According to Islamic rules of 3qood (contracts), taking a salary by one or more of the partners is prohibited.
Below are listed the various reasons.
We are all familiar with the way western companies are set up. For example, let's say that there is a company called ABC Limited, and you also have the director(s) who own the company. The company and the director are two separate entities. Hence, each entity's liabilities can be arbitrarily set. For example, in the western world, if you paid for a service or product provided by ABC Limited, but the director decides to close down his business on the grounds of false bankruptcy, then the liability will fall on the company to pay, not on the director.
However, in Islam, there is no separation between the company (sharika) and the director/s or shareholders. They all form one entity. So, if the company fails to provide the goods or service you paid for, then either your money must be returned, or the service/product will have to be delivered, even if the director has to borrow the money!
This makes Muslims take their business more seriously, especially with respect to contractual obligations.
“O you who have believed, fulfill [all] contracts…” (Qur’an 5:1)
"There are three signs of a hypocrite: whenever he speaks, he lies; whenever he makes a promise, he breaks it; and whenever he is trusted, he betrays his trust." [Hadith Sahih]
If we can understand the above difference between western company structure and Islamic company structure, then the rest will be easy insha’Allah.
So, in western company structures, you have the company, which is a legal entity and is separate from the director/s (individual owners). Hence, we’re familiar with the concept of the company paying the directors' wages, since he/she is an employee of the company.
While we are discussing wages and employment, let us look at the shariah definition of what defines an employee.
Shariah defines an employee as every person who works for a wage, whether the employer is an individual, a company (sharika), or the government.
When a worker is employed, four things must be made clear before hiring:
1. The type of work, e.g. selling, cold-calling, marketing
2. The period of work, e.g. monthly contract, annual
3. The effort (e.g., the number of hours a day)
4. The wages (e.g., a fixed payment amount that can be made with whatever has monetary value)
Now, to proceed with explaining what is wrong with taking wages if you're in a business partnership, I will need to use a basic business scenario, which is detailed below.
CASE STUDY: Let’s say two people entered a mudharaba partnership. This means that one partner brings his asset (e.g., a car worth £20k), and the other just his effort, for a 50/50 profit share.
Note: In a normal mudharaba contract, the party who brings his asset and no effort will bear 100% of the loss.
Revenue will be generated by charging customers for transporting them from point A to point B. The non-investing partner will drive the car, and at the end of the month, both partners will split the profit 50/50. The ownership of the car (100%) will belong to the investor.
If the partner (the driver) takes wages, then it will create the following contractual problems:
Wages are normally agreed upon between the employer and the employee. Since the employee is one of the employers, then what will happen is that the basic of all Islamic contracts - i.e. ‘offer and acceptance’- won't take place. After all, how can a person make a agreement with himself by offering himself a job!
If that partner says that the wages or compensation for time spent has been agreed upon by the other partner, then this still contradicts the shariah. This will be demonstrated by the following five points.
Is the other partner your employer? In this case, there should be an employee-employer contract. Is the other person your partner? In this case, there should be a profit sharing agreement in place.
Also, don't forget that, in Islam, both the employee and the employer have certain rights.
If you have already agreed to a 50/50 profit share, the income for the partner driving the car will be 50% of the profit.
(Wouldn’t it be nice for someone to just drive the car around and pay himself a salary, regardless of whether there is a profit or not? I've seen it happen everywhere!)
Indeed, as believers, we understand that the laws of Allah (swt) are far superior than any other law. And Allah (swt), being All Just, will not give us a system of life that's harmful for anyone. His (swt)'s rules will be free from all human deficiencies.
We must understand wages according to sharia. Indeed, Allah (swt) has perfected His deen, and He left out nothing from it.
"Today I have perfected your Deen (way of life), and have completed my favor upon you (mankind) and have chosen for you Islam as your Deen." (Quran 5:3)
In Islam, wages or compensation for work must be fixed (e.g., £10 an hour for cashier job). It’s incorrect to say, ”I’ll give you something if you work for me.”
So, as a partner, if you’re giving yourself a fixed wage (even for a short period of time), then you’re getting a fixed return on investment.
Note: Partners are not allowed to offer themselves a fixed return on investment; otherwise, you would be waiving off the ‘risk’ element of the business venture. The risk must be present for both parties, in order for the organization to be a recognized business. So the driver partner risks his time, and the investor risks his asset.
Wages are considered business expenses in Islam. If the driver (who happens to be a partner) gives himself a £10k salary, for example, and assuming the profit was £30k that year, then one partner would have earned £25k (if you add £15k, the 50% of the profit), while the other would have made only £15k, which does not equate to a 50/50 profit share.
Since wages must be paid to an employee for services rendered, what happens when a company does not make enough money to pay the wages? Well, according to Shariah, the liability for loss falls on the partner who invested with his assets.
It gets really interesting now.
So, lets say the company only made £5k, but the wages are £10k. In this case, the other partner has to pay £5k from his pocket to his partner, since wages are considered as business expenses. All expenses must always be settled, unless wages paid to partners were never meant to be a business expense!
Assuming the partners agrees that the other isn’t taking wages, but is simply taking dividends, this could work, but we’ll continue to refer to these as wages. This still causes problems, though, because of the following:
a. Wages are fixed, but dividends can go up or down.
b. Dividends are part of your profit share, while wages are considered a business expense.
c. Wages come with fixed work/ responsibilities, and nothing more or less. Partnership comes with whatever is necessary (as per agreement) to make the business successful (without counting the hours, in general).
d. The word ‘wages,’ or anything similar to it, cannot be used in business contracts, since the meaning does not convey dividends. If there is confusion over the meaning of the terms, then the contract will not be enforceable.
e. The responsibility on the partners, in terms of who is liable for what, becomes blurred. This can lead to apathy (e.g., “I am going to do only what I am paid to do.”) or over burdening oneself (e.g., “After finishing my ‘job,’ I’ll have to put in more time as a partner!).
f. Dividends are normally calculated at the end of the business partnership or at the end of the financial year (or zakat/lunar year). Paying wages to partners will have to be deducted from the partner’s profit share. The question is this: If the partner receives too much dividend early on, will he be able to pay it back right away?
So, what’s the Islamic solution, if you feel that it’s unfair for one partner to be doing all the work while the other has just invested his/ her money:
Here is one of many Islamically valid solution:
The partners are allowed to agree on a different profit share ratio. You can do a 30/70 split, for example. Or, you can own 50/50 of the company, but split the profit share differently (e.g. 25/75), where 75% goes to the person who will be working more in the company.
While running the business, if one partner needs an allowance to pay for his personal/family expenses, then drawings can be taken from the business. The amount taken should be based on an estimate of his share of the total profit that this partner will hope to make at the end of the business agreement.
However, drawings from the company earnings, can ONLY be taken if the following conditions are met:
a. a. The partners specify that the drawings are taken as an early measure of profit, and they will give back the difference if they’ve over estimated (and vice versa).
b. b. The word ‘wages’ is not specified anywhere in the contract (if it is for legal purposes, then a definition of it should be pronounced in writing, or verbally, at the beginning of the partnership).
c. 'Drawings' are exactly the same as dividends or profit share.
d. Drawings are not considered to be business expenses.
There are, of course, other solutions. So, please email me if you have any questions or comments.
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