA Compendium for Islamic

Financial Terms: Arabic-English. Kuala Lumpur: ISRA.

Hussin, M. H. (2011). Understanding Shariáh and its application in Islamic Finance. Kuala
Lumpur: IBFIM.

Mansuri, M. T. (2001). Islamic Law of Contracts and Business Transactions. Islamabad:

Shariah Academy International Islamic University.

Hasan, A. (2011). Fundamentals of Shari'ah in Islamic Finance. Kuala Lumpur: IBFIM.

El-Diwany, T. (2010). Islamic Banking and Finance: What it is and what it could be.
United Kingdom: 1st Ethical Charitable Trust education.

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