Short answer
A normal index fund, such as one tracking the S&P 500, is not halal in the mainstream view, because it holds banks, insurers, alcohol and gambling companies and many firms with heavy interest debt. A fund that tracks a Shariah-screened index, holds only compliant shares and purifies its income is halal in principle.
Investing in a conventional broad-market index fund is not permitted, since a real part of it is in businesses that are haram at their core. A fund built on a Shariah-screened index, with a qualified board and a purification process, is permitted in principle.
The four schools agree on this.
Explanation
An index fund buys every company in an index in proportion to its size. You cannot choose which ones you own. A broad US index includes conventional banks and insurers, which earn mainly from interest, along with brewers, casino operators and others. Many of the remaining companies fail the debt screens described in Are stocks halal?. Some people argue that the haram part is small and can be purified. Most scholars answer that the business screen comes first: you may not knowingly buy shares in a bank or a brewery, however small the stake, because owning them means owning a haram business. Purification is for incidental income in a halal company.
Also avoid inside retirement plans and brokerage accounts:
- Bond funds, money market funds and stable value funds, which earn interest.
- Target-date funds, which mix shares with bonds.
- Securities lending, where the fund lends your shares out for a fee.
What to look for in a Shariah fund:
- It tracks a published Shariah index or uses a named screening method.
- A Shariah board of qualified scholars oversees it.
- It explains how it purifies income, or tells you how much to purify yourself.
Funds holding sukuk (Islamic certificates) instead of bonds are halal in principle when the sukuk are properly structured. For a 401k or workplace pension with no Shariah option, ask whether a brokerage window is available, and see zakat on 401k and pensions. Contemporary scholars of the four schools apply the same screens. This entry gives principles, not approval of any fund.
The evidence
Quran, Surah Al-Maaida 5:2
يَٰٓأَيُّهَا ٱلَّذِينَ ءَامَنُوا۟ لَا تُحِلُّوا۟ شَعَٰٓئِرَ ٱللَّهِ وَلَا ٱلشَّهْرَ ٱلْحَرَامَ وَلَا ٱلْهَدْىَ وَلَا ٱلْقَلَٰٓئِدَ وَلَآ ءَآمِّينَ ٱلْبَيْتَ ٱلْحَرَامَ يَبْتَغُونَ فَضْلًۭا مِّن رَّبِّهِمْ وَرِضْوَٰنًۭا ۚ وَإِذَا حَلَلْتُمْ فَٱصْطَادُوا۟ ۚ وَلَا يَجْرِمَنَّكُمْ شَنَـَٔانُ قَوْمٍ أَن صَدُّوكُمْ عَنِ ٱلْمَسْجِدِ ٱلْحَرَامِ أَن تَعْتَدُوا۟ ۘ وَتَعَاوَنُوا۟ عَلَى ٱلْبِرِّ وَٱلتَّقْوَىٰ ۖ وَلَا تَعَاوَنُوا۟ عَلَى ٱلْإِثْمِ وَٱلْعُدْوَٰنِ ۚ وَٱتَّقُوا۟ ٱللَّهَ ۖ إِنَّ ٱللَّهَ شَدِيدُ ٱلْعِقَابِ ﴿٢﴾
O you who have believed, do not violate the rites of Allah or [the sanctity of] the sacred month or [neglect the marking of] the sacrificial animals and garlanding [them] or [violate the safety of] those coming to the Sacred House seeking bounty from their Lord and [His] approval. But when you come out of ihram, then [you may] hunt. And do not let the hatred of a people for having obstructed you from al-Masjid al-Haram lead you to transgress. And cooperate in righteousness and piety, but do not cooperate in sin and aggression. And fear Allah; indeed, Allah is severe in penalty.
Owning and financing haram businesses is helping in sin.
Sahih al-Bukhari 52
Sahih... الحلال بين والحرام بين وبينهما مشبهات لا يعلمها كثير من الناس ...
"The halal is clear and the haram is clear, and between them are doubtful matters that many people do not know."
When a fund mixes halal and haram holdings, the safe course is a screened fund.
Where the ruling is recorded
- Fiqhi Maqalat (Mufti Taqi Usmani), Essay on buying and selling company shares. Conditions for share ownership that also govern funds.
- Mufti Taqi Usmani, An Introduction to Islamic Finance, Chapter on Islamic investment funds. Equity funds are lawful when every holding meets the conditions.
- AAOIFI Shari'ah Standards, Standard on financial papers (shares and bonds). Screening and purification rules.
This answer is pending review by the scholars on our team. Quran translation by Sahih International. Hadith Arabic from the standard editions of the six books and the Muwatta, with gradings as recorded there; the English is our own rendering. Spotted a mistake? Tell us.