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Trusts and Shari’a compliance

Trusts and Shari’a compliance

Over the next 10 years, more than $15 trillion is expected to be passed down to the younger generation. Succession plans are under the spotlight. In many countries around the world, when someone dies, local succession laws dictate who exactly receives which assets and in what proportions. This is commonly referred to as 'forced heirship' and is most common within civil law countries and countries with Shari’a law in place. 

For one reason or another, forced heirship does not always fit with families’ wishes, and for many, trusts can be used as an efficient alternative mechanism to achieve their succession wishes. However, there has been an interesting and somewhat contrarian trend emerging over the last decade among wealthy Muslim families who are required, or choose, to abide by Shari’a law in relation to their local and often global assets. 

Complying with Shari’a law

Shari’a is a body of Islamic religious law derived from a combination of sources, including the Qur’an, Hadith and fatwas. It forms the basis of the legal framework in many Muslim countries, governing not only religious rituals but also the public and some private aspects of day-to-day life in those jurisdictions.  Similarly, there are some jurisdictions where certain spheres of society are determined by the religion of that individual, for example India.

Nowadays, a growing number of wealthy Muslims look to include relevant aspects of Shari’a law (including its forced heirship principles) in family trusts established globally. The rationale and objective for this is twofold – firstly, to gain access to the benefits and peace of mind that these trusts can provide, and, secondly, to adhere to the individual's Islamic faith.

Unfortunately, this is not a straightforward objective to achieve in practice, but the global trust industry has embraced this relatively niche space over the past decade. Just as the investment world now has numerous Shari’a compliant investment funds and other products readily available, the trust industry has similarly evolved with the development of Shari’a compliant trusts.

Trust law, particularly offshore, is sufficiently flexible to have trusts that are designed to be fully or partially compliant with Shari’a law. The choice will be largely dependent on the intentions and wishes of the settlor when establishing the trust. 

Inheritance considerations

One of the main differences between Shari’a and other forced heirship systems is that, under Shari’a law, there is no concept of applying the governing law of a deceased Muslim’s domicile to the succession of their estate.  Also, there is no restriction under Shari’a law in relation to lifetime gifts and transfers or to the lifetime transfer principle upon death. This flexibility in turn provides ample scope under Shari’a to permit a Muslim to transfer assets to a trust during their lifetime.

However, on death there are very precise and detailed rules for the division of inheritance.  Accordingly, a Muslim settlor wishing to create a trust with Shari’a compliant terms is likely to require one which provides that, upon the death of the settlor, the trust fund is either paid to the settlor’s heirs under Shari’a law and the trust terminated, or the trust is divided into sub-funds in amounts determined by reference to the heirs’ entitlement under Shari’a law. 

In practice, the latter is generally preferred by most settlors of such trusts as this route normally continues the benefits of having a trust into the next generation – including, for example, some additional protection against spendthrift children, possible claims resulting from a breakdown in an heir’s marriage, or protection for the heirs from other future unforeseen creditors.

Shari’a compliant trust deeds would normally also include a requirement for the trustee to make annual payments to the settlor during his lifetime in order that he makes a distribution of ‘Zakat’.  Zakat is the Islamic concept of tithing and alms; it is an obligation on Muslims whose annual wealth exceeds a minimum level to pay a percentage (normally 2.5%) of their wealth to specified categories in society, such as those living in poverty.

Investment considerations

Although trustees often have very wide powers of investment, there is generally nothing in modern trust law that would prohibit the creation of a trust where investments are restricted to those acceptable under Shari’a law. To enforce this, a settlor can grant power of investment over the trust fund to an appropriate person or committee well versed in Shari’a law. This route removes the obligation of determining an investment’s Shari’a compliance away from the trustee (who is normally not well versed in such matters) back to the settlor and to the other designated person(s).

Suitability requirements are, as ever, paramount. Shari’a has strict rules associated with investment and the trust deed would need to include provisions that specifically exclude investment categories prohibited under Shari’a (e.g. alcohol, pork and tobacco).  

There are now a number of investment managers who construct portfolios that comply with Shari’a law, relieving the trustee of this responsibility. However, where the trust is to hold property, the trust must ensure that tenants are appropriately monitored and the premises are not used for activities prohibited by Shari’a law.

Given the variance in the interpretation and implementation of Shari’a law in Muslim societies today and the need for trusts to remain compliant with Shari’a law, relying on the right advice is crucial. A Shari’a scholar or jurist can advise, or in some cases direct, the trustee on relevant inheritance and investment matters and any areas of uncertainty.

As wealth from countries with predominately Muslim populations continues to grow and extends through family or investment to other non-Shari’a law countries, the need for international trusts that incorporate relevant aspects of Shari’a law will only continue to grow, making it increasingly vital for trustees and wealth advisers across the globe to have a solid understanding in this area.