All perfect praise be to Allah the Lord of the Worlds. May His peace and blessings be upon our Prophet Mohammad and upon all his family and companions.
Allah has forbidden usury (Riba) in all its forms. This is attested to in the following verse: "Those who devour usury will not stand except as stand one whom the Evil one by his touch Hath driven to madness. That is because they say: "Trade is like usury," but God hath permitted trade and forbidden usury." {Al-Baqarah, 275}. Moreover, Abu Hurairah (May Allah be pleased with him) said: The Prophet (PBUH) said: "Avoid the seven destructive things." It was asked: (by those present): "What are they,O Messenger of Allah?" He replied: "Associating anyone or anything with Allah in worship; practicing sorcery, killing of someone without a just cause whom Allah has forbidden, devouring the property of an orphan, eating of usury, fleeing from the battlefield and slandering chaste women who never even think of anything touching chastity and are good believers." [Al-Bukhari and Muslim].
The penalty clause included in installment sale contracts is clear usury forbidden by Allah and His Messenger (PBUH). This is similar to the transactions of the people of the Jahiliyya (Days of ignorant). When their debts were due, they said to the person with the debt: "Either you pay in full or you increase it." This applies to every fine conditioned for late payment of a debt or an installment. Whether stipulated in the sale contract or not, such fine is forbidden by Sharia texts (Quran and Prophetic Sunnah). Basically, it isn`t permissible to engage in a contract that includes such condition because it renders the contract invalid.
Moreover, contracting parties` approval of this condition doesn`t make the contract valid since accepting what is unlawful doesn`t make it lawful, and every condition that contradicts the Book of Allah and the Sunnah of His Prophet (PBUH) is invalid. Ibn al-Monther reported the scholarly consensus regarding the unlawfulness of increase over debts, and considered it usury. He said: "If the creditor stipulated that the debtor pays an increase over the original amount of the debt or gives a gift, then this is usury." {Al-Ijmaa, P.33}.
In conclusion, the increase imposed for late installment payment is forbidden usury disapproved by the teachings of Islamic Sharia. Resolution No. (
11) (2008) of the Jordan Iftaa` Council states that the penalty clause stipulated in contracts is forbidden and it is also forbidden for a Muslim to engage in such contracts as well.
We (Iftaa` Department) warn against including such condition in contracts of organizations, cooperatives and banks, which seek to implement the rules of Islamic Sharia in their buy-sell transactions. This is because there aren`t lawful excuses for such condition and rights of the aforementioned institutions can be preserved by other means, which are lawful. And Allah The Almighty Knows Best.