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CIFP Part 2

Shariah issues in Islamic finance 

Shariah issues in Islamic financing 

Dr. Ahcene Lahsasna INCEIF, Kuala Lumpur


The SAC, at its 5th meeting on 29 January 1997, passed a resolution that bai` `inah is a principle that is permissible in the Islamic capital market in Malaysia. Bai `inah Bai` inah refers to trading whereby the seller sells his assets to the buyer at an agreed selling price to be paid by the buyer at a later a a e da date. e After that, the buyer immediately sells back the assets to the seller at a cash price, lower than the agreed selling price. The majority of Islamic jurists state that there are three forms of trading categorised as bai` `inah, whereby it can be concluded that all the assets sold come from the financier.

Cont.  The financier will sell a product to the buyer at an agreed price to be paid later later. The financier then immediately y buys y back the asset at a cash price lower than the deferred selling price .

00 .00 Buying & selling back the same item Discount RM 2 d f deferred d payment t Buyer Seller RM 85.00 100 000 00 Received RM 85.00 Cash Seller buyer RM transaction Sale 1 RM 100.

Forms of bai` `inah Forms of bai` `inah are as follows: • The seller sells a product to the buyer at a higher price on a deferred payment basis. . the seller sells a p product that is • A third p delivered later on for. • The third party then resells it to the first party (original owner) for RM100. the buyer then sells it to a third party for a lower price. say RM200. say RM100. • After delivery to the buyer. . the seller buys back the product in cash at a much lower price price. • After delivering it to the buyer. RM100 • This means the original owner obtained RM100 from the trade. party y is involved.

RM70 ” • This is to enable the buyer to sell it for RM70 at the market. • The creditor refuses to lend using the qardh principle. the trade is transacted. • When the buyer agrees. • Instead he says: “I am not giving you qardh (loan) but I will sell you this shirt by deferred payment for RM100 although the market price is RM70. • What happens is the shirt owner makes a profit of RM30 from the transaction because the buyer will pay him a deferred payment of RM100.Cont.  • A man wants to borrow. . say RM100.

The Hanafi Th H fi Mazhab M h b was of f the th opinion i i th that t bai` b i` `i `inah h was permissible only if it involves a third party. The following were their views: The majority were of the opinion that bai` `inah was not permissible because it was the zari’ah ( p (way) y) or hilah ( (legal g excuse) to legitimise riba (usury).ARGUMENTS ON THE PERMISSIBILITY OF BAI` INAH Opinions of Past Islamic Jurists Past Islamic jurists had differing views on determining the h k on bai` hukm b i` `i `inah h. . which acts as an intermediary between the seller (creditor) and buyer (debtor) (debtor).

w s a w in which he warned that those who practised bai` `inah would suffer scorn .  The Maliki and Hanbali Mazhab.Cont. in this case. They also held to the hadith of the Prophet s. The basis for the opinion of the majority of the Islamic jurists was the hadith dialogue between Aishah and Zaid bin alA Arqam which hi h showed h d th the prohibition hibiti of f bai` b i` `i `inah h.a. Their opinion was based on the principle of sadd zari’ah that aims to prevent practices that can lead to forbidden acts such as. rejected bai` `inah and considered it invalid. riba. on the other hand.

They criticised the hadith used by the majority of the Islamic jurists as the basis for their argument.w.  The Syafi`i and Zahiri Mazhab viewed bai` `inah as permissible. the SAC decided to accept the opinions of the Syafi Syafi`i i and Zahiri Mazhab in permitting bai bai` `inah inah.t. A contract was valued by what is disclosed and one’s niyyah (intention) was up to Allah s. . saying that it (the hadith) was weak and therefore could not be used as the basis for the hukm. From the study done on the opinions of past Islamic jurists on the issue of bai` `inah. to judge.Cont.

.  Therefore.Cont. it can be developed into a product for the Islamic capital p market in Malaysia. this method allows them to liquidate q without losing g the asset. y When institutions or individuals are in need of capital for a specific f purpose they can utilise this method of f payment. As they still need the assets. using their assets as mortgage.

as long as all the pillars and conditions of the contract are complied with. bai` `inah concept is accepted to be practiced in Malaysia to ensure that Islamic finance is as competitives as its conventional counterpart. Based on this opinion. . bond issuance. debt securitization and credit card facility.  Background Bai` `Inah concept is used in Malaysia Islamic banking system and capital market to facilitate the needs of market players when Islamic financial industry was first pioneered in the country.Cont. Among others. this concept is applied in money market transaction transaction. Even though the majority of Shariah scholars disallow this concept some of them are of the opinion that it is acceptable concept.

  • Th The d deffered ff d price i  of f X is i  higher hi h  than h  the h  cash h price i  of f Y. Y  h hence he h   difference is regearded as profit to the financier. market  In this transaction.  • Issue • Bai` Inah Transaction in the Money Market • Bai` `inah transaction is perceived as a suitable contract to be  introduced in Islamic Inter‐bank money market. t   • Then. recipient bank will sell back the asset to the financier on  cash basis at Y price. transaction   Shariah‐compliant asset (for example Government Investment  Issues) will be sold by a financier (for example central bank) to the  recipient i i t bank b k at t X price i  on deffered d ff d terms.Cont.  p y • Both sale contracts are executed separately. • The question is whether the application of bai` `inah a s explained  above b  is i  complies li  with ith th the concept t of f bai` b i` `inah `i h which hi h is i  acceptable in Shariah. .

  • Resolution • The Council in its 8th meeting held on 12th December 1998/ 23  Syaaban 1419 resolved that bai` `inah transaction in the Islamic  Inter‐Bank Money Market is permissible based the following  conditions: • (i) Bai` `Inah transaction must follow the mechanism which is  accepted by Syafii school.and • (ii) The transacted good is not a ribawi item. .Cont.

  • The selling price of the asset is lower than the purchase price. 800 (RM10. 800) to be paid within  one year by the customer. • (ii) The customer thereafter will sell back the asset to the bank on  cash basis (at cost value). RM11. 000 + RM1.Cont.  • Islamic Credit Card Based on Bai Bai` `Inah Inah • Islamic banking institution proposed to offer Islamic credit card  based on the combination of bai` `inah and wadiah concepts.  • for example.  • This is the amount which will be credited into a marginal wadiah  account of the bank for customer’s customer s use. RM10. use . • The proposed mechanism is as follows: • (i) The customer purchases an asset from the bank on deferred  terms ( the purchase price comprise cost plus profit).  • for example.000.

• Resolution • The Council in its 18th meeting held on 12th April 2001/ 22  Muharram 1422 resolved that the mechanism of Islamic credit  card which applies bai` `inah concept to generate funds for credit  purposes by a customer who requests for the Islamic credit card is  permissible. .  • The above mechanism of Islamic credit card was proposed to the  Council for deliberation to determine whether it is in compliance  with Shariah.Cont.

.  • Revisiting the Rulings on Bai Bai` `Inah Inah • The Regional Shariah Dialogue which was held on 28th and 29th  June 2006 aims at harmonising and promoting understanding  amongst the h  Shariah Sh i h scholars h l  who h  are i involved l d  i in Islamic l i  fi finance.  • The dialogue had specifically focused on finding the best solution  to resolve the issue of the use of bai` `inah and tawarruq in Islamic  financial system.Cont.  • The Council and the participating Shariah scholar had taken a  comprehensive p  approach pp  with regard g  to bai` `inah a n d tawarruq q  transactions.

 the market players are required to strengthen and  enhance the operational process and documentation to comply  with the features of bai` `inah as permitted. • (ii) The basis relied upon to justify the permissibility of tawarruq is  justify y the p permissibility y of bai` `inah.  • However. both concepts shall be ruled similarly. • ( (iii) ) Bai` ` `inah ` h concept is still ll necessary in the h  context l local l Islamic l   finance development.Cont.  • Resolution • The Council in the Regional Shariah Scholars Dialogue on 29th  June 2006 or 3 • Jamadil dil Akhir khi  1427 resolved l d that: h • (i) The permissibility of bai bai` `inah inah and tawarruq is still a matter of  juristic disagreement among the Shariah scholars backed by their  own basis of justifications.  similar with the basis to j • Therefore. and .

  • (iv) Since ba ba` `inah inah concept is still regarded as a matter of juristic  disagreement among the Shariah scholars. . it is more desirable that  Islamic financial institutions to limit its use in products which face  difficulty in structuring them based on other consensually  accepted contracts.Cont.


for the purpose of obtaining cash.Tawarruq The Islamic Fiqh Academy of Jeddah has described tawarruq as the purchase of a commodity that is in the ownership and possession of the seller against a deferred price. . that is. wariq. The Encyclopedia of Islamic Law published by the Ministry of Awqaf of Kuwait defines tawarruq as purchasing a commodity on credit and selling it to a person other than the initial seller for a lower price on cash. and its subsequent sale by the purchaser to a party other than the seller on cash.

to a third party. he sells it on cash basis at a price lower than the purchase p p price to the seller himself.Difference between Tawarruq and Inah Tawarruq Tawarruq q: • indicates an instance where a person who needs liquidity q yp purchases an asset from someone on credit. • this transaction has been termed inah because the particular asset purchased (ayn in Arabic) had found its way back to the original seller. • thereafter sells it. hibit d . • Thereafter. • the structure does not give a ready d i indication di i of f a hilah hil h adopted solely for circumventing riba. on the basis of which they ruled the transaction prohibited. • this fact strongly indicates that the asset had been utilised merely as a hilah for earning riba. Inah Hinah: • in inah one who requires liquidity purchases an asset from a seller on credit. that is. Si Since th the asset t in i this thi case does not return to the original vendor and it is sold to a third party party. usually for a lower price. to a person other than the original seller.

00 100 000 00 Received RM 85.000.00 Tawarruq transaction 3 N New b buyer Buyer takes Possession RM 85.00 Cash Seller buyer RM 100.000.00 Buying & selling back the same item Discount RM 15.00 Cash transaction .000.000.Inah transaction Sale 1 RM 100.000.00 2 d f deferred d payment t Buyer Seller RM 85.000.

. = Getting cash and be in debt 3rd Sale The second transaction is done the bank will hand over the cash to the client.Supplier of the commodity to the bank 1st Sale Process of tawarruq q Bank 1st Sale to the bank The commodity (not of gold or silver) Bank sales the commodity to the client on the basis of murabahah. (deferred payment) + 2nd Sales to the client Possession The client takes a possession of the commodity 2nd Sale + Possession + Agency Agency g y + 3nd Sale cash The client will appoint the bank as his agent (intermediate) to sell the commodity to a new purchaser on a cash basis for a lower price.

000.00 Supplier .000.000.00 Discount C Commodity dit sold ld at t RM 85. (deferred payment) RM 85. or he do it him self New buyer Agency agreement is an option deferred payment RM 100.000.00 85 000 00 cash h The cash is credited to buyer’s account The sales is s base on ca ash 1 Client Buy a commodity from the supplier on the murabahah.Tawarruq Fiqhi Process RM 15.00 The commodity (not of gold or silver) 3 Buyer takes Possession Buyer appoint the supplier as agent to sale the goods Or other party.000.00 100 000 00 2 Debt RM 100.

00 85 000 00 4 1 Client New buyer The commodity (not of gold or silver) RM 85.Regulated Tawarruq Process The cash is credit to account of the client Buy a commodity from the bank on the basis of murabahah.00 Bank sale the goods to the third party 2 RM 15. or he do it him self deferred payment RM 100.000.00 RM 100. b h h (deferred payment) RM Discount Commodity cash Supplier 3 .000.00 Bank Discount 15.00 Buyer takes Possession Buyer appoint the bank as g to sale the goods g agent The sales is base on cash Cash Or other party.

                        p physically y y after each contract Thus.REGULATED TAWARRUQ. FIQHI TAWARRUQ  • • • • • REGULATED TAWARRUQ FIQHI TAWARRUQ Four‐party arrangement (normally) Tripartite arrangement Involves unilateral promise to purchase           Involves no promise to Purchase Involves no promise to purchase                      Involves only two basic sales by the client (mutawarriq)                                   Involves signing of an overall agreement /        No signing of such an agreement memorandum of understanding of  the procedure to be followed Involves the client appointing the bank as        The  client will sell the his agent to carry out the second basic             commodity on his own  tawarruq sale Transfer of p possession is only y limited to            Seems to have envisaged g signing of the contracts of sale that                   giving rise to complete  include clauses on transfer of rights and           transfer of possession liabilities p pertaining g to the items. transfer of possession throughout            the procedure is only held to materialise  constructively • • .

the whole liability of the ownership rests totally with him. Regulated tawarruq offered and carried out by some Islamic banks strongly g y indicates a willing g cooperation p aimed at supplying cash against a higher credit obligation.Why contemporary scholars condemn tawarruq q munazzam The client is found to do little other than expressing the amount of cash required by him. The objective only happens to be obtaining cash from the bank against undertaking a debt to be settled in instalments. all these aspects do not happen properly in a regulated tawarruq. The possibility of a subsequent sale to fulfil his needs for cash is also not assured. Fiqhi tawarruq comprises the genuine purchase of a commodity at a credit price resulting in the ownership of the purchaser to the asset and this is demonstrated by al-qabd (taking possession) that has taken place properly. As such. . the strong resemblance borne by tawarruq to a hilah for attainment of riba appears prominent.

 the proposed characteristic is  that the securities must be endorsed as Shariah compliant.  • The issue here is whether the use of financial asset like sukuk and  securities instead of commodity in tawarruq transaction is  permissible in Shariah.  • The proposed characteristics of ijarah sukuk include ijarah sukuk  which is backed by tangible asset.Ijarah Sukuk and Shariah Compliant Securities as  Underlying Asset in Tawarruq Transaction • There is a proposal to use ijarah sukuk and Shariah‐compliant  securities as underlying asset in tawarruq transaction or  murabahah to manage liquidity in Islamic financial system.  • For Shariah‐compliant securities. financial asset and a ombination  of both tangible asset and financial asset. .

  • Resolution g held on 27th April p  2006/ / 28th  • The Council in its 58th meeting Rabiul Awal 1427 resolved that the use of ijarah sukuk a n d  Shariah‐compliant securities as underlying asset in tawarruq o r  murabahah b h h to manage liquidity l d  in Islamic l  financial f l system is  permissible. .Cont.  • However. such ijarah sukuk must be backed by tangible asset and  not financial asset asset.


. and concluded that bai` ma`dum is permissible.BAI` MA`DUM • The SAC discussed the bai` ma`dum issue in a series of meetings in  1995 and 1997 in relation to warrants and futures contracts on  crude palm oil.  one of the conditions is that the mahal al‐`aqd or ma`qud alaih  (objects in trade) to be traded must exist when the contract is  being made. made • Purchase of an object that does not exist when the contract is  being made is considered bai` ma`dum. • INTRODUCTION • According to the theory of contracts in the Islamic jurisprudence.

  • It is necessary to look for the `illah (reason) for the prohibition of  bai` ma`dum in a vast majority of past Islamic jurisprudence  lit t  t literature to ensure that th t no error i is made d  when h  applying l i  the th   prohibition rule in many modern business transactions .ARGUMENTS ON BAI` MA`DUM • The bai` ma`dum issue was discussed by past Islamic jurists when  they were debating on the condition of an object in a contract of  sale.

p p • The Maliki Mazhab echoed the opinion of the Hanafi and Syafi`i  Mazhab regarding mu`awadhat maliyah (exchange contract).a.  • This h  was based b d on the h  prohibition hb  by b  the h  Prophet h  s.  while for the tabarru`at (ownership contract on voluntary basis)  such as hibah. on the h  sale l   of an unborn baby camel and a sale of a non‐existing object.w. ijarah. musaqah and  istisna` contracts based on the istihsan principle.Opinions of Past Islamic Jurists • The Hanafi and Syafi`i Syafi i Mazhab pronounced that the object of sale  must be in existence at the time the contract is made. . exemption was made to the salam. they did not impose any condition for an existing  object. Otherwise. What was important was that it was expected to exist in  the future.  • However.  the contract will be deemed invalid because anything that is  ma`dum cannot be owned.

  bai`  • Ibnu Taimiyah and Ibnu Al‐Qayyim analysed the question of bai ma`dum and concluded a sale was forbidden not because of  ma`dum during the contract making. which is forbidden by Shariah Shariah. on the other hand. which hi h is i  a forbidden f bidd  element. did not stipulate this  condition. but rather because of the  existence it  of f gharar h .  • The Hanbali Mazhab. • What was important was that a contract did not contain elements  of gharar. l t  • This was based on two arguments .Cont.

• The prohibition was also for goods that are available but simply  did not exist at the point of trade.  • Gharar means the inability to deliver the goods sold regardless of  whether they exist or not.  . the Sunnah nor the Prophet’s companions  stated that bai` ma`dum was not permissible. however.  • Neither the Quran.  • There was. trade   • This showed that the p prohibition was due to the existence of the  gharar element in the trade. a hadith prohibiting the sale of certain goods  with features that did not exist.Cont.

Cont. despite the fact that it is his obligation to do so once the  sale and purchase agreement is completed.  • An example is the sale of a runaway slave or an animal that ran  loose.  • Although the goods exist. the seller is not able to deliver them to  the buyer buyer.  • This failure to fulfil his obligation implies the presence of the  forbidden element of gharar. and .

• The salam. . which are about to  mature.  • This is considered bai` ma`dum because the buyer cannot take  delivery of the goods and has to wait until the fruits or grains  mature. istisna`.  • An example is the sale of fruits and grains.Cont.  • There are specific situations where bai bai` ma ma`dum dum is permissible by  Syara’ and considered valid. and ijarah contracts are other examples of bai`  ma`dum which are permissible based on the principle of istihsan. • All these examples show that selling something that has not yet  existed or is not yet in the seller’s seller s possession at the point of the  sale is not forbidden merely because of its ma`dum nature.

Thank you  39 .