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PEBBLE HILLS UNIVERSITY

Institute of Islamic Finance

DIMINISHING MUSHARAKAH
Islamic Financial Instrument Manual

Muhsin Mohamed Said


(MBA.279.UK.344)

Supervisor: Sarah K

A Project submitted in partial fulfillment of the requirement


of the of Degree of Master of Business Administration
In Islamic Banking & Finance
At
Institute of Islamic Finance
Academy for International Modern Studies
Pebble Hills University
Chatham - Kent, UK
August, 2010
Diminishing Musharakah
Instrument Manual

Muhsin M Said

Table of Contents
Page
Executive summary..................................................................................4

Section I
1.1 Overview of diminishing Musharakah..............................................6
1.1.1 Concept of Musharakah, its types, basic rules & areas of application.....6
1.1.2 Meaning of Diminishing Musharakah................................................10
1.1.3 Types and basic structure of Diminishing Musharakah........................10
1.1.4 The basic rules of Diminishing Musharakah.......................................12

1.2 How DM is different with convectional financial system...............14


1.2.1 Riba (interest)..............................................................................14
1.2.2 Risk sharing and fairness...............................................................18
1.2.3 Gharar and uncertainty..................................................................19
1.2.4 Principles of consumption...............................................................20
1.2.5 Speculative business and forward transactions..................................21

1.3 Diminishing Musharakah and other modes of Islamic Finance.....24


1.3.1 DM vs. Mudarabah.........................................................................25
1.3.2 DM vs. Murabaha...........................................................................27
1.3.3 DM vs. Ijarah................................................................................29
1.3.4 DM vs. Salam................................................................................31
1.3.5 DM vs. Istisna...............................................................................35

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Sections II:
2.1 DM Instrument applications..................................................................37
2.1.1 House financing.................................................................................37
2.1.1.1 Purchase of house..................................................................38
2.1.1.2 Construction of house.............................................................39
2.1.1.3 Renovation of house...............................................................40
2.1.1.4 Balance transfer facility (BTF)..................................................41
2.1.2 Agriculture financing...........................................................................42
2.1.2.1 Farm Machinery & Transport financing......................................42
2.1.2.2 Livestock, Fruit & vegetable and Fishing farming financing..........43
2.1.3 Vehicle purchase, plant and machinery and other commercial premises....43

2.2 Operational flowchart...........................................................................44


2.2.1 Operational flowchart explanation........................................................45

2.3 Work instructions for operators...........................................................46


2.3.1 Shirkah agreement instructions...........................................................46
2.3.2 Ijarah agreement instructions.............................................................53
2.3.3 Sell/purchase instructions...................................................................57

2.4 Contracts................................................................................................62
2.4.1 Shirkah agreement contract................................................................62
2.4.2 Diminishing Musharakah contract........................................................75

Section III
3.1 Case studies...........................................................................................84
3.1.1 Purchase of vehicle ...........................................................................48
3.1.2 Construction of house........................................................................88

Section IV
4.1 Marketing plan.......................................................................................93

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Executive summary
This project is about Diminishing Musharakah manual presenting two case studies;
Purchase of vehicle and Construction of house. Using Diminishing Musharakah as a mode
of Islamic finance and useful tool for Islamic Banks, the project explains in detailed about
the nature and features of this instrument and how it works, how it differ from
convectional financial system, its importance and advantages over conventional financial
system. The project also elucidates how the Diminishing Musharakah differs from other
modes of Islamic finance such as Mudarabah, Murabaha, Salam, Ijarah, and Istisna. It also
tries to look on different areas that the Diminishing Musharakah can be applicable, and
their form of contracts. The projects finally use two case studies as chosen examples and
establish the marketing plan for this manual as a Riba free financing instrument. All these
information are highlighted in different sections in the following sequence.

The first section is an introductory part giving an overview of Diminishing Musharakah


(DM) as participatory mode of Islamic finance, explaining its nature as a dependable
instrument of Musharakah mode and giving brief overview about Musharakah. The project
went deep on Diminishing Musharakah by explaining its types, salient features and rules
that regulate it. It also presents the basic structure of Diminishing Musharakah and its
components. Furthermore, the project explains how this instrument differs from
convectional financial system; it touches the concept of Riba, risk sharing & fairness,
Gharar (uncertainty), Jahala & Qimar as well as the concept of halal and haram. As Riba
considered the main difference between Islamic and convectional finance system, the
project went so deep in this topic and make it clear for what reasons Islam has forbidden
Riba together with the benefits of avoiding Riba for both Muslims and non-Muslims. And
the last of this section, the project clarifies about the differences between Diminishing
Musharakah and other modes of Islamic finance such as Mudarabah, Murabaha, Salam,
Ijarah, and Istisna as well as observing how this instrument (DM) can work together with
some modes of Islamic finance such as Ijarah and Istisna.

Section two is about application of the Diminishing Musharakah in different areas


depending on the nature of the dealings. The most known areas for Diminishing
Musharakah application are house financing, machinery & commercial premises financing

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as well as agricultural financing. The project explains all these dealings in different
structures for example the house financing can be the purchase of house, construction of
house or just renovation of house. And on agriculture financing appeared to be even
broader, it includes transport financing (purchasing van etc), livestock financing
(construction of sheds, storerooms etc), fruit and vegetable financing (construction of
stores, purchasing the processing machines etc) fishing financing as well as purchase of
other commercial machinery. Moreover the project intensely explains about the work
instructions for operators and providing a clear format with all components regarding the
Diminishing Musharakah contract at the end of this section.

Section three gives comprehensible illustration about Diminishing Musharakah agreement


and mechanism by using two case studies, Purchase of vehicle and construction of house.
On the purchase of vehicle, the project uses the case of Safari Tour, the tour Company in
Kent UK. The company approached Islamic Bank as a financial provider entering into
agreement purchasing one Minibus for Diminishing Musharakah basis. And on house
construction, the project uses the case of the Goldenfreights (Freights Company) which
entered into agreement with Islamic Bank to construct the storehouse for Diminishing
Musharakah basis. The project gives a clear scenario of both case studies by showing all
stages from the beginning up to the end of the contract including all calculations and
accounting procedures of each case study.

Section four is all about the marketing plan for the instrument (DM) giving clear
explanation about the product, details of overall structure and because it is still considered
a new instrument. What is the current status in contemporary Islamic banks, and how
much the instrument can benefit people. The plan also tries to look on the market
segment for this instrument and the reasons for such segmentation. The instrument‟s
sales process and sales management will be presented in this plan using well prepared
plans for making the instrument unambiguous and more clear to people.

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SECTION ONE

1.1 OVERVIEW OF DIMINISHING MUSHARAKAH

1.1.1 Concept of Musharakah, its types, basic rules and areas of


application
Since the term “Diminishing Musharakah” as a mode of Islamic finance originated from
another mode of finance “Musharakah”, thus it is more important to have a brief idea of
Musharakah for the better understanding of Diminishing Musharakah.

Musharakah derived from Arabic word “Shirkah” which means being a partner. So, the
lateral meaning of Musharakah is sharing and under Islamic jurisprudence, Musharakah
means a joint enterprise or venture formed under a contract by mutual consent of the
parties for conducting some business in which all parties share the profit according to pre-
agreed ratio while loss is shared in accordance to the ratio of their capital contribution. In
Musharakah, the share of each partner should be clearly known and all partners must
contribute their capital in terms of money or species at an agreed valuation. The assets of
Musharakah are jointly owned in proportion to the capital of each partner.

In Musharakah every partner can involve in the management of the business but it is not
necessary doing so, the partners may employ an outsider for managing the business, in
most cases, the there is a mixture of management, i.e. some of the partners together with
outsiders having an expertise of managing such business. The partner who involves in the
management is supposed to get the management fee plus the profit in the proportion to
his share, and in case of loss, he is still entitled to get the management fee as an
employee. When the partners choose not to involve in the management i.e. silent or non-
working partners, the ratio of their profit should not exceed the ratio of their capital
investment.

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Types of Musharakah
- Shirkat-ul-milk (partnership by joint ownership)
- Shirkat-ul-aqd (Partnership by contract)
Shirkat-ul-milk (partnership by joint ownership) is the kind of Musharakah where by two
or parts jointly own the particular property. This kind of partnership can be done optionally
(ikhtiar) when the partners mutually decide to purchase the property to be owned by them
for any intention other than commercial. It can also be compulsory (ghair ikhtiar), i.e.
happened automatically without mutual agreement or any effort done by involved
partners. The main case for this kind of Shirkah is death of a person where by all his heirs
inherit his property and become the owners of this property naturally. It should be noted
that the ratio of the share of this property is calculated according to Islamic laws of
inheritance.
Shirkat-ul-aqd (partnership by contract) also known as join commercial enterprises, is the
kind of Musharakah which come into existence by a mutual contract for the purpose of
being brief in duration where either the partners share everything equally, i.e., capital,
management, profit and risk are shared equally, this situation is described by the term
“Shirkat-ul-mufawada” meaning capital and labour at par, Or when the partners share
the capital, management, profit and loss unequally, this situation is termed as Shirkat-ul-
ainan. Shirkat-ul-aqd can come into existence in three states; the first state Shirkat-ul-
amwal (Partnership in commercial) where all partners involved allocates the investment
capital into commercial enterprise. The second state Shirkat-ul-aamal (partnership in
services) is the kind of Shirkat-ul-aqd where by all partners mutually commence to provide
some service for their customers, the kind of service provided can be different or linked to
each other. The fee charged from that service is distributed among the partners in agreed
ratio irrespective to the level of workload carried out by the partners. The third state
Shirkat-ul-wujooh (partnership in goodwill), in this state the partners do not have the
investment at all, they purchase the products on deferred price, by getting capital on loan
because of their goodwill and sell them at spot and distribute the earned profit at an
agreed ratio.

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Areas of application
Musharakah as a mode of Islamic finance is highly used in Islamic finance institutions
especially Islamic banks mainly as a finance provider. In Islamic Commercial banks
Musharakah can be used in the following cases:
It is used in bank deposit as a combination of Shirkah and Mudarabah; this can be
either treated as a joint investment where the participant stands as shareholders.
Or participating by opening fixed deposit and saving accounts where they stand as
the account holders sharing the profit only carrying the Mudarabah contract.
It can be also be used in project financing, mainly financing imports and exports. In
import, it is done by using letter of credit provided to the importer where by the
bank charging only service charges and not interest charges since Islamic finance
does not accept interest mechanism. The bank pays the certain amount and the
goods will be owned by both to the proportion of investment share. Eventually the
bank‟s share will be purchased by the importer at the market price. And in the case
of exports, two types of service scenarios can be used; pre shipment financing and
post shipment financing. In pre shipment financing using Musharakah, the
agreement will be made where the cost and expected profit is known, the exporter
will purchase the goods and the profit obtained by exporting is distributed among
the exporter and banks according to agreed ratio. In the case of post shipment, it
can be done using the bill of exchange of exporter who can appoint bank as his
agent to collect receivable on his behalf. Here the bank can charge a fee for the
service and provide to exporter an interest free loan equal to amount of the bill,
while the exporter will give the bank his consent to keep the amount received from
bill as a payment of the loan.
It can also be used as working capital in running business; the bank can provide
certain percentage of capital and with Musharakah agreement with the client
affected by particular period. Sharing profit according to agreed ratio and loss
according to the level of capital invested.

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In Islamic investment bank the Musharaka financing can be used in the following
situation:
Creation of Islamic equity securities (sukuk) through direct structuring or through
the process of asset securitization. Here the Musharakah sukuk issued with the aim
of using mobilized funds for lunching new business, developing an existing project
or financing business activities on the basis of any partnership contracts. The issued
certificate represents the projects or activities managed on the basis of Musharakah.
These certificates indicate the subscriber‟s ownership of asset in that business
according to his proportion. When the project is launched, these certificates can be
treated as negotiable instruments and be sold and bought in the secondary market.
It can also be involved in treasury operation as Musharakah based Financial
Institutions (F.Is) Pools, where it participates in special F.I Pool as a sleeping/silent
partner with Islamic Financial Institution as its working partner where the profit is
shared according to agreement while loss is distributed according to the level of
share in the F.I pool.
Musharakah can also be used for financing agriculture as a participatory mode of
financing, here the Islamic Investment Bank provides certain amount of funds to
finance some activities as agreed by the client, the amount issued by the Bank is
considered as its investment share in overall business. The profit and loss is shared
as par the rules of Musharakah.

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1.1.2 Meaning of Diminishing Musharakah


Diminishing Musharakah (DM) also known as Shirkah-ul-Mutanaqisah is a form co-
ownership in which two or more partners share the ownership of business or tangible asset
in identified proportion where by one or more partners undertake to buy the shares of
other partners gradually in instalments until the title of the of such business or tangible
asset is completely owned by the buying partner(s).

The Diminishing Musharakah is permissible participatory Shariah compliant mode of


finance which is developed near past extracted from Musharakah mode of finance. This
mode of finance complies with Islamic ethics and consideration. It is also an optional (al-
khiyar) contract which tend to reduce or remove Gharar in managing business by making
one partner the sole owner of the that business.

In Diminishing Musharakah, the participants (financer and its clients) in either the joint
ownership of the property or joint commercial enterprise are having an agreement that the
financer will sell its share to the client which is divided into number of units to be sold one
by one in specific interval. The process of buying the unit shares increases the shares of
the client until he becomes the sole owner of that property or commercial enterprise.

1.1.3 The types and the basic structure of Diminishing Musharakah


Like Musharakah, the Diminishing Musharakah is also divided into two types
Diminishing Musharakah in Shirkat-ul-aqd (joint venture)
Diminishing Musharakah in Shirkat-ul-milk (joint ownership)

Diminishing Musharakah in Shirkat-ul-aqd (joint venture), here, two partners start up a


business for the purpose of earning profit where by one partner undertakes to buy the
other shares gradually in specific interval. In this contract, no profit or principal is
guaranteed since the business can go into bankruptcy. In this situation, there should be

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two different agreements; one is Shirkat-ul-aqd agreement between the two partners
having its terms and conditions, agreed profit ratio and known investment contribution of
each partner. The other agreement is that, one partner will purchase the share of other
partner using the price of market value during the time of purchase and not time of
agreement. It should be noted that this promise should not be a part of Shirkah
agreement but if it is not fulfilled, it can be forced by the court of law.

Diminishing Musharakah in Shirkat-ul-milk (joint ownership), two partners purchase the


property with the purpose of one or both to use it or renting it to outsider, one partner
undertakes to purchase the share of the other gradually. This contract will specify the ratio
of investment of each partner. The independent agreement of one partner promise to
purchase the share of another partner on the basis of offer and acceptance will be signed.
In Shirkat-ul-milk, the principal can be guaranteed and unit price can be fixed. If both
partners decide to rent out their property to outsider or one partner decide to rent out his
share to other partner, a separate Ijarah agreement with all laws related to Ijarah will be
signed.

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The basic structure of Diminishing Musharakah involves three components which are;
1. Joint ownership of the financer and the client
2. Customer as a lessee of the financer‟s share
3. Redemption of the share of the financer by the customer

1 2

Joint ownership/ Musharakah

FINANCER Rent CUSTOMER

Diminishing Musharakah

Ownership transfer

1. The customer inters into agreement with financer for joint ownership of property
in known investment share of each side.

2. The customer pays the rent to the financer for using his share. The financer can
only rent this property according to the level of his investment share.

3. The customer in dependent agreement decides to purchase the share of the


financer. The financer‟s shares will be divided into number of units that the
customer will purchase these units from time to time in agreed period. As the
customer purchases these units he increases his investment shares and reducing
the amount of rent gradually until he becomes the sole owner of the property
completely.

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1.1.4 The basic rules for Diminishing Musharakah


The following are basic rules to be taken into consideration while making arrangement of
Diminishing Musharakah:-
Apart from the applying the concept of halal and haram, Diminishing Musharakah
can be formed only in tangible assets, (specified asset) and not the whole business.
Having separate agreements on stages in the process of Diminishing Musharakah,
three main stages, creation of Shirkah agreement, arranging the rent agreement
through Ijarah basis and agreement for purchasing the shares gradually, should be
treated differently.
The proportion of investment shares should be clearly identified, the expenses
regarding ownership shall be borne jointly by the partners to the proportion of their
investment, risk and reward and loss if any, shall be borne to the proportion of their
level of investment shares as well.
The amount of periodic payment would go on diminishing rate with the purchase of
ownership units by the purchasing co-owner where each periodic payment shall
constitute a separate transaction of sale.
In case the co-owner fails to honour his undertaking regarding the periodic payment
and purchase or sale of units as the case may be, the asset shall be sold in open
market and the co-owner aggrieved/affected by such failure shall be entitled the
loss or any gain as the difference between the market price and the price agreed in
the undertaking. The co-owner shall also be entitled to recover the outstanding
rental for the whole period that the other owner has actually used that asset.

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1.2 HOW THE DIMINISHING MUSHARAKAH DIFFER FROM


CONVECTIONAL FINANCIAL SYSTEM

Diminishing Musharakah as a mode Islamic finance system and important instrument of


Islamic Banks for house financing, plant machinery & commercial premises and
agricultural financing, follows the full Islamic laws and ethics. The difference between
Diminishing Musharakah and convectional financial system can be seen in the general
difference between convectional and Islamic financial system. Islamic finance is differed in
many aspects with convectional finance system since it follows the Islamic laws on
transactions (Fiqh-al-muamalat). In Islamic finance system there are many prohibitions
that are practiced in convectional finance system, apart from prohibition of Riba, Gharar,
Jahala and Qimar which are the main difference between Islamic and convectional finance
system, there are many kinds of unlawful sales that are practiced in convectional system,
things like gambling & games of chance, swearing on trade, forward transactions,
speculative business are strictly prohibited in Islamic financial system. Islamic finance also
put into consideration the principles of consumption which abide by the halal and haram
considerations, consumptions of pure and clean things as well as exercising the
moderation in consumptions. All these concerns have affected the Islamic finance
institutions transactions, for instance, since Islam does not allow the consumption of wine
or any other intoxicants, so the Islamic Bank cannot inter into agreement with anyone for
the construction of public house (pub). However, it can inter into agreement with someone
in construction of living house, hotel, restaurant, store etc.

1.2.1 Riba (interest or usury) in Islamic finance System


Islam has strictly prohibited Riba in any circumstance, this means that the Islamic
economical and financial systems have to comply with Islamic laws (Shariah). Since Riba is
not permissible in Islam, acquiring wealth through any Riba mechanism is considered
unlawful. The prohibition of Riba have been clearly mentioned in the main sources of
Islamic laws (Shariah); Quran which are the words of Allah (S.W) revealed to His
Messenger, Prophet Muhammad (S.A.W), and Sunnah of which are the words or actions of

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the Prophet Muhammad (S.A.W). In Quran, Riba has forbidden in various chapters and
verses as follows:-
The first revelations establish a clear distinction between interest and trade as many
people are arguing that the trade is just like Riba. The trade is absolutely different from
Riba; in trade one earns the profit from the business efficiency and hard working while in
Riba amount charged for loan, it varies due to amount of money loaned, it is not earned
from hard working. Also the profit fluctuates while the interest is fixed;

“Those who eat Riba (usury) will not stand (on the Day of Resurrection) except like
the standing of a person beaten by Shaitan (Satan) leading him to insanity. That is
because they say: "Trading is only like Riba (usury)," where as Allah has permitted
trading and forbidden Riba (usury). So whosoever receives an admonition from his
Lord and stops eating Riba (usury) shall not be punished for the past; his case is for
Allah (to judge); but whoever returns [to Riba (usury)], such are the dwellers of the
Fire - they will abide therein” (Quran 2:275)

The second revelations enjoin Muslims to stay clear of interest for sake of their own
welfare (here and hereafter)
“Oh you who have believe, do not consume usury, doubled and multiplied, but fear
Allah that you may be successful” (Quran 3: 130)

“And that which you give in gift (loan to others), in order that it may increase ( your
wealth by expecting to get a better one in return) from other people‟s property, has
no increase with Allah ; but that which you give in zakat ( sadaqa, charity etc)
seeking Allah‟s countenance, than those, they shall have manifold increase”
(Quran 30: 39)

“That they took Riba (usury), though they were forbidden and that they devoured
men‟s substance wrongfully – we have prepared for those among men who rejected
faith grievous punishment” (Quran 4:161)

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Third revelations condemn interest that it may lead to appropriation of property belonging
to others;
“Those who disregard the prohibition of interest are at war to Him (Allah) and His
Prophet (SAW). But if you repent, you may have your principal thus you do not wrong
nor are you wronged” (Quran 2:279)

The fourth revelations emphasis that interest deprives wealth of the God‟s blessings;

“Allah destroys interest and gives increase for charities. And Allah does not like every
sinning disbeliever” (QUR-AN 2:276)

In addition, Riba has also forbidden by the Sunnah of the Prophet (S.A.W) in several
Hadith (words of Prophet Muhammad (PBUH)) and considered as one of the major sins as
reported by one of the famous companion of the Prophet Muhammad (PBUH), Abu Huraira
(R.A) who said, Prophet (PBUH) said:

“Avoid the seven noxious things. It was said (by the hearers) what are they
Messenger of Allah? He replied, associating anything with Allah, magic, killing of one
whom God has declared inviolate without a just cause, consuming the property of an
orphan, consuming of usury, turning back when the army advances and slandering
chaste women who are believers, but un wary”

Furthermore, the prohibition of Riba has also mentioned in another Hadith by the prophet
(SAW), emphasizing that all people involved in the whole process of transactions the
involves Riba are the same;

“Jabir said that Allah‟s messenger (PBUH) cursed the accepter of the interest and its
payer (those who pay and receive an interest) and the one who record it, and two
witness, he said: they are all in the same guilt”

Thus, the Islamic Financial institutions should only use the interest free mechanisms that
are also comply with other Shariah rules, the existing mechanisms that are generally

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accepted by the Islamic scholars are Murabaha, Mudarabah, Musharakah, Salam, Ijarah,
Istisna and Istijrar. Riba, as simply understood in Islam as the excess compensation
without consideration has strictly prohibited due to many reasons. The rationales
behind the prohibition of interest fall under moral, social and economic harms of interest
as follows:-

Economically, the effect of Riba can be simply seen when the interest goes up and give
effect on real income, welfare as well as production. Normally when the interest goes up
the prices of the commodities will also increases due to increases in cost of production,
this will bring inflation, the people‟s real income becomes worthless and the general living
standard becomes low. This will also make the general production to fall down, decline of
goods and services availability along with redundancies in the work places leaving many
people jobless, which brings high level of crime, prostitution, spread of diseases, and
eventually effects, the country‟s political and social welfare.

Also, the interest causes the economic problem due to hoarding of money by few hands of
the rich people in the society and establishment of monopolies; these adversely affect the
money circulation in the society and bring down the living standard of such society. It can
also divide the society into two parts have and have-nots that affect peace, harmony and
creates hatred in the community.

In addition, the interest affects overall economy, this happen when the huge amount of
money withheld by rich people and lend them for their benefits only, this fund could have
used to start up project that would be more helpful to society and nation at large, brings
jobs opportunities and well as earning more profit than when they are used for lending and
collecting interest.

Moreover, interest promotes unearned income, as it has stated that interest is excess
compensation without consideration, many people instead of using their money for
business ventures and earns profit from the business, they issue the money lending them
to people for fixed or excess compensation regardless any situation, i.e. whether the

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person who lent the money has got a profit or loss. The lender will continue hoarding
interest, live through other people‟s effort and be like a parasite.

Furthermore, Riba destroys the spirit of sympathy, mutual help, and cooperation; instead
it brings selfishness, miserliness, inhumanity, greed, worship of wealth, and affects the
feelings of love, brotherhood and unity in the society. In many cases, people who take the
loans are seriously in need, the lenders who are really wealthy are charging them excess
compensation instead of helping them. It is because of greed and selfishness, which ends
up affecting the feelings of love and unity in the community.

Last but not least, the interest charged internationally has caused the debt servicing
problem and seized the development of the poor countries, they cannot buy the
technology, big machines and important tools for their development, and this is because,
they have to pay the existing debt first and they cannot pay because of high interest
imposed. Eventually, the poor nations will end up transferring their resources which are
vital to their own development to rich nations in paying and compensating their
accumulative debts.

1.2.2 Risk sharing and fairness


The Diminishing Musharakah and Islamic finance system at large follow the principle of
risk sharing and fairness in all modes of finance, for example in Musharakah contract we
find that when two partners having 50-50 shares in the business, these partners can agree
on profit sharing of any percentage, i.e. they can distribute the profit according to
agreement, it can be 60-40, 70-30 or even 90-10. But in case of loss, the loss should be
distributed exactly according to their level of capital invested, for this case it will be 50-50.
When we look at other modes say Murabaha, this is the kind of sale where the transaction
is done on a “cost plus” basis upon the request of customer, i.e. the seller disclose the cost
of a particular item to the buyer and adds a certain profit to it to reach at the final selling
price. Even though, the customer is the one who request certain item, the risk of such
item remains to the seller until he deliver the item to the customer according to agreed

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quality. Rejecting to buy the item the transaction can be forced at the court of law to
maintain fairness or the seller can ask for any security from buyer. In Mudarabah, the
capital is provided by Rabbul-maal and the business is managed by Mudarib whom they
share the profit according to agreement while loss if any, it fall on Rabbul-maal alone, the
loss that Mudarib incur is lacking the profit share. He will still be entitled to get paid as
employee. But to make sure that fairness is maintained, the Mudarib will be liable in case
of misconduct in respect to the Mudarabah fund or negligence. All other modes of Islamic
finance such as Salam, Ijarah, and Istisna follow the principle of risk sharing and fairness.

1.2.3 Gharar (uncertainty), Jahala and Qimar


The concept of Gharar has been defined by the Islamic scholars in two ways; the first
meaning is uncertainty and the other meaning is deceit/dishonesty. Practically, Gharar
means the uncertainty that can be seen in the basic elements of an agreement; these
include wording and phrasing uncertainty, subject matter uncertainty, consideration and
liabilities. Jahala is one of the causes of Gharar, meaning the missing information during
agreement. It is hindrances which limit the power of decision making. Qimar is also source
of Gharar; it is the possibility of total loss to one part in an agreement. So Islam has
clearly forbidden any agreement having an element of Gharar even if the contracting
parties are happy with such agreement, this is because it can course injustice in such
transaction. According to Hanaffy jurist, Gharar is any sort of bargain in which the result of
it is hidden while Maliky jurists have mentioned several cases that involve Gharar as
summarized here under.
Selling the same item for two prices; for example, small price when selling for cash
and high price when selling for credit.
Selling of something expected to revive; for example selling of sick animal.
Difficulty of having the possession of the item to the buyer, for example, selling of
young animal that is still depend to its mother, without selling its mother along with.
Selling of something that has not inspected by the buyer and the buyer does not
have the knowledge of such item.
Selling the item by saying the today‟s price is this but tomorrow‟s price will be little
bit higher.

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Selling of fruits on the tree from mere estimation.


Selling of wool on the body of the animals.

In convectional financial system, these and other types of transactions that contain Gharar
are practiced in many places carrying the same or different shapes.

1.2.4 Principles of Consumption


Islamic financial system is complying with the principles of consumption which are three;
consuming what is halal (lawful) and leave haram (unlawful), consumption of pure &
clean, and exercising the moderation in consumption. In principle of halal, we find that
Muslims are supposed to consume only halal food and engaged only on halal business. As
Allah said in Quran;
“Eat of the things which Allah hath provided for you, lawful and good; but fear Allah,
in Whom ye believe” (Quran 5:88)

There are very few things that have been forbidden in Islam as Allah said in Quran;

“Forbidden to you (for food) are: dead meat, blood, the flesh of swine, and that on
which hath been invoked the name of other than Allah. that which hath been killed by
strangling, or by a violent blow, or by a headlong fall, or by being gored to death;
that which hath been (partly) eaten by a wild animal; unless ye are able to slaughter
it (in due form); that which is sacrificed on stone (altars); (forbidden) also is the
division (of meat) by raffling with arrows: that is impiety….” (Quran 5:3)

In many countries having multi religion citizens have introduced the special business
selling halal item especially for the item that can be suspicious like meet. On the principle
of purity and cleanness, Muslims are supposed to consume what is good for the benefit of
our bodies, and not to follow footsteps of devil by consuming what can harm our bodies
like drinking alcoholic items, wine and other intoxicants that have been proved bad for the
human health yet are allowed and take the leading role in pushing the countries‟
economies. Allah says in the Quran;

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“O ye who believe! Eat of the good things that We have provided for you, and be
grateful to Allah, if it is Him ye worship” (Quran 2:172)

“So eat of the sustenance which Allah has provided for you, lawful and good; and be
grateful for the favors of Allah, if it is He Whom ye serve” (16:114)

In this principle, we find how much the Islamic financial system is superior to convectional
system since it never go against the nature, all things that have been forbidden in the
Islam, have been also proved bad scientifically and found not good for human health. The
last principle of consumption, principle of moderation is enjoining people to consume
moderately and make not excess of it because it will definitely harm them. It also state
that one should not be miser in spending nor extravagant.
Allah says in the Quran;

“Those who, when they spend, are not extravagant and not niggardly, but hold a just
(balance) between those (extremes)” (Quran 25:67)

“O Children of Adam! Wear your beautiful apparel at every time and place of prayer:
eat and drink: But waste not by excess, for Allah loveth not the wasters” (7:31)

Thus, Islamic financial institutions dealings are going parallel with all these three principles
of consumption. And here we find clear difference between Islamic and convectional
financial system.

1.2.5 Speculative business and forward transaction


Speculative business is the situation of taking risks and tries things whose outcome is
uncertain. In business, the speculation appears when buying something at cheap price and
selling the same item at higher price when the prices were expected to go high. Similarly,
selling something at lower prices when the prices are expected to go down in future
comparing the present prices is also considered speculative business. These kinds of

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business have been disapproved by Islam because they cause scarcity of the goods.
However, this sort of business is practice in many people who call themselves
“opportunists” in convectional finance system. There are several Hadith by the Prophet
(PBUH) condemning of speculative business, for example;

„Umar (RA) reported: Prophet (PBUH) said: “One who import grain from outside and
sells them at market price, his maintenance is blessed, while who withholds grain
from sale in view of an estimated dearness in future, his is thrown away from God‟s
pleasure”
Ma‟mar (RA) reported that the Messenger of Allah said: “whoever withholds stocks of
grain to make them scarce and dear is a sinner”

However, these Hadith have mentioned the “grain” as they are not supposed to be
withheld, but the Islamic jurists have agreed that this is applicable in any product putting
emphasis on the common goods.

Forward transaction; this means the selling or purchasing of an item for an agreed price to
be delivered at the future date before the seller have the possession of such item. This
sort of transaction is accepted in convectional financial system yet the modern economic
theory has proved that it may cause disruption in the economy. The Speculative business
has been disapproved by Islam as Prophet (PBUH) said;

Amr bin Shuaib reported from his father who from his grandfather that the
messenger of Allah (PBUH) said: Advance loan and sale are not lawful, and there are
no two conditions in a sale, and no profit till it comes into possession, and no sale on
what is in your possession” (tirmizy, Abu Daud)

Ibn Omar reported: the people used to purchase the food grain in a place confronting
the market and sell it also in its place. Then the Prophet forbade them to sell it in its
place till they take it in possession (Abu Daud)

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Thus, the Islamic financial system is differed from convectional financial system in many
aspects. However many modes of convectional system are similar and some have minor
difference. And because many countries have adopted the convectional system, the
Islamic financial institutions are trying to adjust those modes to comply with Shariah.

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1.3 DIMINISHING MUSHARAKAH (MD) AND OTHER MODES OF


ISLAMIC FINANCE
As we have seen earlier in Diminishing Musharakah overview that, this instrument (DM)
has originated from Shirkah, and Shirkah agreement is one of the stages on Diminishing
Musharakah arrangement, however this agreement stands separate. Diminishing
Musharakah is differed from other Islamic financial modes in the structures and some rules
but they all are Shariah complaint modes of finance. Some of these modes are working
together with Diminishing Musharakah and become the part of overall Diminishing
Musharaka arrangement. For example Ijarah agreement is very important tool in
Diminishing Musharakah arrangement as shown in the following example;

When the person (customer) inter into agreement with the Islamic Bank to purchase the
house on Diminishing Musharakah basis, the house will be purchased and the share s will
be distributed accordingly, say Bank has 70% and the customer 30%. Because the
customer is the one who need to use such house, he is supposed to pay rent on Ijarah
basis and pay rent to the Bank. Then customer will gradually buy the share of the bank
from time to time according to agreement. While buying these shares, the customer
increases his/her share and reduce the amount of rent because the bank cannot rent more
than its share. Eventually, the customer will be the sole owner of that house after finishing
buying all shares of the bank. It should be noted that the Ijarah agreement has to be
treated separately. However, it has become the important tool in overall Diminishing
Musharakah arrangement.

In this section, the project will try differentiate and make it clear, how this instrument
(DM) has differed with other modes of Islamic finance such as Mudarabah, Murabaha,
Ijarah, Salam, and Istisna. The difference between these modes of finance fall under many
areas such as contract structures, profit distributions, loss distributions, capital
contributions, duration of transactions etc.

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1.3.1 Diminishing Musharakah versus Mudarabah

Mudarabah is the contract of partnership in profit between two parties entered into a
business where by one part provides capital (Rabbul Maal) and the other part called
Mudarib provides the management expertise. In this contract the capital provider (Rabbul
Maal) cannot participate in management of the business. However, the Rabbul Maal can
put some restrictions to Mudarib on conducting the business. While Diminishing
Musharakah is the contract of partnership of property of joint business where by all parties
provide the capital in any proportion with the arrangement of one part buying the share of
the other parts gradually until he/she become the sole owners of such business or
property. Unlike Mudarabah, in DM any or all can take the responsibility of conducting the
business or buying the shares of the others according to agreement.

Mudarabah contract contains only one agreement between the Rabbul Maal and Mudarib in
conducting certain business while Diminishing Musharakah arrangement contain three
separate agreements; first is Shirkah agreement between the involved parties having a
joint ownership of property or joint commercial enterprise where the amount invested by
each partner is known. The second is Ijarah agreement; in most cases the partner who is
using and wish to buy such property will pay the rent to other partner on Ijarah basis.
They can also rent their property to outsider and collect the rent according to shares
proportion. The third is purchase agreement; one partner will undertake to purchase the
shares of the other partner gradually until he becomes the sole owner of the property.

In Mudarabah, the partnership is only on profit and the whole business owned by the
capital provider (Rabbul Maal). The profit is distributed according to agreement while the
loss if any, it falls on the Rabbul Maal, the loss that the Mudarib will suffer is that, he won‟t
get his profit share but he will still entitled to get paid as employee. In Diminishing
Musharakah, the partnership of the business or property is by all partners who share the
profit according to agreement and loss according to the amount of capital invested by each
partner. The partner who involves in the management of such business will get his profit

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share plus the management fees as employee. The sleeping/silent partners will not get
more than their profit share.

In Mudarabah agreement, there is a possibility of restrictions from one side, i.e. the capital
provider (Rabbul Maal) can impose some restrictions to Mudarib on what sort of business
to deal with, the structure of the management etc. And this can change over time. The
Mudarib have to comply with the Rabbul Maal needs in anyway because he is the owner of
the business while Mudarib is just like employee. In Diminishing Musharakah there is no
possibility of any restrictions from one side, since the business is owned by all partners to
the proportion of the investment. There will agreement between the parties that all have
to comply with. Changes must be done with the consent of all involved partners and end
up with any agreement mutually.

The duration of transaction; the nature of Mudarabah business is longer or infinite


depending the parties‟ agreement, most of Mudarabah agreement have not fixed time. The
profit is calculated in differently depending on the type of dealings, for example in Islamic
banks, the profit is calculated in daily basis. In Diminishing Musharakah, the time is fixed,
this depend on the nature of the transaction involved. For example bigger transaction like
house construction can take longer time comparing to smaller transaction like purchase of
vehicle etc.

In Mudarabah, the entrepreneur (Mudarib) carries many responsibilities; he is the agent


and employee of Rabbul Maal, He is a partner and he is liable for the business in case of
loss caused by misconduct of Mudarabah fund or negligence. The nature of Diminishing
Musharakah, all partners are responsible to their joint venture, the specific responsibility is
given to management, so when the partner decide to involve to management he will get
his share plus management fee. And in case of loss caused by any reason he will suffer
loss according to his investment share, not more that even if he is the one who caused
such loss due to poor management.

The termination of Mudarabah has no restrictions i.e. each partner can terminate the
contract any time but when the time is fixed then the partners are responsible to complete

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the fixed time. When time is fixed and Rabbul Maal needs to change the Mudarib he will be
liable to compensate the existing Mudarib. In Mudaraba termination, the capital is returned
to Rabbul Maal after distribution of profit. In Diminishing Musharakah the time is normally
fixed, thus the partners have to complete the transaction unless it can be completed at the
court of law. In case the partner who supposed to sell his property rejects doing so, the
transaction will be completed at the court of law using the market price of the shares. And
when the buyer partner cannot afford to buy the property according to agreed terms, the
seller can decide to buy the shares of that partner and sell it to outsiders.

1.3.2 Diminishing Musharakah versus Murabaha (cost plus)

Murabaha is the agreement between the customer and the financer on purchasing the item
on cost plus basis, i.e. the customer approach the financer say Islamic bank requesting it
to purchase the asset from third party resell it to customer in immediate payment,
instalment basis or deferred payment basis. While Diminishing Musharakah is the contract
of partnership of property or joint business where by all parties provide the capital in any
proportion with the arrangement of one part buying the share of the other parts gradually
until he/she become the sole owner of such business or property.

In Murabaha agreement, promise is the part of overall Murabaha arrangement on only one
agreement, i.e. the customer make promise to purchase certain item in agreed price and
the seller take a promise to sell the item in agreed price, the quantity and quality of the
item is the part of the promise. When the seller fail to bring the product/item according to
agreement the customer can reject the item and cancel the transaction. In Diminishing
Musharakah, promise is a separate agreement, i.e. the arrangement has three contracts;
the Shirkah contract, the Ijarah contract as well as the purchase contract. All these
contracts should be treated separately although they depend on each one.

The duration of the contracts; Normally Murabaha contracts are shorter comparing to
other contracts, since this the sell/purchase transaction, the contract of Murabaha ends

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when the customer completes the payment to the seller. Over 60% of Islamic Banks
contracts are Murabaha contracts. The contracts of diminishing Musharakah are longer
comparing to Murabaha, since they contain three separate contracts that make the long
stages as we have seen previously, and one the stages is gradual purchase/sell of the
shares between the partners. Thus, these stages make the arrangement a bit longer.

Acquiring possession; in Murabaha, the customer acquire the possession of an item upon
delivered and complete the payments, this will also depend on the mode of payment the
agreed with the seller, it can be immediate payment, instalment basis or deferred basis. In
Diminishing Musharakah, the customer is taking the possession of the property gradually,
from time to time when buying the shares of other partners. The customer becomes owner
of the property in DM upon completion purchasing the all shares.

Risk transferring; in Murabaha the risk is transferring according to the structure of whole
transaction. For example when the customer requesting an Islamic Bank to purchase
certain item and reach the agreement on price, quality, and payment mode etc, the full
risk of such item will be on the Bank until after deliverance of the item to the customer.
And after the deliverance the full risk will transfer to the customer regardless the
completion of payment, i.e. whether the customer has completed the payments or not. In
case the Bank has appointed the customer as agent of purchasing such item, the risk will
be on customer as agent under the agent agreement. However, the risk can be shared
depending on the nature of transaction example problem happened during transportation
or shipping etc. When the item has purchased the item and reach safe to the place of
agreement, the customer agreement will be done between the bank and the customer and
the full risk transfer to customer. In Diminishing Musharakah the case is different, since
DM involves Shirkah agreement, the item will be jointly owned so right from the beginning
the full risk and loss if any, will fall on all partners depending on their investment level.
The full risk will fall on the purchasing partner after completion of payment to other
partners. The management risk goes to the management team including any partner who
involves in the management.

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1.3.3 Diminishing Musharakah versus Ijarah (leasing)


Ijarah is a contract of transferring the usufruct of an asset to lessee for an agreed period
and consideration. In Ijarah, the ownership of the asset remains to lessor and only its
usufruct is transferred to lessee. The leased asset should be valued, identified and
quantified, and anything which cannot be used without consuming cannot be leased out
like money, fuel, food etc. While Diminishing Musharakah is the contract of partnership of
property or joint business where by all parties provide the capital in any proportion with
the arrangement of one part buying the share of the other parts gradually until he/she
become the sole owner of such business or property. In Diminishing Musharakah the
ownership of an asset is totally transferred to the buyer from time to time.

Ijarah contact can be the part of Diminishing Musharakah arrangement, as it explained


earlier, the Diminishing Musharakah can involve three contracts which are Shirkah
agreement (agreement of joint ownership), Ijarah agreement; agreement that one partner
rent the jointly owned asset, and purchase agreement; one partner undertake to purchase
the shares of other partners gradually according to agreement. While Diminishing
Musharakah is not the part of Ijarah contract. This is because in Ijarah contract the leased
asset is owned by only one side. However, either part of Ijarah contract (lessor or Lessee)
can make the unilateral promise of buying/selling the leased asset upon the expiry of the
lease period or earlier at an agreed terms, but the selling/buying promise should not be
the part Ijarah/leasing contract. In addition, the lessor may also promise to gift the leased
asset to lessee after leasing period but this promise should not the part of leasing contract.

In Ijarah contract, the ownership and the title of the asset remain to the lessor during all
period of lease even if he made a promise to gift it to lessee after the lease period. This
means that all expenses relating to ownership like insurance or any maintenance of the
asset remain to lessor completely. However, the loss or damage of the leased asset
caused by lessee shall be borne by lessee and not lessor. Additionally, any other cost
caused by customer without mutually agreement shall be borne by lessee. In Diminishing
Musharakah, when the lessee is not outsider, i.e. the lessee is the one of the partners who

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intends to buy such property or asset on selling/buying agreement, the title of such
property goes to lessee in some cases even if the property is jointly owned. For example
when the client enter into agreement with financer say Bank to build the house in
Diminishing Musharakah arrangement, the construction of the house will be done by both
parties according to the amount agreed but the title of that house will be in the name of
the client and then the client will rent the share of bank according to agreement, reducing
the rent by buying these shares gradually until he become the sole owner of house with
the title from the beginning of the contract.

In Ijarah, the lease can be terminated when the lease term expires, or it can be
terminated before the expiry of the term of the lease with the mutual consent between the
parties, or it can be terminated automatically when the leased asset stop working or
ceases to give service as it was expected. In case the lease asset is broken and stop
working in any reasons other than the negligence of the customer the complete loss will
fall to lessor as he is the sole owner of such asset. In Diminishing Musharakah the lease
contract ends when the partner complete to purchase the shares of the co-owner in case
the lessee is the one the partners. When the asset stops working during the lease period,
the contract we be automatically terminated as per Ijarah rules but the loss will borne by
both parties according to investment level as per Shirkah rules.

In case the lessee delayed to make payment of rental in Ijarah, the lessee shall be liable
to pay penalty as per agreed rate which will be enforced by court of law, this penalty shall
be used for charity purposes. The lessor decides to the sell security without involving the
court. In Diminishing Musharakah the same situation will be followed as per Ijarah rules
but security of this lease is the same property that is co-owned, so the other co-owner will
decide whether to take share of the lessee using the market price or any other agreement.

Moreover, in some contract of Ijarah the ownership of leased asset transfer to lessee at
the end of the leasing period. The contract known as Ijarah Muntahia Bittamleek which
several structures allows the ownership transferring to user at the end of the lease period.
The mechanism is when the customer approaches the financer say Islamic Bank
requesting for financing of certain item, the bank purchases such item with full ownership

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title. Then the Bank leases the item to customer and makes periodic payment in
accordance to agreement. The title transfer to customer depending on method and rate
agreed. This contract takes the same structure as Diminishing Musharakah but the only
different is that, in Diminishing Musharakah, the property is already jointly owned while
the sides entering the lease agreement so the title is already to the lessee who is expected
to purchase the asset periodically.

Last but not least, in Ijarah the lessee can sub lease the asset upon agreement with the
lessor. According to some Islamic scholars like Imam Shafi and Imam Hanbal, the lessee
can charge sub lessee equal or more than what is charged by the original lessor. However,
some Islamic scholars like Imam Abu Hanifah says that the surplus charge is not
permissible for sub lessor but it can be used for charity purposes. In Diminishing
Musharakah, the lessor as the co owner of that property can sublease the property with
the consent of all partners at equal rent of higher and enjoy the surplus.

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1.3.4 Diminishing Musharakah versus Salam (Bai Salam)


Salam is a sale contract where by the customer makes advance payment in full to the
seller to be supplied specific goods at a future date. The full payment at the time affecting
the sale in this contract is very crucial if the payment has not made in full and the goods
are expected to be delivered at a future date this will be the same as selling debt against
debt which is prohibited in Shariah. While Diminishing Musharakah is the contract of
partnership of property or joint business where by all parties provide the capital in any
proportion with the arrangement of one part buying the share of the other parts gradually
until he/she become the sole owner of such business or property. In Diminishing
Musharakah the ownership of an asset is totally transferred to the buyer from time to
time. So Salam is sale that the possession of the sold goods is expected in the future date
after making the full payment in advance while in Diminishing Musharakah the possession
of the good goes to the buyer even before paying full amount due to being tied up with
another contract known as Ijarah.

Salam can be effected respect of “Dhawatul Amthal” which represents the commodities
which are homogenous in characteristics and which are traded in counting and measuring
according to the usage and customs of trade such as wheat, rice maize etc. The other
characteristics of the goods that accepted in Salam contracts are the goods that can perish
after some if they have not processed, so the owner will incur the loss. The examples of
these goods are fruits and vegetables such as tomato, banana, apples etc. This is very
different from the Diminishing Musharakah instrument which involves very big dealings,
taking longer time and enormous amount of money. The dealings mainly involved in
Diminishing Musharakah are purchase or construction of different kinds of buildings such
as houses, stores, warehouse etc, is also used in buying machinery and transports for
factories and other organisations. However, the Diminishing Musharakah is also used to
finance agriculture but it is not as the case of Salam contract which involves the sale/buy
of products, the Diminishing Musharakah finance specific area on agriculture for example
construction of fruit stores, purchasing of vans etc.

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The main purpose of Salam instrument is to meet the need of small farmers who need to
grow their crops and feed their family until the time of harvest. It is also used to meet the
need of the traders for import and export purposes. The instrument was practised during
the period of Prophet Muhammad (PBUH). Salam instrument is advantageous for both
seller and buyer. The sellers will sell their goods in advance in full payment sell so they
use cash for running the business or preparing the farm or harvesting without problems.
The buyers will get the goods in smaller price since the nature of this instrument; products
are sold in smaller price than the price in spot sales. While the main purpose of
Diminishing Musharakah is to flourish the small business buy buying and building
infrastructures for strengthening the business, for example the construction of stores,
godowns, warehouse etc. Buying of transports and machineries like vans etc.

In Islamic jurisprudence no selling is allowed before the seller having physical possession
of the good except on scenarios; Salam and Istisna, thus In Salam the seller is allowed to
sell the goods before having the physical possession of the product, but must have
constructive possession. It should be noted that Salam is applicable on limited number of
products upon accepted by contemporary Islamic scholars. In Diminishing Musharakah,
the partners do not allowed to sell or rent the asset that they don‟t have physical
possession with.

In Salam, the risk of goods sold remains to the seller until he delivers such goods to the
buyer, so the risk will transfer from seller to buyer during the physical delivery of the
goods. While in Diminishing Musharakah the risk of the goods is on the buyer even before
completion of payment but good is rented to the buyer in Ijarah basis.

The purchaser of goods in Salam can enter into contract with another buyer to sell it
through Parallel Salam, in this case the first buyer of the commodity after the having all
details including delivery date and other product specifications can enter into agreement
with another buyer fix the delivery date and other specifications. But these two agreement
should not tied to each other, for example when Khalid wants to sell twenty bags of maize
to Islamic Bank for agreed price and set a date for delivery say 21st June. Now the Bank
can enter into another agreement with Mr. Hamdan selling same commodities with same

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specifications, and can arrange the same delivery date or later that what it expect to
deliver. But Mr. Hamdan‟s contract should not be conditioned with taking delivery from
Khalid. This means that Khalid should deliver the commodities to the Bank as they agreed
and the Bank passing the goods to Mr. Hamdan as they agreed. In case Khalid failed to
deliver the goods on time or deliver with different specifications from the initial agreement,
the Bank will still be liable to deliver the goods to Mr. Hamdan on time and with same
specifications as stated in the contract. In Diminishing Musharakah, no parallel sale is
allowed. When one partner decides to buy shares of other partners, he/she should buy the
shares first and own the property completely then he/she can decide to sell it to another
person or institution.

Lastly, Salam cannot be effected in respect of things that are must be delivery on spot
basis, for example Salam sale between wheat and barley, this transaction is not allowed
because if wont fulfil the purpose of Salam since Salam is meant to easy the selling way
and get quick cash that can help the small farmers to process their products, farms and
support their families. In Diminishing Musharakah, the partner who is buying the other
partners‟ shares intending to own the whole asset can buy those shares using gold or
silver etc upon agreement with other partners.

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1.3.5 Diminishing Musharakah versus Istisna


Istisna is a mode of finance where by the buyer places an order to manufacturer a specific
commodity for purchase at an agreed price. This means that the transaction is done before
the product comes into existence. The most important things in this transaction is the
commodity specifications and price, the commodity should be well specified on quality and
quantity leaving no ambiguity of any kind. And the price should be set and fixed with
mutual consent while effecting the transaction. While Diminishing Musharakah is the
contract of partnership of property or joint business where by all parties provide the
capital in any proportion with the arrangement of one part buying the share of the other
parts gradually until he/she become the sole owner of such business or property. In
Diminishing Musharakah the ownership of an asset is totally transferred to the buyer from
time to time. The instruments have some similarity but they differ in many areas as
follows;

In Istisna, the commodity must pass into manufacturing process from the order placed by
the buyer. The buyer can provide the material in reducing the price or fulfilling the quality
needed of the item upon the agreement with the seller, the provision of material is not
necessary for buyer. In Diminishing Musharakah the item can pass into manufacturing
process but from the beginning the item is treated as a joint owned item. So the buyer will
buy the shares of other partners to increase his shares gradually until he completely owns
such asset.

The contract is Istisna is only one involving all terms and condition of the transaction,
commodity specifications, price, mode of payments, deliver date and other terms are all
included in one contract. This is different from Diminishing Musharakah. Diminishing
Musharakah arrangement contain three separate agreements; first is Shirkah agreement
between the involved parties having a joint ownership of property or joint commercial
enterprise where the amount invested by each partner is known. The second is Ijarah
agreement; in most cases the partner who is using and wish to buy such property will pay
the rent to other partner on Ijarah basis. They can also rent their property to outsider and

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collect the rent according to shares proportion. The third is purchase agreement; one
partner will undertake to purchase the shares of the other partner gradually until he
becomes the sole owner of the property.

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SECTION TWO

2.1 DIMINISHING MUSHARAKAH APPLICATIONS

Diminishing Musharakah is mainly used for medium projects financing aiming to help the
people and small business purchasing and constructing different properties such as
houses, warehouses, stores, godowns, purchase of transports like vans, boats, purchase of
machinery like tractors, generators etc.

The Diminishing Musharakah takes this place after being realised the difficulties facing
people and small businesses in purchasing and constructions of different properties for
their prosperity. So the Diminishing Musharakah has become very important instrument
because the clients get opportunities to purchase and construct the properties, use them
before the completion of payment and buy them by instalment basis.

Diminishing Musharakah is subjected to specific areas of applications because of its


nature; it involves different separate agreements in overall arrangement, these
agreements are Shirkah agreement, Ijarah agreement and Buy/Sell agreement as
explained in previous section. The following are the areas that are suitable for applying
Diminishing Musharakah instrument;

2.1.1 House Financing


In house financing, the instrument can be used in four different purposes having different
structures, these are:-
Purchase of house
Construction of house
Renovation of house
Balance Transfer Facility (BTF)

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2.1.1.1 Purchase of House


The purchase of house by partners is Shirkat ul Milk (joint ownership). In Diminishing
Musharakah arrangement, the client chooses the house that he wants at the area that
approved by the financer, say Islamic Bank. The Bank and the client enter into agreement
to purchase such house jointly in identified investment ratio, so the partners will both own
such house in the same ratio as the ratio of investment of each partner. The property will
be in the name of the client in relation of overall Diminishing Musharakah arrangement
that he is the one who is going to buy the shares of the other partners gradually and
become the sole owner of the business.

The risk of the property is share among the partners and the loss if any will be distributed
among them according to their investment ratio. Through Ijarah agreement, client will rent
the share of the bank using market rate or mutual consent after taking the possession of
house. The rent will be arranged in different phases, the first phase rent must be fixed and
the payment must be lump sum basis. The rent for the remaining phases may be linked
with agreed benchmark.

The share of the bank will be divided into number of units with the mutual agreement of
selling them to client after one year. Before one year the client cannot purchase the Bank‟s
unit and the purchase of units will be on the basis of offer and acceptance. The following is
the example of house purchase using Diminishing Musharakah instrument between the
bank and the client Zaid.

Zaid entered into agreement with Bank to purchase the house, Zaid provided 30 percent of
overall price while 70 percent was provided by the Bank. After the purchase of the house
and got the complete possession, the house took the name of Zaid because he is the one
who is going to buy the house using Diminishing Musharakah arrangement. Zaid rented
the Bank‟s share and after one year he agreed with Bank to buy one unit of the Bank after
every two months until he finishes all units of the Bank that were divided into 7. Zaid
started buying the shares of the Bank gradually and within one year and two months he
completed the payment and became the sole owner of the house.

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2.1.1.2 Construction of the house


The construction of the house can be in two scenarios;
Financing only for construction
Financing for purchase of plot and construction

DM Financing only for construction


This will be Shirkat ul Milk (joint ownership) where the agreement will be signed between
the Bank and the client in which the investment ratio will be agreed. So the partners will
both own such project in the same ratio as the ratio of investment of each partner. It will
be also agreed that the client as working partner is responsible for construction and
project will be in the name of the client.

The risk regarding ownership will be shared and the loss if any will be distributed according
to the level of investment. As the case of house purchase, through Ijarah agreement,
client will rent the share of the bank using market rate or mutual consent after completion
of house. The rent will be arranged in different phases, the first phase rent must be fixed
and the payment must be lump sum basis. The rent for the remaining phases may be
linked with agreed benchmark.

The share of the bank will be divided into number of units with the mutual agreement of
selling them to client after one year. Before one year the client cannot purchase the Bank‟s
unit and the purchase of units will be on the basis of offer and acceptance.

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DM Financing for purchase of Plot and construction of House


In this scenario the structure is the same as the normal construction of the house but the
different is capital invested where after evaluation of being made, the value of the plot will
be the investment of the client while the bank will finance whole construction. This will also
be the Shirkat ul Milk where both partners own such project in the same ratio as the ratio
of investment of each partner. It will be also agreed that the client as working partner is
responsible for construction and project will be in the name of the client.

The risk regarding ownership will be shared and the loss if any will be distributed according
to the level of investment. As the case of house purchase, through Ijarah agreement,
client will rent the share of the bank using market rate or mutual consent after completion
of house. The rent will be arranged in different phases, the first phase rent must be fixed
and the payment must be lump sum basis. The rent for the remaining phases may be
linked with agreed benchmark.

The share of the bank will be divided into number of units with the mutual agreement of
selling them to client after one year. Before one year the client cannot purchase the Bank‟s
unit and the purchase of units will be on the basis of offer and acceptance.

2.1.1.3 DM for Renovation of house


In renovation of house using Diminishing Musharakah, the valuation of the house will be
made, the value of house will be considered as the investment of the client and the
amount needed for renovation will be considered as the financer‟s investment. This will
also be the Shirkat ul Milk where both partners own such project in the same ratio as the
ratio of investment of each partner. It will be also agreed that the client as working
partner is responsible for construction and project will be in the name of the client.

The risk regarding ownership will be shared and the loss if any will be distributed according
to the level of investment. As the case of house purchase, through Ijarah agreement,
client will rent the share of the bank using market rate or mutual consent after completion

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of house. The rent will be arranged in different phases, the first phase rent must be fixed
and the payment must be lump sum basis. The rent for the remaining phases may be
linked with agreed benchmark.

The share of the bank will be divided into number of units with the mutual agreement of
selling them to client after one year. Before one year the client cannot purchase the Bank‟s
unit and the purchase of units will be on the basis of offer and acceptance.

2.1.1.4 DM for Balance Transfer Facility (BTF)


This product is used when the client has taken interest based loan from convectional bank
or any other institution for buying house. The client will approach the Islamic Bank and
solve this situation using Diminishing Musharakah Instrument.

This will also be Shirkat al milk (joint ownership) where the valuation of the house will be
made and the value of the house will be considered as the investment of the client. And
the amount of loan paid by bank will be the investment of the bank. So the partners (the
Bank and the Client) will both own such house in the same ratio as the ratio of investment
of each partner but the house will be in the name of client.

The risk of the property is share among the partners and the loss if any will be distributed
among them according to their investment ratio. Through Ijarah agreement, client will rent
the share of the bank using market rate or mutual consent after taking the possession of
house. The rent will be arranged in different phases, the first phase rent must be fixed and
the payment must be lump sum basis. The rent for the remaining phases may be linked
with agreed benchmark.

The share of the bank will be divided into number of units with the mutual agreement of
selling them to client after one year. Before one year the client cannot purchase the Bank‟s
unit and the purchase of units will be on the basis of offer and acceptance.

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2.1.2 Agriculture financing


In agriculture, the Diminishing Musharakah is mainly used to finance the medium and long
term project. These agriculture projects financing are of several types having different
structures depending on the type of project. The areas that Diminishing Musharakah
mostly used are as follows;

2.1.2.1 Farm mechanisation and transport


This involves the purchase of tractors, generators, and different farm machineries for
planting/ sowing, pesticide applications, harvesting etc. It also involves buying of different
kinds of transport such as trailers, reefer van, motorcycle etc.

In this kind of financing the client enter into agreement with the bank to buy the property
say tractor by using Diminishing Musharakah instrument. In buying the tractor, the client
specifies the features and provides some amount as its investment whiles the bank
provide the rest of the amount as its investment. The bank will make the unilateral
promise of selling its shares.

The Musharakah agreement will be signed and the investment ratio will be agreed. So the
tractor will be owned by both, the Bank and the client in a same ratio as the ratio of
investment. The client will rent the bank shares using the market price or mutual consent.
At the same time, the client will buy the share of the bank gradually, as the client go on
buying the bank share, the amount of rent paid declines gradually until when the client
finish buying the bank shares he become the sole owner of the tractor and stop paying
rent.

On agriculture transport financing, the instrument can be used for purchasing vans,
motorcycle, and other useful vehicle which are supportive for agricultural activities. The
structure and procedure of buying these vehicles are same as buying other machineries as
explained in previous chapters.

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2.1.2.2 Livestock, Dairy, Fruit & vegetable and Fishing farming financing
Diminishing Musharakah is also used to finance livestock for purchase of cattle, buffalos,
sheep, and construction of sheds, storeroom, construction and improvement livestock
laboratories etc. It is also used for development of dairy livestock farms, milk processing
plants and setting up seeds and milk chilling units. On fishing farming, the instrument is
used to buy the fishing boats, fridges, as well as construction of dams and storage areas.

The process and procedures of buying and installation different kinds of machineries or
constructions of the buildings are the same as the procedures of buying other machineries
and building constructions presented previous.

2.1.3 Purchase of Vehicle, plant & machinery and other commercial


premises financing
The Diminishing Musharakah instrument is also used purchasing the vehicles, plants &
machinery as well as financing other commercial premises. Mostly the small business like
cab companies, van hiring companies, sewing companies, tours companies etc. Many
companies are approaching the bank for purchasing different properties using Diminishing
Musharakah instrument. The procedures of construction and purchasing those items are
the same as briefed in previous chapters.

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2.2 DIMINISHING MUSHARAKAH OPERATIONAL FLOWCHART

Shirkah Agreement between Joint ownership


CLIENT BANK
of a property
the bank and the client. The
ownership will be according
to their investment ratios.

2nd agreement

Rent payment
Ijarah agreement, the client BANK
CLIENT
rents the bank‟s shares.

3nd agreement

Buy/sell agreement, at the


Rent Gradual purchase
same time. The client rent and
buy the bank shares gradually. CLIENT BANK
The property ownership will
Gradual ownership transfer
gradually transfer to the client.

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2.2.1 Operational flowchart: Explanation


In the first stage there is an agreement between the Islamic Bank and the client who wish
to undertake buying the property using Diminishing Musharakah agreement. The Shirkah
agreement will be signed and the investment level will be agreed. The property will be
owned by both (the Client and Islamic Bank) in the same ratio as the ratio of investment.
The profit will be distributed according to agreement while the risk or the loss if any will be
distributed according to investment ratios. The bank will make the unilateral promise of
selling such property to the client.

The second stage is Ijarah agreement between the bank and client. After taking a
possession, the client will rent the bank shares using the market prices or mutual consent.
While renting, the expenses regarding ownership of the property will be borne by both
according to their investment level but the expenses regarding the usage of property will
be borne by client alone as a lessee. Other terms should be as per Ijarah rules.

The third agreement is buy/purchase agreement. Here the Islamic Bank will sell its shares
to the client following its unilateral promise. The client will start to buy the shares of the
Bank gradually. At the same time the client pays the rent too. In some properties like a
house, the client cannot start buying shares until after one year of renting. While buying
the shares, the rent will also be coming down gradually until when he/she finishes buying
the shares he will stop paying the rent. The property will fully owned by the client.

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2.3 WORK INSTRUCTIONS FOR OPERATORS


Since the Diminishing Musharakah arrangement comprises three separate agreements
which are; Shirkah agreement, Ijarah agreement and sell/buy agreement. So the work
instructions and explanations for operators will fall on these three agreements. However
there will be some adjustments of these instructions because the aim is to combine these
three agreements to make Diminishing Musharakah arrangement as follows;

2.3.1 Shirkah agreement operators‟ instructions


General explanation;
Before going deep on explaining all important areas such as investment capital, insurance,
profit and loss distribution etc, the operators should provide the general explanation of the
agreement that will highlight every area of this agreement.

This will include the type and the form of the agreement; in here it should be specified
whether the contract is Shirkat ul Milk (joint ownership) or Shirkat ul aqd (joint
commercial enterprise) and brief explanation about how the partnership came into
operation, whether is mutual consent (Shirkat ikhtiar) it came into operation automatically
(Ghair ikhtiar)

It should be also be specified the main purpose of the agreement, for example it can be
stated that the partnership intend to start up a business for to earn the profit that will
distributed among the partners among the partners according to agreement. Or it can be
stated that the main purpose of the agreement is to end up with one partner buying the
shares of the other partners using Diminishing Musharakah arrangement, and it will also
involves the Ijarah agreement after coming into effect. But in this case it should be
specified that the Ijarah agreement and sell/buy agreement is not the condition of the
Musharakah agreement because combining two different contracts is not allowed under
Islamic jurisprudence.
The number of partners involved in the Musharakah agreement should be clearly
mentioned and specified together with their amount of investment in overall Musharakah

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arrangement. Normally in the Musharakah that aiming to end up with sell/buy of shares of
one partner through Diminishing Musharakah agreement the partners are only two; an
Islamic Bank and Client.

The contract should also make it clear about place and the date where the agreement
came into effect. The place and the dated that the business will be conducted should be
specified. If the exactly end date is not known and cannot be estimated, this should be
stated in the contract.

The profit and loss distribution among the partners should be explained with the simple
term in this section. As it is known that the profit is distributed according to agreement
between the partners while the loss is shared according to the amount of capital invested
by each partner.

Capital
The basic rules of capital for Musharakah agreement are two;
Quantified (Ma‟loom)
Specified (Mula‟ayan)

Quantified
In Musharakah agreement the quantity or amount of capital from each side should be well
known and stated with simple words leaving no ambiguity. Although in some cases of
Musharakah agreement, the kind of capital provided by the partners is different. For
example one partner can provide capital in terms of tangible assets while other partners
provide their capital in term of money. The partner provided the capital in the form of
money, the quantity will be simply explained; Mr X provided xxxx GB pound or xxxx US
dollars which count 40% of overall capital invested in this Musharakah agreement.

If the capital is provided in the form of tangible asset, the valuation of such asset will be
done and get the exactly value for the purpose of getting the investment level for each
partner. For example; Partner Y provided the house valued xxxx GB pound or xxxx US
dollars which count 60% of overall in this Musharakah agreement.

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Specified
The capital of Musharakah agreement should also be specified. This means that the capital
provided if is tangible asset should be mentioned clearly. For example Mr. P provided the
house as his investment; the operators should specify everything clearly. Mr. P provide the
house situated in town A, street B, house number 26, made by wood and bricks. The
house valued xxxx GB pounds or xxxx US dollars which count 80% in this Musharakah
agreement.

And if the capital is provided in the form of money, the currency should be specified for
example; the partner Q provided xxxx GB pounds or xxxx US dollars which count 20% of
this Musharakah agreement.

Liquidity of capital and mixing of capital


Another issue regarding capital that can come up is liquidity of capital and mixing up
capital while doing Musharakah, the question of whether the capital invested needs to be
in the liquid form or not. As it has seen in previous chapter that according to contemporary
Islamic scholars, the illiquid goods can also be made investment capital and the market
value of the commodities shall determine the share of the partner in the capital.

Mixing up investment capital in Musharakah is another issue that should be taken into
consideration, the question of whether it is necessary to combine the capital of the
partners while doing Shirkah or not. After passing through the views of great imams i.e.
(imam Shafi, Malik, Abu Hanifah and Hanbal), the contemporary Islamic scholars have
come up with the decision of taking the three combined schools of thought i.e. Hanaffy
Maliky and Hanbal that mixing up the capital is not important, therefore the partnership
comes into existence at the time of agreement rather than after the capital has been
mixed. Any action taken after agreement will fall on to Musharakah. The profit will be

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distributed as agreed in the contract and the loss will distributed according to their
investment level.

This view has an advantage as in the case of loss the burden the of loss will fall on all
partners and not one of them, let us look the following example;

After having a deal of making the entire furniture for the newly open University, the two
partners (the furniture company and the timber importer) enter into Musharakah
agreement taking this deal, one will provide the raw materials and the other will provide
small items and making those furniture. After the agreement, before mixing up the capital,
the timber importer decides to ship the raw material for their partnership deal. The raw
materials will be on the risk of both partners right from the beginning even if the capital
has not mixed up during the time of shipment.

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The rights of partners in Musharakah


For the operators it is important to know the rights of each partner and their limitations
after entering into Musharakah agreement. The operators have the responsibilities to
disclose/explain the rights of partners to them right from the beginning so that to avoid
any element of Gharar (uncertainty) in the Musharakah agreement, these are as follows;

The partners have the right to sell the mutually owned property for mutual consent
since all partners are representing each other in Musharakah. On the other side, the
partners have the right to buy the property for business; it can be for any purpose
such as business expansion or maintenance. The bought property will be also be
owned by the partners in proportion to their investment ratio. It should be noted
that any action done by the partner should be agreed mutually, the agreement can
be the general one done during the beginning of Shirkah, or agreement during the
time of purchasing or selling of such property.

The partners have got the right to buy raw materials for business using the fund of
the partnership, in case the partner buy the material using his own fund, he will
increase his share on such partnership. But this can be only done by having the
consent of other partners.

The right to employ people to conduct business, when there is a need of special
expertise that is needed, the partner have the right to employ people for the benefit
of all partners and the business. Employing the people needs the consent of other
partners as well.

The partners have the right to deposit the money and goods belonging to Shirkah as
depositor trust, but this should carry the name of the partnership as the fund to be
recognised that they belong to the partnership.

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The right of management, in Musharakah any partner has the right to conduct the
business but not necessary doing so. One who involve in management become
active partner and he will get paid i.e. he will get his partnership share (agreed)
plus the management fee. The silent or sleeping partner in the Shirkah cannot get
more his share (agreed)

The right of giving the partnership fund as hiba (gift) or loan by mutual consent. But
when one partner aimed Qard-e-Hasana as the purpose of his investment then the
paying of Qard-e-Hasana becomes liable on both partners.

The distribution of profit and loss


The operators should also be aware of basic rules of distribution of profit and loss in
Musharakah agreement as the failure of fair distribution will render the partnership be
(haram) unlawful under Islamic jurisprudence.

In Musharakah, the profit should be distributed among the partners according to


agreement, i.e. it distributed in specific ratio where the partners may differ one another.
The profit is normally stated in percentage in the partners‟ agreement. The amount of
profit varies depending on total profit the business has earned. On top of that the profit is
not guaranteed on Musharakah agreement.

Normally the partners that are involving in management are getting higher profit of the
joint business than the silent or sleeping partners but this is not condition. The amount of
capital invested by the partners also has an influence on the distribution of profit. But is
not the condition on Musharakah agreement.

The loss in Musharakah should be distributed exactly according to the level of investment
of each partner. Any condition contrary to this principle shall render the contact invalid.
This principle is based the saying of Sayyedna Ali Ibn Abi Talib that;

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“The loss is distributed exactly according to the ratio of investment and the profit is
divided according to the agreement of partners”

This means whether the partner is involved in the management of Shirkah or not, he will
suffer the same loss as the ratio to investment. Also even if the partner is cause the loss
he won‟t suffer the loss more than his investment ratio.

For example Fahad is doing the Shirkah business with Ahmed and Sameer with the
amount of investment 20%, 40% and 40% respectively, Fahad is the one who is
conducting the business, they agreed to distribute the profit 30% for Fahad and 35% to
each Ahmed and Sameer. In case of loss, even if it is caused by the Fahad‟s negligence,
they will still suffer the loss according to the level of investment, i.e. 20% loss to Fahad,
40% loss to Ahmed, and 40% loss to Sameer

Tenure of Musharakah
This is another point that the Musharakah operators should understand. It is regarding
fixing the period of the Musharakah agreement. The following conditions should be taken
into consideration regarding this agreement.
The partnership can be fixed for long period that at the end of the tenure no other
business can be conducted unless the new agreement to be signed.
It can be for very short time during which the partnership is necessary and no partner can
dissolve the partnership. The partner can still continue doing business when the tenure of
the Musharakah ends but they have to sign a new contact.

However, there are some different among the schools regarding this matter, where Shafi
and Malik schools says that the Musharakah cannot be subjected to fixed tenure,
considering that fixing time will prohibit the conducting the business at the end of the
period. While Hanaffy school of thought allows fixing the tenure on Musharakah, saying the
Musharakah as agreement must have the fixed period of time. Hanbal School takes
Musharakah as an agency agreement and any agency agreement under this school is

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allowed, so it is allowed to fix time on Musharakah agreement under Hanbal school of


thought.

2.3.2 Ijarah agreement operator instructions (as part of DM arrangement)


General explanation;
In overall Diminishing Musharakah arrangement, the Ijarah is the second agreement
following the Musharakah. This agreement should be treated as a separate agreement and
should not be combined with any agreement since combining two different contracts is not
permissible in Islamic jurisprudence. The Ijarah Muntahia Bittamleek is leasing type where
during the end of lease period, the property is transferring to lessee, also Ijarah wa Iqtina,
leasing and the promise to gift, happen when the lessor having intention of gifting the
property at the end of rental period but the agreement should not contain this condition of
selling or gifting the property. However, it should be noted that the Ijarah agreement
going with buying item using Diminishing Musharakah, the rent is not set on the whole
property, but is set in units of the property. So the rent is done per unit price.

As described previously, the Ijarah is a contract of transferring the usufruct of an asset to


lessee for an agreed period and consideration. In Ijarah, the ownership of the asset
remains to lessor and only its usufruct is transferred to lessee. The leased asset should be
valued, identified and quantified, and anything which cannot be used without consuming
cannot be leased out like money, fuel, food etc. The purpose of rented property should be
well specified in the agreement, and if it has not specified then it can be used in normal
course.

The lessor/lessee responsibilities


Since the property is fully owned by the lessor, the risk of the property will remain
at the owner throughout the leasing period.
Also the owner is liable to pay all expenses regarding the ownership of the property,
for example the lease item needs to be imported the lessor is liable to pay all
expenses during the process of importation.
In addition the owner is responsible for the insurance of the property

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In case of the need of major maintenance of the asset, the lessor is liable to do so,
and he should not charge the lessee the extra fee even if he improves the facility.
The contract will be invalid if it contains the condition that if the lessor will improve
the facility the lessee will be needed to pay extra charge because there is
uncertainty in the contract.
The lessee is responsible for any loss caused by misuse or negligence and will be
needed to compensate the owner to the extent of what he has caused the harm.
Also the lessee is responsible on the expenses regarding the usage of the asset such
as taxes minor repairs etc.

Determination of rent
The Ijarah agreement can be arranged in different phases for different amount of rent
during the all leasing period where the price of the first rent period must be fixed on first
Ijarah agreement. After the agreement the lessor cannot increase the price unilaterally.

The lease period shall commerce from the date on which the leased asset has been
delivered to the lessee even if the lessee has paid the rent in advance which is accepted
under Islamic jurisprudence.
In the case of Diminishing Musharakah, where the property is owned by two parties, and
one part is renting the property using Ijarah agreement, the rent structure will be slightly
different. Since the property in not fully owned by one side, the renting side will not rent
the whole property, instead it will rent only its shares by dividing them into units and the
rent will be done per unit price.

For example; Imad is in the Shirkah with Islamic banking owning the passengers van
where Imad‟s share is 20% and Banks share is 80%. They bought the Van for £10,000/-
where Imad contributed £2,000/- and Bank £8,000/- Imad is renting the Bank‟s shares
using Ijarah agreement for £200/- per month. Since the Van is mutual owned, the bank
cannot rent more than its investment shares. Let‟s suppose that the bank has divided its
shares into 8 units which if Imad needs to buy the share will have to pay £1000/- for each
unit. Our main concern here is rent, so for £200/- Imad can rent 8 units, which means £25

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per unit (£200/8units). So when Imad happen to buy one unit from the Bank, the rent will
be reduced as well because the number of units for the bank share has reduced to 7. So it
will be £175/- (£25*7units). When Imad continue to buy the Banks shares the rent will
keep on going down until when he bought the Van completely the rent paid will be nil.

Termination
The Ijarah contract can be terminated in many cases. The termination of Ijarah agreement
should be done by mutual consent of both parties. However the lessor has the right to
terminate the lease contract unilaterally if the lessee contravenes the terms of agreement.
In this case, the lessor cannot charge the rental for the remaining period but he can ask
the compensation in case of lessee cause destruction.

The damage or accident that can stop the leased asset to work or provide service less than
what was expected can cause the Ijarah agreement to be terminated automatically without
charging rentals for the remaining period. And if there big maintenance the lessor is
responsible for maintenance.

There are the cases that the leased asset doesn‟t work properly and the owner refuses to
repair while the lessee has paid full rentals in advance. The lessee can ask the
compensation or terminate the contract and ask his money back.

In case of lessee‟s death, the Ijarah contract will be terminated automatically. On the
other hand, in case of the lessor‟s death the contract will not be terminated, it will
continue up to the end of the rental period where the rental charges will be paid to the
lessor‟s heirs.

The penalty for the late rentals payment


In the Ijarah agreement, there should be the clause stating about the penalty that can be
charged the lessee in case of late payment of rentals. The lessor can put additional
amount on rentals as stated in the agreement when the lessee failed to pay the rent on

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time. There should be specific way of calculating the additional amount as penalty where
normally it is calculated on the basis of % per annum.

The penalty charged is not permissible for the lessor to use but it should be put in special
account for charity purposes that will be given on behalf of the client. The charge is taken
as yameen imposed to the client as self imposed penalty during the contract to keep
himself away from default.

In the case of Ijarah agreement operating with Diminishing Musharakah, the late payment
penalty should not be related with the buy/purchase contract since it has nothing to do
with it. Let us take the following example; when the client is in Shirkah with the bank, he
is also renting the bank shares and buying the bank shares gradually as presented below;

Share unit price = £1,000/-


Unit left =5
Rent charges = £200/-
Unit per share = £40/- (£200/5)
Penalty rate = 15% per month

In case the client delayed to pay rent for one month, the 15% of rental payment will be
charged as a penalty, so the penalty charge will be £30/- i.e. (200*15%)
The total amount to be paid is £1,000(purchase) + £200(rent) + £30(penalty) = £1,230/-

If this case happens again to the same client but when only 3 units left to be bought, the
calculation will be as follows

Rent charge = (£40*3units) = £120/-


Penalty charge = (£120*15%) = £18/-
Unit price = £1,000/=

So total amount to be paid will be £1,000 + £120 + £18 = £1,138/-

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2.3.3 Sell/Purchase agreement – work instructions


In Diminishing Musharakah arrangement, sell/buy agreement is the ultimate goal. The
Diminishing Musharakah is targeting the purchase of assets or items that the person or a
company finds a difficulty to purchase due to its prices. As we have seen in previous
chapters that the overall Diminishing Musharakah arrangement contains three separate
agreements.

Three agreement which are; Shirkah agreement, Ijarah agreement and sell/buy
agreement. These agreements should NOT be tied up one another i.e. effecting one
agreement should not be the condition of the previous agreement. For example when
Making Shirkah agreement there should not be the clause of condition that the co-owned
asset will be leased to one partner, or when making agreement of Ijarah, there should not
be the clause of condition that while in Ijarah agreement, one partner will buy the shares
of the other partner gradually, however, one side can make unilateral promise to sell the
item to other partner but it should not be taken as condition of contract. The combining
two contracts in one have been prohibited in Islamic jurisprudence as we have seen in
previous chapters.

Because we have seen the operator instructions for Shirkah agreement as separate Islamic
financial instrument, we have seen the Ijarah agreement as separate Islamic financial
instrument, and we have seen how Ijarah agreement treatment when the lease asset is in
Shirkah agreement so in this chapter is going to give the real picture of the whole scenario
of Diminishing Musharakah.

Sell/buy agreement is the third agreement after Shirkah and Ijarah agreement in
Diminishing Musharakah arrangement. This is the agreement where one partner (co-
owner) of the asset undertakes to buy the shares of the other partner gradually until he
becomes the sole owner of this asset when he finishes buying the shares completely.

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Normally this agreement is tied up with other agreements in operation but NOT in the
contracts. Through examples in this chapter it will be shown practically how the three
agreements work with each other in constructing the Diminishing Musharakah instrument.

For example Mr. Hamad approaching the Islamic Bank in request of purchasing the house
using Diminishing Musharakah arrangement; because Mr. Hamad is the one who needs to
use the house, he will be given the chance to choose the house and the bank will approve
and enter into agreement. So the Bank and Mr. Hamad entered into first agreement
(Shirkah agreement) where the details are as follows;

House purchased price = £120,000/-


Bank‟s contribution = £80,000/-
Mr. Hamad‟s contribution = £40,000/-

After this agreement the house will be now owned by two owners with identified shares
where bank own 66.66% of the asset and Mr. Hamad own only 33.33% of the asset. It
should be noted that all rules of Musharakah agreement are applicable in the above
agreement.

While Mr. Hamad and bank are in Shirkah of the house with known investment shares,
another separate agreement (Ijarah agreement) can be signed for Mr. Hamad to rent the
bank‟s share of the house. The Bank will rent its shares using agreed price of using the
market price. In the agreement the Bank can make the unilateral promise to sell its shares
after one year. All rules regarding Ijarah agreement should be applicable in this
agreement. However, there will some few adjustment during contact termination, contract
security etc. since the property is co-owned by the lessor and lessee. In continuation with
the previous example, the operation will be based on the current status of involved parties
while signing the Ijarah contract. The bank agreed to rent its shares which has divided
them into 10 units, where each unit is £50 per month; the progression will be a follows;

House purchased price = £120,000/-


Bank‟s contribution = £80,000/-

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Mr. Hamad‟s contribution = £40,000/-


Bank‟s shares = 66.66%
Mr. Hamad‟s share = 33.33%
Number of units = 10
Rent price per unit = £50/-

In completion of Diminishing Musharakah agreement, the third agreement should be


signed. Its sell/buy agreement, the bank will sell its shares to Mr. Hamad for £8,000/- per
unit where Mr. Hamad will buy one unit in every three months.

So, Mr. Hamad will be liable to pay the rent according to the number of units every month,
after every three months he will buy one unit and rent will be decreased for the price of
one unit in the next three months. Mr. Hamad will continue on paying rent and buying
shares until after two years and five months he will finish to buy the units and not paying
rent anymore. The example is summarised in the table here under:-

Value of unit
purchased Total Payment Remaining
Years Months Rent in £ (in £) (in £) Units
0 0 0 10
January 50 10 = 500 8,000 8,500 9
First year April 50 9 = 450 8,000 8,450 8
July 50 8 = 400 8,000 8,400 7
October 50 7 = 350 8,000 8,350 6
January 50 6 = 300 8,000 8,300 5
April 50 5 = 250 8,000 8,250 4

Second Year July 50 4 = 200 8,000 8,200 3

October 50 3 = 150 8,000 8,150 2

Third Year January 50 2 = 100 8,000 8,100 1

April 50 1 = 50 8,000 8,050 0

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The above table summarises the transaction of rent and buying one unit in every three
months that Mr. Hamad is supposed to pay.

It should be noted that in between three months, Mr. Hamad is only liable to pay the rent
which remain the same until when he buys another unit.

Finishing the purchase of the last unit and last unit rent will complete the transfer of
ownership of the house from bank to Mr. Hamad, so the house will be fully owned by Mr.
Hamad.

Example 2
The example will involve some cases that might happen in Diminishing Musharakah, the
case of late payment and how to deal with them. Let us suppose the client approached
Islamic Bank need to buy the taxicab for business. The Banks and the client entered into
Shirkah agreement, buying the taxicab for intention of making the Diminishing
Musharakah arrangement. After the Shirkah they entered the Ijarah agreement followed
by sell/buy agreement. The details for those agreements are as follows:-

The taxicab price = 10,000/-

Bank contribution = 6,000/- (60%)

Client contribution = 4,000/- (40%)

Number of units = 6 units

Unit price = 1,000/-

Rent per month = 480/-

Rent per unit = 80/-

Penalty charge = 30% per month

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The client will be supposed to pay the rent every month and buy one unit in every two
months. So the estimated time for this arrangement will be one year. Let‟s assume that
the client failed to pay the rent in one month say July, and he carried his balance to next
month, so he will be liable for a penalty charge for month of July. The process will be as
follows:

Total
Carried Penalty charge Value of unit Payment in Remaining
Months Rent in (£) Rent in (£) in (£) purchased in (£) (£) Units
0 0 0 0 0 6
January 6*80 = (480) 0 0 0 0
February 6*80 = (480) 0 0 1,000 1,480 5
March 5*80 = (400) 0 0 0 400
April 5*80 = (400) 0 0 1,000 1,400 4

May 4*80 = (320) 0 0 0 320


June 4*80 = (320) 0 0 1,000 1,320 3
July 0 0 0 0 0
(240*30%) =
August 3*80 = (240) 240 72 1,000 1,552 2

September 2*80 = (160) 0 0 0 160


October 2*80 = (160) 0 0 1,000 1,160 1

November 1*80 = (80) 0 0 0 80

December 1*80 = (80) 0 0 1,000 1,080 0

The penalty is charged from the rent that was supposed to be paid and not from the unit
price. In case the client failed to buy the unit for one month, there will be no any charge
for that, he will be still be liable to pay the rent. Failing to buy a unit will result to
lengthening the time of arrangement which resulting the client paying more rent for the
asset. So after 12 months the client will be the owner of the taxicab, thank to Diminishing
Musharakah instrument.

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2.4 CONTRACTS
As it has explain in Overview that the there are three main contracts that are standing
separate to build up the whole arrangement of Diminishing Musharakah, each contract
contain different documents and sections depending the type of contract. Some contacts
goes in phases whereby after every the end of one phase, the contract should be renewed.
Everything should be well described in the contract to avoid any ambiguity that may cause
the devastation of whole contract. The three contracts are the stages of whole Diminishing
Musharakah arrangement whereby the contracts can co-occur but not tied up one another,
termination of one cannot cause terminating of the other.

2.4.1 Musharakah agreement contract


The Musharakah model agreement contains two documents; document one is about
investment agreement and document two is about the basis of provisional to the
institution. Document one involves the following:

1. Parts of Shirkah &Terms and Definitions


2. Amounts (Contributions) 10. Management
3. Period of the contract 11. Defaults
4. Purpose and terms of the Musharakah 12. Penalty
5. Accounting Period 13. Obligations
6. Auditing 14. Force Majeure
7. Termination 15. Security
8. Sell/buy shares 16. Other terms
9. Division of shares 17. Witness

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Musharakah Agreement Document no. 1


Musharakah investment Agreement

This agreement is made

At this day of 2010 (the year of


the contract)

Between

Limited, a duly incorporated company having its registered


office at here in after referred to as “the client” (which expression shall
whenever the context so requires or permit mean and include its successors-in-interest
and assigns) of the one part

And

Institution (or financial institution), a duly incorporated banking


company (or financial institution) having its registered office at context
so requires or permit mean and include its successors-in-interest and assigns) of the
other part

Whereas the parties here to have agreed that the institution shall provide finance to client
on profit and loss sharing basis on the terms and conditions hereafter appearing

1. Terms and definitions


This agreement sets out the terms and conditions upon and subject to which the institution
has agreed to finance the client by means of Musharakah investment.

In this agreement, unless the context otherwise requires:


“Business day” means a day on which banks are open for normal business in the
place of interest.
“Clients investment” as defined in clause 2 (ii)

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“Financial Statement” shall mean the client‟s balance sheet, Profit and Loss
account, cash flow statement and statement of changes in equity
“Institution‟s investment” as defined in clause 2
“Licence” means any licence, permission, authorization, security interest, lien, right
of set-off, contractual restriction (such as negative covenants) and any other
encumbrances
“Lien” shall mean Mortgage, charge, pledge, hypothecation, security interest, right
of set-off, contractual restriction (such as negative covenants) and any other
encumbrances
“Musharakah Capital” means the sum of the client‟s investment, institution
investment and other PLS funds, if any
“NBFIs” means Non-Banking Institutions
“Other PLS funds” as defined in clause 2(iii)
“Parties” means parties in this agreement
“Principal Documents” means this agreement and the security documents
“Prudential Regulations” means prudential regulations or other regulations as
are notified from time to time by the concerned regulatory authorities for the Banks
or NBFIs
“Security Documents” means such deeds and documents as the institution may
require the client to furnish or execute under this agreement
“Secured Assets” All the client‟s (description of the proposed securities)
Dollar ($), Pound (£) means the currency of the country concerned
“Central Bank” means the Central Bank of the county concerned
“Written Request” means the request of the client to the institution

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2. Parties Contributions
i. The institution hereby agrees a written request of the client to provide the finance
up to sum of $ (Dollars only)
on the terms and conditions hereinafter contained (which financing is hereinafter
referred to as “institutions investment”)

ii. The investment of the client for the purpose of this agreement aggregate to
______________ __(Dollars only) as on__________ as
per details given in annexure A to this agreement (client‟s investment)

iii. The client has obtained the following fund from various sources on Profit and Loss
sharing Basis, all of which are hereinafter to as “PLS Funds”
________________ ______________________ _________________
________________ ______________________ _________________
________________ ______________________ _________________

3. Period of the contract


This agreement shall be valid for the period of _________ years from the date of first
disbursement of the institution‟s investment.

4. Purpose and terms of Musharakah


The client and the institution hereby mutually agree and covenant as under:
i. The Musharakah investment shall be used only for (insert the description of
purpose of Musharakah investment) and shall not be used and /0r diverted for
any other purpose.
ii. The client shall not make any change in its paid up capital, accumulated reserves
or un-appropriated profits, except on the basis of annual audited accounts, and
shall also not, without prior written consent of the institution (which consent
shall not be on profit and loss sharing basis either for short term or for long term

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from any source. The consent shall also not, without the prior written consent of
the institution, repay earlier than the repayment schedule already agreed to, any
other PLS Funds.
iii. The client shall not declare any dividend without the prior consent in writing of
the constitution.
iv. The client hereby covenants/agrees with the institution on the basis of the past
experience, data available of the client and reasonable and prudent/cautious
expectations about future plans of the client, it is expected that after adding the
institution‟s investment to the client‟s investment, the Projected pre-tax annual
profit of the client here shall be _______ % per annum of the total of
investments of
a. The client
b. The institution
c. Other PLS funds
The aforesaid profit percentage is hereafter referred to as the “Projected Rate
of Return”
v. It is hereby expressly agreed that the client may avail the institution‟s
investment as and when required, provided the outstanding amount of the
institution‟s investment at any time shall not exceed the amount specified in
clause 2
vi. The client shall perform all acts and fulfil all legal requirements, which may at
any time and from time to time be necessary to implement this agreement. The
client shall also execute all documents to furnish all information which the
institution may at any time require from the client.
vii. The client shall furnish to the institution within one month of the end of each
quarter of its accounting year, a report of its operations and statements of
financial affairs and any other information in such form as may be devised by the
institution from time to time.
viii. Based on the Projected Rate of Return the client shall pay at the end each
quarter of its accounting year of the institution its share of profit worked out in
accordance with the formula specified in Document 2, Annexure I.

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ix. Payments under sub clause (viii) shall be treated as provisional to be adjusted on
final accounts being prepared for the whole accounting year in accordance with
the clause 5

5. Accounting Period
i. At the end of each accounting year of the client, financial statement shall be
prepared based on the accounting policies consistently applied, in accordance
with the international Accounting Standards as applicable in the country
concerned. Any change of the accounting policies of the client shall require prior
written approval of the institution.
ii. Upon finalization of the annual financial statements in the manner provided in
the clause (i) above, the pre-tax net profits for the year shall be allocated among
the stipulated in Annexure (ii) and subject to such conditions as contained
therein. The amount so allocated is and shall be deemed, to be the due share of
profit of the institution. All quarterly payments made by the client to the
institution shall be deducted from the final payment to be made to the
institution.
iii. In the event of annual financial statement of the client, showing a loss the same
shall be shares by the institution, the client and other PLS funds in proportion to
their respective shares in the Musharakah capital. The amount of such loss shall
be either paid by the respective parties into the Musharakah capital or shall be
deducted from the Musharakah capital at the respective party.

6. Auditing
The client shall submit to the institution its audited financial statements within four
months from the end of its accounting year duly audited by the firm auditors approved
by the institution.

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7. Termination
At the expiry of this Musharakah agreement or its earlier termination as provided for
this agreement, the client shall redeem/cash in the institution‟s investment and any
unpaid share of the institution‟s profit.

8. Sell/buy shares
Where the Musharakah of this agreement is for the period of ______ years, the
institution shall have the right to convert into the share of the client the full amount of
its investment outstanding at the time of such conversion. Such conversion shall be at
the market value of the shares of the client. Where the institutions entitlement under
the above valuation results in fraction of shares, the fractions of half or more shall be
taken as one, and fraction of less than half shall be ignored.
Provided that the institution shall exercise its right under this clause only if the client
has achieved, during any three previous of the currency of this agreement an average
profit of less than 2/3rd of mutually agreed of Projected Rate of Profit.

Provided further that whenever the institution decides to sell the shares acquired by it
under this clause, the existing shareholders of the client (other than the institution),
shall have the first right of refusal to purchase the same at a price at which the
institution wishes to sell them.

9. Division of shares
The client shall issue the letters of the allotment/allocation of shares as mentioned
herein above within thirty days of demand by the institution and these shares may be
of any class of shares of the client as mutually agreed and the institution shall have
equal rights as enjoyed by other share holders holding shares of the same class
including right of voting, transferring, subscription for right issue, bonus issue,
dividends, etc., under the law of governing joint stock companies.

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10. Management
Subject only to the express terms of this agreement, management and control shall
primarily vested in the client and the client shall be responsible for the management
and the control of the business except when option under clause 8 or 9 above have
been exercised provided that the institution shall have the option in its sole discretion
to nominate one or more persons on the board of directors of the client.

This agreement shall not be deemed to create partnership or company in no event has
the client any authority to bind the institution. In no event shall the institution be liable
for the debts and obligations of the client incurred for other purposes, except as
stipulated in this agreement.

11. Defaults
In the event of the event of the client making default in
a) Payment of due share of profit
b) Redemption/release of institution‟s investment on the expiry/termination of the
Musharakah
c) Performance of any other covenant/ under this agreement provided such default
remains un rectified for a period of ______ days from the date of notice served
by the institution, the institution shall have the right to dispose the securities
defined in the clause 15 hereto and adjust the sale proceeds thereof towards the
amounts received by it.

12. Penalty
i. Where the amount required to be paid by the client under the principal documents
on specified date and is not paid by that date, or an extension thereof, permission
of the institution without any increase of the amount payable, the client hereby
undertakes to pay directly to the charity fund, constituted by the institution, as sum
@______% p.a for the entire period of default, calculated on the total amount of
the obligations remaining un-discharged. The charity fund shall be used at the

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absolute discretion of the institution, exclusively for the purposes of the approved
charity.
ii. In case
a) Any amount(s) referred to in clause 12(i) above, including the amount
undertaken to be paid directly to the charity fund, by the client, is not paid by
him, or
b) The client delays the payment of any amount due to under the principal
documents and/ or the payment of the amount to the charity fund as
envisaged under clause 12(i) above, as a result of which any direct or indirect
costs are incurred by the institution, the institution shall have the right to
approach the competent court.
c) For recovery of any amounts remaining unpaid as well as for imposing of a
penalty on the client. In this regard the client is aware and acknowledges that
notwithstanding/even though the amount paid by the client to the charity
fund of the institution, the court has power to impose penalty, at its
discretion, and from amount of such penalty, a smaller or bigger part,
depending upon the circumstances, can be awarded a solatium/compensation
to the institution, determined on the basis of direct and indirect costs
incurred, other than the opportunity cost.

13. Obligations
This agreement shall be binding upon the inure/take effect to the benefit of and can be
enforceable by the institution, the client and respective successors permitted assigns
and transferees of the parties hereto, provided that the client shall not assign or
transfer any of its rights or obligations under this agreement without the written
consent of the institution. The institution may assign all or any part of its obligations
and/or commitment under this agreement to any bank, financial institution, or any
other person. The client shall not be liable for the costs of the assignment and/or
transfer of commitments hereunder by the institution. If the institution assigns all or
any part of its rights of transfers all or any part of its obligations and commitments as
provided in this clause, all relevant references in this agreement to the institution shall

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thereafter be construed/taken as a reference to the institution and/or its assignee‟s or


transferee‟s (as the case may be) to the extent of their respective interests.

14. Force Majeure


Any delay or failure of a party hereto in the performance of hereunder if and to the
extent it is caused by the occurrences or circumstances beyond such party‟s reasonable
control, including but not limited to, acts of God, fire, strikes or other labour
disturbances, riots, civil commotion, war (declared or not) sabotage, any other causes
similar to those herein specified which cannot be controlled by such party. The party
affected by such events shall and furnish prove of detailed of the occurrence and
reasons for its non performance of whole or part of this agreement. The parties shall
consult each other to decide whether to terminate the agreement or to discharge part
obligations of the affected party or extend its obligations on a best effort and on an arm
length basis.

15. Security
The institution shall with mutual consent of the parties hereto, obtain security for
redemption/recover of the institution as aforesaid/abovementioned after adjustment of
the losses if any. The client hereby agrees and undertakes to give the following
security, the terms and conditions of which shall be such as institution may determine
to secure its priority over other creditors of the client:
a. Mortgage
b. Hypothecation
c. Pledge and/or other securities as the institution may require.

In case any other creditor of the client claims or secures or attempts to secure lowering
of the institution‟s priority over the security or in case of defalcation by the client, the
institution shall have the right to terminate the agreement forthwith/ immediately. The
securities obtained by the institution will be kept full insured at the client‟s cost and
expenses through a reputable insurance company to the satisfaction of the institution
against all insurable risks.

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16. Other terms and Conditions


i. No failure or delay on the part of the institution to exercise any power, right or
remedy under this agreement shall operate as a waiver thereof no partial
exercise by the institution of any power, right or remedy
preclude/stop/prevent/exclude any other or further exercise thereof or the
exercise of any other power right or remedy. The remedies provided in this
agreement are cumulative and are not exclusive of any remedies provided by
law.
ii. This agreement represent the entire agreement and understanding between the
parties in relation to the subject matter and no amendment or modification of
this agreement will be effected or binding unless it is in writing, signed by both
parties refers to this agreement.
iii. This agreement is governed and shall be construed or understood in accordance
with (insert the country concerned). All competent courts at_________________
shall have the non-exclusive jurisdiction to hear and determine any action, claim
or proceeding arising out or in connection with this agreement.
iv. Nothing contained herein shall prejudice or otherwise affect the rights and the
remedies/solutions that may otherwise be available under law to the parties.
v. Any reconstruction, division, re-organisation or change in the constitution of the
institution or its absorption in or amalgamation/merger with any other person or
the acquisition of all or part of its undertaking by any other person shall not in
any way prejudice/injustice or affect its rights hereunder.
vi. The two parties agree that any notice or communication required or permitted by
this agreement shall be deemed to have been given to the other party seven
days after the same has been posted by registered mail or next business day if
given by a facsimile message or telex or by any other electronic means, or the
next business day as counted from the date of delivery if delivered by courier
mail;

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17. Witness

In witness whereof the client and the institution have executed this agreement on
the day, month and year mentioned above.

WITNESS SIGNATURES
1. Signature___________________ 1.______________________
Name______________________ 2.______________________
Address____________________ (Authorised signatures) common
ID no.______________________ Seal for and on behalf of (client)

WITNESS SIGNATURES
2. Signature___________________ 1.______________________
Name______________________ 2.______________________
Address____________________ (Authorised signatures) common
ID no.______________________ Seal for and on behalf (financer)

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Musharakah Document no. 2


The basis of provisional to the institution

Agreed ratio for


Code Description profit sharing Amounts
A Client's investment 60% £100
B Institution's investment 40% £100
C Total investment (A+B) £200
Agreed Projected Rate of Return total
D investment 80%
Projected amount of profit on total
E investment (200*80%)=£160
Allocation of projected profit in Mutually
F agreed profit sharing
H Ratio of profit:
I Client 60% £96
Institution 40% £64
£160

Quarterly provisional payment of the


G projected profit 64/4 = 16
Allocation of actual net profit of £180
H (assumed) at the end of year
Client 60% £108
Institution 40% £72
£180
The final net payment to the institution
I (72-64) = 8

PARAMETERS AGREED
i) Ratio of sharing of Profit (Ratios indicative)
ii) Other conditions, if any (for example, relating to valuation of inventories,
depreciation policies, agreed level or quantum of dismissal costs etc.)

Client 60%
Institution 32%
Other PLS Funds 8%

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2.4.3 The Diminishing Musharakah Agreement


This Agreement is made

At _________________________on ______ day of _________________ 2010 (year of


the contract)

Between

_______________________________________________________, (hereinafter referred


to as “Partner one/financer/bank” which expression shall where the context so
permits mean and include its successors in interest and assigns) having its registered
office at_______________________________________, the one part

And

1. _________________________________________________, a company
incorporated its Registered Office at _______________________________, the
other part

Or

2. _______________________________________________, a partnership having


its Office at _______________________________________________, the other
part

Or

3. Mr. / Miss/ Mrs. __________________________________________, a resident


of ______________________________________________________, the other
part
(1, 2, and 3 hereinafter referred to as the “Partner two/Customer” which expression
shall where the context so permits mean and include his successors in interest and
permitted assigns) of the other part

It is agreed by the parties as follows:

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1. Purpose and definitions


i. On the request of the Customer, financer (bank) has agreed to enter in to a
Musharakah arrangement to sell “Musharakah Asset(s)”, fully described in the
schedule below, which the Customer will buy from financer on Diminishing
Musharakah basis
ii. The parties are desirous/hoping for of reducing in to writing the terms and
conditions that will govern their relationship during the term of this Joint Ownership
Agreement.
iii. The terms defined in the Musharakah Agreement shall have the same meanings in
this Agreement. In addition to the above, the terms defined below shall have the
meanings assigned to them hereunder:
“Buy out Payment Date” Means the date(s) on which the Customer shall buy the
Musharakah Units from time to time from the Financer (bank) as set out in
Appendix A” hereto;
“Buy out Price” Means the amount to be paid by the Customer to the Financer
(bank) to purchase the Musharakah Units of Financer‟s/Bank‟s share.
“Musharakah Units” Means the division and classification of the Financer‟s/Bank‟s
Musharakah Share into units of the value and in the number appearing in Appendix
„B‟ hereto;
“Outstanding Buyout Price” Means the aggregate Buyout Price minus the total
amounts of Buyout Price already paid by the Customer as appearing in Appendix „C‟
hereto. In the event of termination under Clause 5(i), the “Schedule of Outstanding
Buy out Price (Applicable upon Termination)” only, shall apply;
“Term” Means the period of validity of the Agreement commencing from the
effective date up to the payment date of the last Buy Out Price or the
Monthly/Quarterly/Half Yearly Payment Date whichever is late;

2. The Customer
The customer represents that:

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i. He has satisfied himself as to the quality, specifications and market value of the
Musharakah Asset(s) and has recommended to the financer/bank that it should
participate in buying the Musharakah Asset(s) at the said price.
ii. He would be prepared to participate to the extent of _______ % in purchasing the
Musharakah Asset(s) and will make £ ____________ available to Financer/bank in
this regard at the time of signing of this Agreement.
iii. Based on the representations of the Customer, the financer/bank has agreed to sell
the Musharakah Asset(s).
iv. After the acquisition of the Musharakah Asset(s), the Customer shall purchase the
share of Bank in the Musharakah Asset(s) in the shape of Musharakah units from
Bank in terms of the following:-
The Customer shall purchase the Musharakah Units from Bank and make
payment therefore in terms of Appendix „C‟.
The Customer may at any time, during the Term of this Agreement, purchase
the Bank‟s entire remaining Musharakah Units at their applicable Buy out
Prices subject to the provisions of this Agreement.
The Customer shall serve upon the Bank a prior written notice of at least
fifteen (15) days of his intention to purchase all or any of the remaining
Musharakah Units.
In case the Customer acquires all the remaining Musharakah Units by
payment of the aggregate amount of applicable Buy out Prices, this
Agreement shall stand terminated subject to the fulfillment of all the
obligations of the Customer and the payment by the Customer of all
outstanding, due and payable by the Customer to the Financer.

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3. Termination
In case of a default committed by the Customer in fulfilling any of his/ her obligations
under this Agreement, the Financer may terminate this Agreement by serving a Notice on
the Customer. In such an eventuality, the Customer undertakes to purchase all the
outstanding Musharakah Units in terms of the following:
i. Upon a notice of termination being issued by the Financer under Clause 5(i) above,
the Customer hereby agrees and undertakes to purchase the remaining Musharakah
Units from the Financer immediately.
ii. The remaining Musharakah Units shall be purchased by the Customer at the
Outstanding Buyout Prices (Applicable only Upon Termination) as provided in
Appendix „C‟

4. Security
As security for all obligations of the Customer and payment of the rentals in terms of this
Agreement, the Customer shall, at the time of execution of this Agreement, create/
execute/ provide/ensure the following to Financer:
i. Execute a Demand Promissory note in favor of the Financer for the amount of the
financer‟s Musharakah Investment and Monthly/Quarterly/Half Yearly Payments
receivable during the term of the Musharakah; (the "Demand Promissory Note");
ii. Execute such further deeds and documents as may from time to time be required by
the Financer for the purpose of more fully securing and or perfecting the Security
created or to be created in favor of the Financer; and
iii. Create such other securities and execute such further documents to secure the
Customer‟s obligations under the Principal Documents as the Financer may require
the Customer to furnish from time to time. (The above are hereinafter collectively
referred to as the "Security").

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5. Other terms
i. Till such time that the Customer purchases all the Musharakah Units of the Financer,
the parties shall share the rent in respect of the Musharakah Asset(s) in proportion
to their respective interests in the Joint Ownership.
ii. Pending the purchase of all the Musharakah Units of Financer by the Customer, the
Monthly/Quarterly/Half Yearly rent of the Musharakah Asset(s) will be jointly
determined by the parties from time to time and the Customer shall pay the share
of Financer to it every month/quarter/half year.
iii. The Musharakah Agreement and Monthly/Quarterly/Half Yearly Payment Agreement
shall form an integral part of this Agreement.
iv. In the event that the Customer fails to purchase the remaining Musharakah Units at
the Outstanding Buy Out Prices (Applicable only upon Termination), within a period
of fifteen (15) days from the date of the notice being issued under Clause 7, the
Financer may, at its discretion, proceed to enforce the security interest in the
Musharakah Asset(s) and Current Assets of the company under the provisions of the
Financial Institutions (Recovery of Finances) Ordinance, 2001 or any statutory
modification thereof for recovery of the amounts due to the Financer under this
Agreement and the Monthly/Quarterly/Half Yearly Payment Agreement, including
the remaining Musharakah Units and accrued and unpaid Monthly/Quarterly/Half
Yearly Payment, if applicable, plus any costs, Taxes and other dues payable and
applicable to the Musharakah Asset(s).
v. The Customer covenants to and undertakes with the Financer that so long as it
remains obliged under the Agreement:
a) It shall inform the Financer of any Event of Default or any event, which with the
giving of notice or lapse of time or both would constitute an Event of Default
forthwith upon becoming aware thereof:

b) The Customer shall do all such things and execute all such documents which in the
judgment of the Financer may be necessary to;

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o Enable the Financer to assign or otherwise transfer the liability of the


Customer in respect of the Financer‟s Musharakah Investment and
Monthly/Quarterly/Half Yearly Payments to any creditor of the Financer or to
any third party as the Financer may deem fit at its entire discretion;
o Create and perfect the Security;
o Maintain the Security in full force and effect at all times including the priority
thereof;
o Maintain, insure and pay all Taxes assessed in respect of the assets
constituting the Security.
c) It will satisfactorily insure all its insurable assets with reputable companies offering
protection under the Islamic Concept of Takaful. Until the Islamic Insurance Concept
of Takaful is not available, the Musharakah Asset(s) shall be comprehensively
insured (with a reputable insurance company to the satisfaction of the Financer)
against all insurable risks, which may include fire, arson, collision, vandalism, riots
and acts of terrorism, and to assign all policies of insurance in favor of the Financer
to the extent of the amount from time to time due under this Agreement, and to
cause the notice of the interest of the Financer to be noted on the policies of
insurance, and to punctually pay the premium due for such insurances and to
contemporaneously therewith deliver the premium receipts to the Financer. At this
stage, Financer shall reimburse to the Customer its share in the insurance cost.
Should the Customer fail to insure or keep insured the Assets constituting the
Security and/ or to deliver such policies and premium receipts to the Financer, then
it shall be lawful for the Financer but not obligatory to pay such premia and to keep
the said Asset(s) so insured and all cost charges and expenses incurred by it for the
purpose shall be charged to the Customer on pro rata basis and shall be paid by the
Customer to the Financer within five (5) days of a demand being made by the
Financer. The Customer expressly agrees that the Financer shall be entitled to
adjust, settle or compromise any dispute with the insurance company (ies) and the
insurance arising under or in connection with the policies of insurance and such
adjustments/compromises or settlements shall be binding on the Customer and the
Financer shall be entitled to appropriate and adjust the amount, if any, received
under the aforesaid policy or policies toward part or full satisfaction of the

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Customer‟s indebtedness arising out of the above arrangements and the Customer
shall not raise any question or objection that larger sums might or should have been
received under the aforesaid policy nor the Customer shall dispute its liability(is) for
the balance remaining due after such payment / adjustment;
d) Except as required in the normal operation of its business, the Customer shall not,
without the prior written consent of the Financer, sell or otherwise dispose of all or a
sizeable part of its other assets or undertake or permit any merger, consolidation,
dismantling or reorganization which would materially affect the Customer‟s ability to
perform its obligations under this Agreement;
e) It shall forthwith inform the Financer of:
Any event or factor, any litigation or proceedings pending or threatened
against the Customer which could materially and adversely affect or be likely
to materially and adversely affect:
The financial condition of the Customer, (ii) business or operations of the
Customer; and (iii) the Customer‟s ability to meet its obligations when due
under this Agreement, (iv) expiry or cancellation of a material patent,
copyright or license, (v) cancellation or termination of a material trade
agreement; (b) Where the Customer is a Company, any change in the
directors or management of the Customer;

vi. The Courts at ___________ shall have the exclusive jurisdiction to adjudicate upon
any dispute or claim arising out or in connection with this Agreement.
vii. The above represents the entire understanding of the parties on the subject and can
be modified/ amended only through a written instrument signed by authorized
representatives of both the parties.
viii. This agreement may be amended or any term or condition waived only in writing
executed by persons duly authorized, provided that no term or condition which has
the effect of materiality altering the agreement or which is otherwise repugnant to
Shariah shall be added, deleted or waived.

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6. Musharakah Asset
(Description of the Musharakah Asset(s), the assets should be well described, removing all
ambiguity that can cause any kind of uncertainly or problem in the agreement)

In witness whereof, the parties have signed this agreement on the date and place first
above written

__________________________________ _________________________________
Financer Customer

__________________________________ __________________________________
Witness Witness

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APPENDIX „A‟
Buy Out Payment Dates ______________________________________________

____________________________ ____________________________
For and on behalf of Customer For and on behalf of Financer

APPENDIX „B‟ (Musharakah Units of Financer)

Number of Musharakah Units: _____________________


Value of each Musharakah Unit: ____________________

__________________________ ________________________
For and on behalf of Customer For and on behalf of Financer

APPENDIX „C‟ (Schedule of Buyout Prices)


Buy out Price Buy ________________________________________
Out Payment Date ________________________________________

Schedule of Outstanding Buyout Prices (Applicable only upon Termination) pursuant to


Clauses _____ and _____

_____________________________ ____________________________
For and on behalf of Customer For and on behalf of Financer

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SECTION THREE
3.1 CASE STUDIES
Two case studies; purchase of vehicle and construction of building will be presented in this
section using Diminishing Musharakah instrument. Each case study will be presented using
the appropriate scenario showing all necessary steps and demonstrating them with
accounting and processes of all transactions in each of every three agreement of
Diminishing Musharakah arrangement in order to give the clear picture and application of
this instrument.

3.1.1 Purchase of Minibus


Safari Tour company (small tour company in London UK) approached the Greenedge
Bank (the Islamic Bank in UK) requesting for the purchase of Minibus for its business,
using Diminishing Musharakah arrangement.

The Greenedge Bank entered into agreement with Safari Tour Company (Musharakah
Agreement) to purchase the Minibus as its features are well described by Safari Tour and
approved by Greenedge Bank. The investment proportions are presented below.

Upon the completion of the first agreement, the two sides (Greenedge Bank and Safari
Tour Company) entered into another agreement (Ijarah/leasing Agreement) that Safari
Tour will rent the shares of Greenedge Bank that have been divided into the number of
units as presented below.

At the same time, the sides entered into last agreement (sell/Purchase Agreement) that
Safari Tour Company will gradually purchase the unit shares of the Greenedge Bank in
specific arrangement as agreed by the parties. The details of this arrangement are
presented below;

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I. Musharakah Agreement details


Purchase of Minibus:
Minibus Purchased Price = £18,000/-
Greenedge Bank Contribution = £12,000/-
Safari Tour Company Contribution = £8,000/-
Investment Ratios:
Greenedge Bank = 66.66%
Safari Tour Company = 33.33%

II. Ijarah/Leasing Agreement details


Number of Greenedge Bank unit shares = 6 units
Monthly rent per unit share = £125/-
Penalty charge (after given extension) = 20% per month
= 0.67% per day (20/30days)

III. Sell/Purchase Agreement details


Number of Greenedge Bank unit shares = 6 units
Price per unit share = £2,000/-
Fixed unit purchase interval = 2 months
Expected finish time = 12 months (1 year)
Greenedge Bank profit (collective rent) = £5,250/-

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In this agreement, the Greenedge Bank will earn its profit from the accumulative rent paid
by Safari Tour Company for 12 months. The rent is calculated using available unit share of
Greenedge Bank multiplied by the price of unit share. For example in the month of
January, the units available were 6 and the unit price is £125, so it calculated as;

Rent = Number of available units × Price of unit share


= 6 × £125
= £750

So the amount or rent to be paid in the month of January is £750/-

In case of penalty resulted by the delay of rentals payment, the charges in % will be
calculated from the rent that was supposed to pay. For example in the example above, In
the July, Safari Tour Company delayed to pay rentals for 12 days (after given extension)
and the penalty rate is 0.66 per day. The calculation will be as follows;

Penalty amount = rent paid × Penalty charge rate


= £500 × 8% (0.67 × 12 days)
= £40

So the penalty charged for the delay of 12 days is £40.

Whenever the Safari Tour Company purchases the unit share from Greenedge Bank, the
amount of rent paid decline gradually due to decreasing number of units of the Greenedge
Bank.

The unit purchase price may be negotiated and can also involve the issues of depreciation
or appreciation of the asset.

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The following table will show transactions summary for 12 months, demonstrating the rent
and purchase of units by Safari Tour Company.

Remaining
Balance
Rent (unit × price) Penalty in Unit purchase Total amount Remaining (excl.
Months in £ £ amount in £ paid in £ units penalty)

0 0 0 0 6 17,250
January 6 × 125 = 750 0 0 750 6 16,500
February 6 × 125 = 750 0 2,000 2,750 5 13,750
March 5 × 125 = 625 0 0 625 5 13,125
April 5 × 125 = 625 0 2,000 2,650 4 10,500
May 4 × 125 = 500 0 0 500 4 10,000
4 × 125 = 500
(Delayed for 12 0.67 × 12
June days) = 40 2,000 2,540 3 7,500
July 3 × 125 = 375 0 0 375 3 7,125
August 3 × 125 = 375 0 2,000 2,375 2 4,750
September 2 × 125 = 250 0 0 250 2 4,500
October 2 × 125 = 250 0 2,000 2,250 1 2,250
November 1 × 125 = 125 0 0 125 1 2,125
December 1 × 125 = 125 0 2,000 2,125 0 0

Upon the completion of first agreement (Musharakah agreement), the sides exercised two
agreements at the same time; Ijarah agreement and Sell/Purchase agreement, however,
the terms and conditions of these agreements should stand separately and not mixed with
each other. Thus, at a time Safari Tour Company is renting and purchasing the Greenedge
Bank‟s unit shares. The units share‟s price may be fixed and be the same all over the
arrangement, but the amount of rent paid is going down slowly to the extent of the Bank‟s
unit shares. Upon the completion of unit purchase, the Minibus will be full owned by Safari
Tour Company.

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3.1.2 Construction of storage house


Golden Freights UK ltd (the freight company in UK) approached the Silverdale Bank
(the Islamic Bank in UK) requesting for the construction of storage house using
Diminishing Musharakah instrument.

The Silverdale Bank accepted the deal and signed the agreement with Goldenfreights to
construct the store house using Musharakah agreement. As the expected user of such
store house, Goldenfreights described all the features and plan/map for such building.
Furthermore, Goldenfreights provided the area/site of construction as its investment
contribution (investment capital) in this Musharakah. Silverdale Bank undertook the
construction of whole building as its investment capital of the Musharakah. The value of
area/site provided by Goldenfreights and the estimation of construction costs by Silverdale
Bank as the investment of each side are presented in the schedule below.

Upon the completion of the store house construction, Goldenfreights and Silverdale Bank
signed another separate agreement (Ijarah/Leasing agreement) with independent terms
and conditions; Goldenfreights will rent the unit shares of Silverdale Bank and start using
the store house for its business. Silverdale Bank gave unilateral promissory note to
Goldenfreights to sell its investment unit shares after one year of renting. The details
regarding the rent are presented in the schedule below.

After one year of renting the store house bank shares (the rule of Diminishing Musharakah
agreement), Goldenfreights and Silverdale Bank signed another separate agreement
(Sell/Purchase or Diminishing Musharakah agreement) as a result of unilateral promissory
note to sell its investment shares. The Silverdale Bank will gradually sell its unit shares to
Goldenfreights. The details for this agreement are presented below.

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I. Musharakah Agreement details


The store house:
The value of the construction area/site = £72,000/-
Construction costs = £13,000/-
General value of the building = £85,000/-
Construction duration = 8 weeks
Investment Ratios:
Silverdale Bank = 84.70%
Goldenfreights UK ltd = 15.30%

II. Ijarah/Leasing Agreement details


Number of Silverdale unit shares = 12 units
Monthly rent per unit share = £120/-
Penalty charge (after given extension) = 25% per month
= 0.83% per day (20/30days)

III. Sell/Purchase Agreement details


Number of Silverdale Bank unit shares = 6 units
Price per unit share = £6,000/-
Fixed unit purchase interval = 2 months
Expected finish time = 24 months (2 years)
Collective rent for 24 months = £18720/-

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Unit Total Remaining


purchase amount in Remaining Bal. (excl.
Year Months Rent (unit × price) Penalty amount in £ £ units Penalty)
1 0 0 0 0 12 90,720
1 January 12 × 120 = 1440 0 0 1,440 12 89280
1 February 12 × 120 = 1440 0 6,000 7,440 11 81,840
1 March 11 × 120 = 1320 0 0 1,320 11 80,520
1 April 11 × 120 = 1320 0 6,000 7,320 10 73,200
10 × 120 = 1200 (12.5 ×1200) =
1 May (delayed for 15 days) 150 0 1,200 + 150 10 72,100
1 June 10 × 120 = 1200 0 6,000 7,200 9 64,800
1 July 9 × 120 = 1080 0 0 1,080 9 63,720
1 August 9 × 120 = 1080 0 6,000 7,080 8 56,640
1 September 8 × 120 = 960 0 0 960 8 55,680
1 October 8 × 120 = 960 0 6,000 6,960 7 48,720
2 November 7 × 120 = 840 0 0 840 7 47,880
2 December 7 × 120 = 840 0 6,000 6,840 6 41,040
2 January 6 × 120 = 720 0 0 720 6 40,320
2 February 6 × 120 = 720 0 6,000 6,720 5 33,600
2 March 5 × 120 = 600 0 0 600 5 33,000
5 × 120 = 600 (25 ×600) =
2 April (delayed for 1 month) 150 6,000 6,600 + 150 4 26,400
2 May 4 × 120 = 480 0 0 480 4 25,920
2 June 4 × 120 = 480 0 6,000 6,480 3 19,440
2 July 3 × 120 = 360 0 0 360 3 19,080
2 August 3 × 120 = 360 0 6,000 6,360 2 12,720
2 September 2 × 120 = 240 0 0 240 2 12,480
2 October 2 × 120 = 240 0 6,000 6,240 1 6,240
2 November 1 × 120 = 120 0 0 120 1 6,120

2 December 1 × 120 = 120 0 6,000 6,120 0 0

In this agreement, the Silverdale Bank will earn its profit from the accumulative rent paid
by Goldenfreights for 3 years, where the in the first year the rent was fixed because the

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Goldenfreights has not started buying the unit shares of the Silverdale Bank, the rent paid
were s follows

Monthly rent = units × unit price


= 12 × 120
= 1440
The annual rent
= 1440 × 12 months
= 17,280

So the first year rent was £ 17,280

The rent for the rest years where the Goldenfreights has started purchasing the Silverdale
unit share, the rent is calculated using available unit share of Silverdale Bank multiplied by
the price of unit share. For example in the month of March of first year, the units available
were 11 and the unit price is £120, so it calculated as;

March rent = Number of available units × Price of unit share


= 11 × £120
= 1,320

So the amount or rent to be paid in the month of January is £1,320/-

From the above table we have seen that the amount that Goldenfreights are £90,720 and
the total value of 12 units of Silverdale Bank was £72,000. So the difference is the profit
earned by the Silverdale Bank in 2 year of renting its share after Diminishing Musharakah
agreement £90,720 – 72,000 = £18720

Adding the first year rent and two years after Diminishing Musharakah agreement is the
total profit of the Silverdale Bank in three years in this deal.

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Total profit = fixed rent (before D.M agreement) + rent after D.M agreement
= 17,280 + £18720
= 36,000/-

Therefore, the total profit of Silverdale Bank is £36,000/- which is about 50% is its initial
capital investment in this deal three year ago (£72,000)

In case of penalty resulted by the delay of rentals payment, the charges in % will be
calculated from the rent that was supposed to pay.
For example in the example above, In the April, Goldenfreights delayed to pay rentals for
15 days (after given extension) and the penalty rate is 0.833 per day. The penalty
calculated as;

Penalty amount = rent paid × Penalty charge rate


= £1200 × 12.5% (0.833 × 15 days)
= £150

So the penalty charged for the delay of 15 days is £150.

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SECTION FOUR
4.1 Marketing plan

Practical marketing
The marketing for financial modes require the practical marketing and use of big funds.
It is not easy/enough at all to make the financial instrument possible and accepted
using simple leaflet or placing of billboards in the roads, rather, it needs special efforts to
make the instrument well understood by the targeted customers. The existing customers
of the banks should open up and lead the way of using the instrument and bringing in new
customer. This means that, all adverting means should go along the special efforts of
educating the existing customers, this is due to the fact that the existing customers are
the advocators of the business since the people can listen their friend‟s call but they don‟t
have time to listen telemarketer‟s story, the person can sit down reading story books or
chatting with his friend but not reading the banks leaflet because there are thousands of
leaflets and advertisement to read and there are thousands of telemarketer making calls
every day every time. So the best ways for advertising this instrument are:
Personal movements, the banks should prepare the special movement to the target
market, for example making appointment and conducting the talks with companies‟
directors and present the instrument, explaining its benefits to the company,
dropping the leaflets as well as to well come them if they are interested in doing
business with the bank.
Through internet the bank have to provide the customers with adequate information
in the company‟s official website regarding the instrument as well having call centre
agents to serve the customers.
Well described leaflets and placing the billboards in the busy place for the purpose
of having attention not only for new customers but also the existing ones.
Media advertisement (radio and television) is very crucial to be practiced in creation
of awareness to many people as possible

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Sales Process & Sales Management


Due to the nature of the service, there should be the series of steps that are repeated
while using the Diminishing Musharakah instrument; this is what is called documented
sales process. The services of Diminishing Musharakah may differ, depending on the
nature of dealings, for example the construction of house and purchase of vehicle using
same instrument (D.M), the two deals have to be treated differently. So the bank has to
prepare the templates for different types of transactions so that the customers will be easy
to understand and be attracted. For example the template for house construction using DM
instrument, the template for the purchase of the house, the template for the purchase of
vehicle etc.

The process should be prepared with consideration to customers by observing the true
needs of the customers rather that only considering your plans, entrap the customers and
putting them into difficulties leading to uncompleted transactions; the good process will
attract many customers and improve the bank performance.

The bank will also make an effort to have continuous improvement instrument quality and
marketing techniques in order to win the market and overcome the existing producers of
the same or related products, this will also include the needs of ideas and views of
customers in improving the instrument.

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It is expected that the instrument to pass through all product life cycle stages, that is,
introduction stage, growth stage, maturity stage, and decline stage.

In explaining the nature of normal manufacturing product Kotler, P. and Armstrong, G.


(2005) explaining about product life cycle, arguing that in introduction stage, the
marketing cost will be higher where by the companies make great effort to raise
awareness of the instrument through advertising, at this stage the transactions are
expected to be very low.

Marketing cost will be reduced in the growth stage where the instrument will not need to
be advertised at higher level, in this stage customers are somewhat aware of the DM
instrument, and many transactions will be start taking place.

In the third stage, maturity stage there will be very little or no advertisement cost at all
as the many customers are fully aware of the DM instrument, the number of dealing will
raise and increase the performance of the business.

The marketing cost will come back on the last stage, decline stage where the instrument
will need to be adjusted and re-advertised in order to maintain it in the market and to be
able to compete with existing companies offering the same or existing service.

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Market segment
The instrument is mainly designed to support registered small and medium companies and
institution in purchasing of machines and vehicles as well as construction of different
buildings in the support of their business. However, large companies can also contract
with the Islamic bank when they want to purchase something. This is because many small
companies do not afford to pay for higher purchases like on machineries, trucks, vans etc.
Also it happens to be really difficult for these companies to construct the useful buildings
like storage areas and warehouses for the development of the business. Buying or
constructing these buildings using Diminishing Musharakah instrument has been a proper
solution to those difficulties because the buildings are located at the places that have
chosen by those companies and purchase is done using instalment payment mode in
accordance with agreement.

The instrument is also targeted the governmental and private sectors staffs who are
earning fixed income. These staffs can approach the bank for purchasing different things,
including houses, cars, machines, etc using Diminishing Musharakah instrument. The
rationale behind this segmentation is that, the bank needs predetermined amount of
money out of Diminishing Musharakah contracts according to agreement. Any delay will
result a penalty charge, so avoiding imposing unnecessary charges to the clients, it ought
to make selection of customers.

There is no gender segmentation on this instrument but the age must be considered. The
person interred in this contract must be matured and allowed to enter into contract subject
to concerned country laws.

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The advantages and limitations of Diminishing Musharakah instrument

Advantages
The Diminishing Musharakah instrument is absolutely interest free that no one can
have a doubt on interest involvement because of its nature. So it can be treated as
interest free tool for purchasing different kinds of properties.
The instrument is flexible and contains no tough conditions; the client can buy the
property by presenting very little initial investment.
The Diminishing Musharakah arrangement contains three different agreements
which are treated separately. This can make easier for the sides to get their rights
and avoiding complication of having one long incomprehensible contract.
The instrument is very advantageous not only that the clients do not have to
pay/purchase the property at once i.e. they use instalment payment basis, but also
the clients can use such property and benefit from it while they have not finish
payment.

Limitations

The Diminishing Musharakah is subjected to specific products; it is not applicable in


other kinds of partnership like joint commercial or service partnership.
The Diminishing Musharakah arrangement involves three separate agreements
which are linked but not tied, so this will may results problem when someone one
terminate the contract. Also understanding all terms of three contracts become
difficult for some clients.
The rules of Diminishing Musharakah are not the same in all contracts, for example
in construction of house the client cannot buy the unit share of the financer (Bank)
until after renting such house for one year. But in the purchase of vehicle the client
can start purchasing the unit share of the financer just after the completion of
Musharakah agreement.

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Bibliography

Dr. Mohammad U. Chapra. (1422H/2001) Islamic Economics Overview: 2nd Edition.


Jeddah: Islamic Research and Training Institute: IDB

Dr. Mabid A. Al-Jarhi and Munawar Iqbal. (1422H/2001) Islamic Banking, Answers to
some frequently asked question: 1st Edition. Jeddah: Islamic Research and Training
Institute: IDB

Ziauddin Ahmad. (1415H/1994) Islamic Banking, State of the Art: 1st Edition. Jeddah:
Islamic Research and Training Institute: IDB

Mahmoud Ahmad Mahdi. (1416H/1995) Islamic Banking Modes for House Building
Financing: 1st Edition. Jeddah: Islamic Research and Training Institute IDB

M. Taqi Usmani. (1419H/1998). An Introduction to Islamic Finance: Karachi: Idaratul


Ma`arif.

Kotler, P. & Armstrong, G. (2008) Principles of Marketing. 12th Edition. New


Jersey: Prentice Hall

Yusuf Ali, A. (1412/1991). The Meaning of the Holy Qur'an. Brentwood, MD: Amana
Corporation.

Al-Zuhayl, W. (1418H/1997). Al-Fiqh Al-Islam wa Adillatuh. Damascus: Dar Al-Fikr.


Fourth revised edition.

Abu Abdullah Muhammad b. Isma‟il (1430 H/2009). Al-Adab Al-Mufrad. 2nd Edition
Leicester: UK Islamic Academy.

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