Riba Free Mode of Financing

Participation between

Money and Ability
Islamic Finance International Conference Islamic Finance IFC 2012
Organized by

27TH & 28TH DECEMBER 2012 Marrakech- Morocco
07/01/13 Yousuf Ibnul Hasan IQRA University Pakistan 1

Commenda - Qarad – Modaraba
Three names for an ancient background of an economic activities classified as business activities under a contract of

Money and Ability
The owner of money,

Rab-Al-Maal (Financier)
The worker is called

Modarib (Entrepreneur)
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It is a pre-Islamic word from Italy

This word generally found in Imam Malik s & Imam Shafei s Schools of Thought.

It is of Iraqi origin and found mostly in Imam Abu Hanifa s  and Imam Ibn Hambal s Schools of Thought.
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Fuqaha define Modaraba
Partnership contract between persons to person, organizations to person or Organization with organization in which ONE brings the Capital, the other shares his Time Skill, Experience & Goodwill in the respective business field for a specified project or transaction. On the maturity, profit is divided according to the agreement, which will either be equal or Pre Agreed Ratio of Net Earned Profit. In the loss Financier looses Capital Investment & Modarib loses Time, Efforts & Reputation
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Historical Perspective
The history of Modaraba reveals that the business under the concept of Commenda was in practice in the medieval period before the rise of Islam. It emerged from Italian City Rome , Rome was the center for Art, Culture, trade & Business in the European Christian world. Archives indicate that it was an idea of the Church as alternate to the Loan on Interest
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Christian traders explore the Arab world, they chose Capital of Iraq, Baghdad for business as Baghdad was the center of Trade, Education & Culture. Business community in Iraq acknowledged Commenda as business practice on its mechanism. Later Scholars & Jurists polish the system in the Iraqi business practices by bringing it into legal frame work. In Iraq Commenda change to Qarad
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Through Iraqi caravans Qarad entered in Arab & Persian world & eventually Qarad penetrated to the locations where Islam reached, either through traders or by Muslim conquerors. Credit goes to Islam in the developing a proper shape to the concept of Qarad and named it as Modaraba. Islam put restrictions to all Riba involvement in Modaraba Transactions and develop it on the pattern of Ability Financing .
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Sunnah and Ijma.
Prophet Mohammad (Peace Be Upon Him) left on a trading trip to Syria & used Modaraba method Which was financed by Hazrat Al Khatija on preagreed Terms and Conditions similar to Modaraba. Hazrat Al Khadija is recognized as Entrepreneur & Financier who use to finance business transactions before she married to Prophet Mohammad (Peace Be Upon Him). Therefore,

Modaraba is treated as Sunnah
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Permission and Restrictions
Modaraba on the basis of fixed return or wages Is not allowed. reason is the unknown salary for an unknown activity. Al KASSANI says Modaraba becomes invalid if it is on the basis of Wages as it involves an unknown salary for an unknown amount of work. Wage is only allowed in accordance with the teachings of the Holy Quran, Sunnah and the Ijma against human effort as in employment.. Ibne Taymiya & Ibne Ghazi agree to Al Kassani explanation
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Rab-al-Maal (the financier) does not have to take an active part in the daily operations as in the case of employment In case of loss the Modarib is not entitled of an fee, commission or profit and lose his efforts, time and reputation. Rab-al-Maal has the right to investigate the cause of loss. In any negligence, misappropriation or a purposeful mistake by the Modarib, financier can claim the Principle Financing.


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Investigating the cause of loss in Modaraba transaction is permitted and Modarib is bound to provide the justification to the satisfaction of Rab-al-Maal on the loss. Dispute over the causes of a loss or in any case, the jurists permit the arbitration clause in the agreement. Arbitrator should be man of wisdom and accepted by Rab-al-Maal and Modarib.


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Money in Modaraba
Only money in shape of Dirham, Dinars, Rupees, Dollars or any other currency is used as a medium of exchange in the Modaraba mode. Commodity in exchange of another commodity (i.e. barter trade) is not permissible. On the other hand, Modaraba contract cannot be established with just anybody. Experience, knowledge and skill of related business in process are an essential condition of the contract.
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Return on financing with a condition of profit & loss sharing is the legitimate and allowed by Shariah. Paper Currency is the most suitable Capital form of Modaraba and not the coin because it establishes value that is easily traded and the commodity s market value infrequently changed Currency should be the currency of location of Modaraba carrying out.
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Commodity should not be exchanged with another of the same quality and the same quantity, it has to be bought through currency that acts as a medium of exchange. Islam does not consider money as commodity. Prophet Muhammad (Peace Be Upon Him) restricted Modaraba capital with useable or consumable product or commodity including restriction to Barter System of exchange.
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Capital in other valuables, consumables or useable material is restricted due to the involvement of material in value which is a fluctuate. Capital of Modaraba should be deposited in cash with the Modarib in full trust and confidence till the maturity of the Modaraba. Receiving Capital in physical possession by Modarib confirm the value date of contract.
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Return of Capital not be delayed beyond Maturity f the contract purposely for making more money. Capital not to be Roll-over or extended for further period under same agreement. Delay or roll over in returning capital on maturity means Modarib mighty be in a monetary constraint and wish to keep money for longer period. Modaraba agreement first to be end at maturity and then fresh agreement to be executed either with same terms or additional terms mutually agreed upon.
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Liabilities cannot be the capital of Modaraba. It should be clear prior to execution of Modaraba contract that all parties are clear from any liabilities Quality and quantity should be of known and agreed between the two parities in contract. It mean type of Modaraba, Purpose and Value should be pre agreed. Ignorance to any term of the contract lead to differences and disputes.
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Profit Sharing should be shared at the maturity of the Transaction and part payment of profit is restricted. Part payments of profits might exceed the share of any one of the two partners who might devour all the profit.

Modaraba only achieved on the basis justice and trust among the partners. Both partners have to use all the means to appraise each. It is not justice as well as permitted that all profit goes to one and other suffers.
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Cash Participation is the capital of Modaraba and Remain with Modarib in trust. In Modaraba, profit and loss is the end of contract and profit and loss sharing is the key Modaraba develop high value of human factors in terms of its viability, integrity, reputation, ability, experience and knowledge in the related line of Trade which no other economic system offer such a magnificent role of men in economic affairs.
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The essential conditions of Modaraba mode of financing
Differentiating Modaraba financing and Loan on interest, in the normal bank lending transaction, money is given to borrower against guaranteed return of principle with excess amount on the principle remain pre-fixed and without change. Collateral of various nature is the cover against the loan that ultimately liquidated in case of loss by lender.
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Capital has to be surrendered to Modarib who is free to utilize it in business mutually agreed between Modarib and Rab-al-Maal. According to Imam Ibn Hambal, this condition satisfies the Modarib for his free actions in regard to Capital utilization and can take better way to earn best. Rab-al-Maal can assist the Modarib on the request but cannot dictate the terms prior to the maturity of the agreement
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Rab-al-Maal interference in the working disrupts the connection between Capital and Modarib. But The cooperation of Rab-al-Maal is accepted. Modarib is entitle for Modaraba Management Fee out of Gross profit and not from the capital of Modaraba. Modarib fee must be pre- agreed and term have to incorporated in the agreement. Rab-al-Maal cannot impose the amount of percentage for his or her profit or Modarib s Management Fee.


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Ignorance and bias distribution the share of profit invalidates the Modaraba. Net Profit has to be shared in agreed Ratio after deduction of pre-agreed Cost & Expenses including Modarib management fee. Capital Assets shall be the right of Modaraba and shall be shared between Rab-al-Maal and Modarib after Capital satisfied to Rab-al-Maal. Modarib has no right for any share or fee as Rab-al-Maal cannot claim his capital in case of loss.
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Modaraba can be classified as, General purpose and Specific purpose. General Purpose Modaraba is not restricted to activity, partner and place and mostly used between Modarib and Rab-al-Maal in which Rab-al-Maal empowers, Modarib to act, invest or activate capital for earning profit. Specific Modaraba is limited by one or several aforementioned restrictions. Modaraba can be restricted to certain conditions and has to commit for the non-compliance.
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Classes of Modaraba

Multiple Modaraba
One Rab-al-Maal finance several Modarib at one time with different terms & conditions of contract. Several Rab-al-Maal finance to one Modarib as group by Capital in Equity under Single agreement between Modarib and Rab-al-Mall either in group or by proxy to single person in representation. One Rab-al-Maal finance to several Modarib and Each Modarib using the financing amount investing in several transaction for specified period under Single agreement. .
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Modarib in person keep single agreement at one time . Modarib cannot enter into multiple agreement at one time as not is not permitted due to favor and interest in any one for more benefits. Affairs of Modaraba must agreed in witting proper record, supported in documents proof of operation in is the responsibility of Modarib


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Modarib invest Capital by self or by making similar contract with other person, institute or organization without the permission of Rab-alMaal but keeping him in confidence. Modarib status could be change to Rab-alMaal and Rab-al-Maal could be Modarib too with the condition of contract and agreement in transaction.


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Banking & Financial Institutes
Banks can finance funds from their deposits on under Modaraba in which Banks can be Modarib for their Depositors & Rab-al-Maal to Modarib seeking financing In two separate contract. The first contract with the Depositor as Modarib and second contract with Modarib eligible to be financed. The contracts can have different terms and different profit sharing. Both the contract should be matured on the pre agreed date and bank cannot pay-off without realizing the profit of its financing or from own source.
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Banks can specify the purpose of Modaraba to safeguard depositor s capital. Bank can enter into a General Purpose Modaraba. But in case of being a Rab-al-Maal it only enters into Specific Modaraba Contract. Banks are not permitted to ask for guarantee Against the loss of capital, but participate in the transaction as partner by holding the assets of Transaction excluding Capital. Modaraba in consolidation with other mode of financing is permitted like Modaraba into Ijarah, Morabaha, Havania, Musaqa or Mussaja.
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Modaraba Financing is an ideal way to finance Project Financing Working Capital Bridge Financing FIM: Finance against Imported Merchandise FIM BMR: (Balancing Modernization & Replacement) LMM: (Local Machine Manufacturing) SME & E: Small Medium Entrepreneur & Enterprise


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Risk Factor
Modaraba is Small & Medium term financing having Risk factor appraise on Medium & High Level. Modarib Risk is higher then Rab-al-Maal due to the Involvement of Time, Efforts, Experience &Reputation which never recover as money can be recover if loss is reported. Financing is made in absolute trust on skills, experience, reputation, capability and feasibility of Modaraba transaction or project. Modaraba agreement is made only to the transaction purely based free from all the classifications and categories of the Riba.
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A profit-sharing agreement between two parties, in which one provides the finance, and the other provides entrepreneurial and management skills. n  Profits are divided on a pre-determined ratio. n  Losses are borne by the provider of capital and Modarib loose its reputation, time and efforts.


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Morabaha Financing to Modarib for furniture order to Value 1,000,000 at Management Fee 10% of Gross profit and Profit Sharing at Ratio 40:60. Expected Sale 1,200,000.

Financing Amount 1,000,000 Sales Proceeds (1,200,000) Gross Profit 200,000 Management Fee 10% (20,000) Net Profit 180,000 Modarib Profit Share 40 72,000 Rab-al-Maal Profit 60 108,000 Modarib Earning 20,000 + 72,000 = 92,000 46% of Gross Profit

Rab-al Maal Profit 108,000

54% of Gross Profit

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Thank You You are welcome for Question related to the topic
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