IJARAH

INTRODUCTION

„Lexically it means to provide something on rent.

„Technicallyit is a contract to give usufruct in

consideration for a rent
 Two kinds of Ijara
A: contract to get services of human capital
(employment)
B: contract to get usufruct of asset(s)
The word ‘leasing’ can be used for usufruct
of asset(s) only. However in English
language the word ‘Hiring’ is commonly
used for both kinds.
 Few Conventional terminologies

1) Hire purchase:
A sale where buyer starts using the asset
with initial payment of installment
(deposit). After he makes the payment of
complete price, obtains the title of the
subject matter. It (transaction) is neither a
sale nor Ijara. Furthermore it is not
legitimate in Shariah.
 Few Conventional terminologies

2) Finance Lease:
It is a lease where lessee enjoys all financial
benefits of the leased asset and bears all
related financial risks. He becomes sole
owner of the asset at the expiry of lease
period.
 Few Conventional terminologies
Finance Lease

Note:
These two kinds are slightly different. In ‘Hire
Purchase’, some times title belongs to the owner
only (seller) and some times the asset is
combined property of the two parties. On the
other hand, in finance lease the title belongs only
to the Lessor. But in either case the lessee/hirer
bears all the financial risks related to the asset.
 Few Conventional terminologies

3) Operating Lease:
A lease where an asset is leased for a period less
than its ‘Useful Economic Life’. All rights and
responsibilities of ownership are vested in the
original owner (lessor). The asset is returned to
the owner on expiry of the leasing period.
This is a true lease and allowed in Shariah
(provided that all the related conditions are met)
 Ijara Wal Iqtina’ / Ijara Muntahee Bittamleek
(Alternative to financial lease)

We can substitute conventional finance lease

with Ijara Wal Iqtina (A Shariah compliant form
of conventional finance lease).
 Ijara Wal Iqtina’ / Ijara Muntahee Bittamleek (Alternative to financial lease)

This arrangement basically comprises of two

separate contracts:
1) Leasing
2) Sale (transfer of ownership)
At first step a contract of lease is executed and
after expiry of lease, a sale agreement takes
place.
 Features of the Ijara Wal Iqtina:

1. Lessor owns the leased asset

2. Lessor takes full responsibility of

ownership (Risks related to ownership)

3. Lessee possesses the leased asset for a

certain period
 Features of the Ijara Wal Iqtina:

4. Lessee enjoys the financial benefits

and bears all risks related to usage in
consideration of a periodic rent
5. At the expiry of lease period lessee
shall purchase the asset (with
execution of separate document)
 BASIC PRINCIPLES OF
IJARA
Subject Matter:
¾ The subject matter of lease should have a
valuable and lawful use
¾The corpus of the leased asset should
exist till the expiry of lease period
¾The corpus of the leased asset should
remain in the ownership of the lessor
during the whole period of lease
 BASIC PRINCIPLES OF
IJARA
¾The lessor must accept responsibility of any defect
in leased asset which hinders the intended use of
asset

¾Leased asset should be identified

 Rent
9 Rent may be in cash or in kind (goods) or
benefit (services)

9 Rent should be specified

9 The rent is obligatory by the contract and

not due until the lessee takes possession
of the asset
 Rent
9 It is permissible to decide different
rentals for different periods
9 Rent can either be fixed or variable
9 Rent cannot be increased or decreased
without mutual consent
9 Rent can either be fixed or variable
 Rent
9 For a floating rental, it is necessary to be
specified for the first period and to be
subject to a certain benchmark for
subsequent period. Such benchmark
should be based on a clear formula and
has a ceiling and floor
 Rent
9 A part of rent can be received in advance
9 It may be agreed that the rental should
consist of two specified: one to be paid to
the lessor and the other to be held by the
lessee to cover any expenses or cost (e.g.
major maintenance, insurance, etc)
 Period of lease
{ Period should be specified in clear term(s)

{ Agreement of lease will be effective with

the delivery of the asset and not with execution
on paper only
 Termination
•No partner has the right to terminate the lease
agreement prior to the maturity without
mutual consent. However the contract expires
with the total destruction of leased asset or
hindrance in intended use
• It may stipulated in the contract that the Ijara
be terminated if the lessee does not pay the
rent or fails to pay on time.
 Termination
•An Ijara contract does not terminate with
the death of either partner

•The lease may remain operative even after

the expiry for a good cause (e.g. late
harvesting period). The lease then continues
with the rental based on prevailing market
value
 Guarantees
→ All kinds of securities may be taken to
secure the rental payment or as the
security against misuse or negligence.

→ It may stipulated that all remaining

installments will be immediately payable if
the lessee fails to pay on time
 Guarantees

→ No increase in the rental due may

be stipulated in case delay in payment

→ In case of liquidation of security, the

lessor may be deduct only what is due
for previous periods, and not all
remaining installments
 Lease As a Mode of Finance
™ Originally it is not a mode of financing,
but simply a transaction meant to
transfer the usufruct
 Lease As a Mode of Finance
™ To use it as a mode of finance, it is
subject to some conditions
 Lease As a Mode of Finance
The bank owns the leased assets before leasing it
out:
1) In case where the bank makes the lessee its
agent to purchase the asset and take its
possession
i. The lease agreement can be
executed before the asset is acquired
 Lease As a Mode of Finance
ii. ii. Lease becomes effective when the
asset comes in lessee’s disposal
iii. iii. Ijara can be executed for a
described/specified asset, which is not
owned by lessor
 Lease As a Mode of Finance
2) Bank/agent takes possession and the lessee
starts using following terms and conditions
of the lease agreement, which is executed
before.
3) Profit (on the involved capital) and the cost
of insurance are built in rentals
 Lease As a Mode of Finance
4) Banks undertakes that it will sell the leased
asset to the lessee after the expiry of lease
period if lessee fulfills all the terms and
conditions. This undertaking is not a part of
lease agreement.

5) Bank sells the leased asset according to its

prior undertaking
 Status of advance rental
The part of rental, which is received by lessor in
advance, will be treated as Urboon (i.e. earnest
money). If the lessee cancels the Ijara contract,
the lessor reserves the right to retain the Urboon.
However, it is preferable for the lessor to wave
any amount in excess of the actual damage,
which is the difference between the rental
specified in the contract and the rental decided in
a new Ijara with another lessee.
 Delay in delivery of the asset
If the lessor fails to deliver the asset to the lessee
on the due date, no rental is due for the period
between the contract date and the date of actual
delivery, and the rental should be reduced
accordingly, unless it is agreed that the lease
period will be extended.
 Sale and lease back
It is permissible to lease an asset to a party that
sold the same asset to the bank, provided that the
Ijara transaction should not be stipulated as a
condition of the ‘purchase contact’ and the both
contracts are executed separately. However some
scholars don’t prefer this kind of lease and
restrict its use to only those clients who intend to
convert their borrowings in accordance to
Shariah.
 Difference between Conventional and
Islamic Lease

Commencement
→ A (Islamic) lease contract can be affected
for a future date, but lessor shall be
entitled for rent only when the asset is
delivered to the lessee, whereas
→ Conventional lease starts at the very day
when the institution makes payment to the
supplier
Different relations of parties in Islamic lease

→ In case when lessee himself purchases

the asset on behalf of lessor, there are
two relations of the parties:
1) ‘A’ (the lessor) empowers ‘B’ (the
lessee) to purchase on his behalf. This is
the relation of principle and agent
2) ‘B’ enters into a lease agreement and
takes possession of the asset, here
begins the relation of lessee and lessor.
Different relations of parties in Islamic lease

→ In conventional lease the only relation

between lessee and lessor is the relation of
debtor and creditor
 Expenses

→ In Islamic lease lessee bears all the

expenses related to the use of asset and
the lessor bears al the expenses related to
the ownership of the asset

→ In conventional lease, all financial risks

are bared by lessee
 Total loss event

→ In Islamic lease, the lessor is not covered

against the total loss event

→ In conventional lease the lessor is fully

covered against the event of total loss
 Insurance

→ In Islamic lease, insurance is the

responsibility of the lessor

→ In conventional lease, insurance is the

responsibility of lessee
 Late payment charges

→ In Islamic lease, lessor can recover late

payment charges an amount for charity

→ In conventional lease late payment charges

are constituted as part of income
 Transfer Of Ownership

→ In Islamic lease, the ownership is

transferred to the lessee through a separate
agreement of sale.

→ In conventional lease it is transferred

automatically.
 Securitization of lease

It is the sale of valuable assets through the

unitization of these assets in to monetary
denominated participation certificates (Sukuk) of
equal low value, to be sold at issue price to the
investors (Sukuk holders) who will enjoy the
benefits (revenues) of mutual ownership in these
assets. These Sukuk can be traded in the
secondary market.
 Securitization of lease

These Sukuk are normally issued by a SPV

(Special Purpose Vehicle/ Modaraba). This SPV
works in dual capacity; issuing the certificates to
generate liquidity and managing the assets on
behalf of the Sukuk holders.
 Islamic lease – Areas of use

→ Project financing

→ Consumer financing

→ Liquidity management