Is my 401(k) "contaminated" with riba even though I sold off my old fund that had bonds?

[melman]

I have a 401(k) from old my employer that had ~10% bonds and for some reason I never noticed. I am a stickler for avoiding bonds and my other investment accounts (i.e., Roth IRA) are 100% equities that are largely vetted for Shahriah compliance. I remember vetting my old 401(k) but for some reason I can't remember, I ended up with a fund that included bonds and just never noticed until now. I didn't intentionally choose a fund with bonds, so there must have been some mistake.

Once I noticed it, I sold the old fund and put in an order to buy into another fund that is 100% equities and 0.0% bonds. However, I made a sizable profit on the old fund. However, I read the old fund's annual reports, and they don't separate out profits from the equity and bonds sides. Therefore I have no way to really know how much of the profit is from bonds, but basic financial knowledge would suggest that it probably is a minority of the profits.

So, what do I do now? Is my entire 401(k) "contaminated" with riba? How do I make it right, if at all?

 

[annache]

@melman I respond as someone who is somewhat familiar with retirement planning, portfolio management and modern finance.

When I read about your dilemma and the discussion here, it illustrates the impractically of trying to derive rulings in finance from revelations during a period when banks, securities, portfolio management, and financial retirement planning did not exist. It makes more sense to apply maqasid sharia (higher principles - ethics, fairness, justice, preservation of wealth) to retirement planning.

You are accepting the assertion of Islamic scholars that all modern interest = riba. I know this is conventional wisdom in a large part of Islam, even though Caliph Umar (companion of the prophet) was not sure what the prophet meant by riba. The riba prohibition at the time of the prophet was in the context of poor debtors who had their burdensome unpaid debt arbitrarily multiplied by moneylenders - sometimes enslaving them - obviously an exploitive and unjust social evil. This was the riba al jahiliyya - like loan sharking and predatory lending today. It is not at all the same as modern interest, particularly that on the corporate and government bonds in the Vanguard portfolio.

It is standard practice in retirement planning to recommend adjusting the retirement fund's asset mix towards fixed income to reduce risk as the retirement date approaches, as this Vanguard fund does automatically.

 

[melman]

@annache I appreciate your sensible reply. I wished more people thought this way but there’s a sharp tendency towards literalist interpretation. At least with Islamic finance there’s a general understanding that outside of interest-bearing securities like bonds, there’s a “gray area” for stocks without a common system for evaluating whether most stocks are haram or halal.

A lot of sources like Zoya Finance try to do so but it’s all pretty subjective. For example, they use 30% as the threshold for the debt to equity ratio to determine whether a stock is non-Shariah compliant. As you said there’s no way to derive such a number from the Sunnah, so we modern people can only try our best. Allahu Alam.

 

[cautiouslittlehope]

@melman While I agree with certain points above, I would first consider shariah-compliant options for de-risking or diversification of your portfolio. SPSK, WISEX, and AMAPX do have similar volatility and correlation profiles as traditional bonds with broad equity markets. If your need is not satisfied by these shariah-compliant products, then I would love to know why.

 

[annache]

@cautiouslittlehope Those are interesting securities and funds, and I agree with you they could do (much of) the job of fixed income in a diversified portfolio. And using them supports and promotes Islamic business, which is ok with me. The comfort of sharia compliance can have value for a Muslim investor.

But they do restrict the choice of investors. One does not have the reputation of mainstream firms behind them. The funds are small and fees are higher- SP and Amana are charging 65 bp and 80 bp for what are basically international sukuk index funds. This is what Muslim academic Mahmoud el-Gamal calls "sharia arbitrage" - the managers profit from higher fees paid by Muslims who are told they must use sharia compliant finance.

Sukuk - they are income pass through securities with coupons, fixed terms, and durations - looking supiciously like bonds. Are they really different? Islamic scholars paid to be on sharia boards say they are. So I am skeptical. The listed sukuk are foreign securities, and its far from clear how one would have recourse to the underlying asset in the event of default.

WISEX appears to have a lot of real estate exposure, which provides stable income but some investors may not be comfortable with.

 

[cautiouslittlehope]

@annache Yes, the sukuks that are currently available are mostly shorter duration and largely belong to EM. I think we should keep promoting these products because increasing demand will lead to the creation of many competing products, which hopefully will bring down the shariah-arbitrage to zero.

On the other hand, I have been recommending replication of equity ETFs and Mutual Funds, if an investor holds a significant amount of money. This would save them those high management fees, provided that they have access to fractional share purchase and can keep an eye on inclusions and exclusions. Unfortunately, this is not something you can do with sukuks.

 

[annache]

@melman

30% as the threshold for the debt to equity ratio

This is actually a reasonable rule of thumb for most corporations, although some like utilities and real estate corporations could go higher. Excessive debt has been the downfall of many businesses. But lets base it upon analysis and experience, not on an arbitrary assertion.

 

[cautiouslittlehope]

@melman Which fund is it?

 

[melman]

@cautiouslittlehope Vanguard Target Retirement 2065 Fund

https://investor.vanguard.com/investment-products/mutual-funds/profile/vlxvx#portfolio-composition

 

[chuckm]

@melman Salams,

I'm not contributing to 401k because my company only offers Vanguard funds. And from what I researched, none of them are halal. What is your thought.

 

[melman]

@chuckm Wasalaam, I'm not too qualified to respond so will give a personal opinion. In general, no modern financial tools are fully "halal" but there are varying degrees of halal / haram. For example, bonds are pretty explicitly haram hence my serious concerns above. Equities / stocks, on the other hand, can be halal if they meet certain conditions. For example, they cannot be of companies that serve unislamic industries, like Alcohol, Pornography, Pork, Military and Defense, Banking and Financial Services, etc. Some are obvious, like Anheuser Busch (NYSE:BEV). However, for most companies it's an excercise of determining for yourself whether you are comfortable investing. You can look at the industry like I described, but you also need to look at their financials (i.e., are they a highly leveraged company meaning are they using a lot of debt, and themselves involved in riba?)

I recommend trying the Zoya app for this reason. The brother below linked to their website and I actually saw another article that can help you, too. https://blog.zoya.finance/is-my-401k-plan-halal/

Their article essentially says that it is OK to have a 401k and even invest in Vanguard funds, because most people will not be able to invest in Shariah-compliant ETFs or mutual funds like SPUS or HLAL for their 401k. Usually you have to pick from a list of specific funds, like in your case.

My recommendation (because this is what I do) is pick a Large Cap Stock fund with 0% involvement in bonds. Most likely it'll be mostly large Tech companies like Microsoft, Apple, Meta, Amazon, etc. Yes, it won't be 100% halal, but it's your best effort. And I think at the end of the day, all of us will have to "purify" these funds when it's time to sell off the 401ks.

InshaAllah this helps. Allah knows best.

 

[chuckm]

@melman Thank you for your detailed explanation. I'm aware of companies being a halal and not. For my personal investing, I started to use https://sp-globalwealth.com/stock-screener/. Someone recommended me on this sub.

I'm not comfortable with investing in non halal companies and "purify" later. If I die earlier and the person selling of the 401k does not "purify" IMO, I will be held accountable.

Will read up on Zoya and see if there was fatwa passed on this.

 

[melman]

@chuckm

If I die earlier and the person selling of the 401k does not "purify" IMO, I will be held accountable.

Will read up on Zoya and see if there was fatwa passed on this.

You can invest in any of these without any concern as they are certified Shariah Compliant and they are managed by brokers who monitor the investments. List is taken from the Zoya link.

May Allah purify our wealth and forgive us for any wrongdoing and unintentional consumption of riba.

Shariah compliant mutual funds

ADJEX: Azzad Ethical Fund

AMAGX: Amana Growth Fund

AMANX: Amana Income Fund

AMDWX: Amana Developing World Fund

AMAPX: Amana Participation Fund

IMANX: Iman Fund

WISEX: Azzad Wise Capital Fund

Shariah compliant ETFs

HLAL: Wahed FTSE USA Shariah ETF

SPRE: SP Funds S&P Global REIT Sharia ETF

SPSK: SP Funds Dow Jones Global Sukuk ETF

SPUS: SP Funds S&P 500 Sharia Industry Exclusions ETF

UMMA: Wahed Dow Jones Islamic World ETF

 

[chuckm]

@melman Ameen.

I'm aware of them, but my company 401k plan only consist of Vanguard.

 

[melman]

@chuckm Use a Roth IRA and individual investment accounts for now. You'll miss out on the tax benefits and employer matching of a 401k, but honestly it's a small price to pay to clear your conscience.

 

[chuckm]

@melman Yes, I'm thinking about Roth IRA account, hoping to start using this year.

Sorry, but what do you mean by "small price to pay to clear your conscience"?

 

[melman]

@chuckm

Sorry, but what do you mean by "small price to pay to clear your conscience"?

I meant that forgoing the tax benefits and employer contributions of a 401k is a small sacrifice compared to not having to worry about consuming riba, since it's a very serious sin in Islam

 

[cautiouslittlehope]

@melman Here is one way of making sure that you get rid of the impure income. Find the date when you started to contribute to this fund. Find the contribution amounts until the disposition of the fund. Calculate the returns from these fixed income funds (you can approximate the performance of these funds by using BND and BNDX ETFs) on your all contributions. Find out the amount.

Not sure if Vanguard will be able to help you out with this, but you can try to reach out and ask.

 

[melman]

@cautiouslittlehope That's helpful, thank you. What do I do once I determine the income from bonds? Do I need to withdraw that out of the 401k? Alternatively, can I simply donate an equivalent amount from my own funds to cancel out the haram income from the bonds?

 

[cautiouslittlehope]

@melman https://blog.zoya.finance/stock-purification-guide/