Mudarabba

Introduction:

Islamic finance is a rapidly growing sector of the global financial industry. The principles and
practices of Islamic finance are based on Islamic law, also known as Shariah, which prohibits
interest-based transactions and promotes risk-sharing arrangements. One of the key concepts in
Islamic finance is mudarabba, which is a type of partnership between an investor and an
entrepreneur. This assignment aims to provide an overview of mudarabba, its principles, and its
applications in Islamic finance.

Principles of Mudarabba:

Mudarabba is a contract in which one party (the rab al-mal) provides capital to another party (the
mudarib) to undertake a business venture. The rab al-mal provides the capital and the mudarib
manages the business. The profits are shared between the two parties according to a pre-agreed
ratio, while the losses are borne by the rab al-mal. Mudarabba is based on the principle of risk-
sharing in Islamic finance. The mudarib is expected to act in good faith and to use the capital in a
manner that generates profits.

Applications of Mudarabba in Islamic Finance:

Mudarabba has several applications in Islamic finance, including the following:

1. Investment Funds: Investment funds that follow Islamic principles often use mudarabba
as a means of pooling investor funds to finance various projects. Investors provide the
capital and the fund managers act as mudaribs to manage the projects. The profits
generated from the projects are distributed among the investors and the fund managers
according to a pre-agreed ratio.

2. Venture Capital: Mudarabba is also commonly used in venture capital financing. Venture
capitalists provide the capital and entrepreneurs act as mudaribs to manage the business.
The profits generated from the business are shared between the venture capitalists and the
entrepreneurs according to a pre-agreed ratio.
3. Trade Financing: Mudarabba can also be used in trade financing. For example, an
importer can provide the capital and a local business can act as the mudarib to purchase
goods for export. The profits generated from the export sale are shared between the
importer and the local business according to a pre-agreed ratio.

4. Real Estate Development: Mudarabba can be used in real estate development projects.
The investors provide the capital and the developers act as mudaribs to manage the
project. The profits generated from the project are shared between the investors and the
developers according to a pre-agreed ratio.
Conclusion:

Mudarabba is a fundamental concept in Islamic finance that promotes risk-sharing and

entrepreneurship. It has several applications in various sectors of the economy, including
investment funds, venture capital, trade financing, and real estate development. The principles of
mudarabba emphasize the importance of good faith and responsibility in managing capital and
generating profits. As Islamic finance continues to grow, mudarabba will remain a key
component of Islamic financial transactions.

Musharaka
Definition
Musharaka is one of the two pure Islamic financing modes another of which includes
Mudaraba.

Atymology
The term Musharaka comes from the term “Shirkat” origin of which lies in the
term of “shirk”. ‘Shirk’ means partnership. In Musharaka there must be partners. So, it is a
partnership mode of financing. In our usual life we are using Musharaka widely but most of
the cases we do not know we are involved with this term.

Explanation
Musharaka is such a type of business technique which was in vogue before the advent of
Islam. The Arabs were exclusively used to using this type of financing. So, when Islam came,
this innocent method of business was adopted by Islam and certified by the norms of Islam.

Referencing from Quran

 “Verily many are the partners (in business) who wrong each other except those who
believe
and work deeds of righteousness and how few of them.....” (Al-Sad: 24)

Types of Musharaka:
There are two main types of Musharaka.
They are
I. Shirkat ul Melk &
II. Shirkat ul Aqd

(i) Shirkat ul Melk: Especially known as joint ownership, Shirkat ul Melk may come into
existence in two different ways.
  Shirkat ul Melk Bill Ekhtiar If two or more persons purchase an equipment then it will
jointly owned by them and such type of relationship will be called Shirkat ul Melk Bill
Ekhtiar.
 Shirkat is called Shirkat ul Melk Bill Jabar : If the joint ownership comes from any
automatic consequence that is after the death of a person his heirs will inherit his property
which comes into their joint ownership after the consequences of the death of that person.
This type of Shirkat is called Shirkat ul Melk Bill Jabar.

(ii) Shirkat ul Aqd: Especially known as partnership affected by a mutual contract actually
indicated joint commercial enterprises.
There are three types of Shirkat ul Aqd. They are
a. Shirkat ul Amwal
b. Shirkat ul Amal
c. Shirkat ul Wujooh

(a) Shirkat ul Amwal: When all the partners invest some capital into a commercial
enterprise.
There are two types of shirkat ul Amwal. They are-
I. Shirkat ul Inan
II. Shirkat ul Mufawada

(i) Shirkat ul Inan: When partners invest unequal parts of capital as well as provide
unequal effort and the profit distributed as per agreement or contract and the loss is distributed as
per capital provided by the partners.
(ii)Shirkat ul Mufawada: When partners invest equal parts of capital and both the profit
and loss are distribute equally then it is called Shirkat ul Mufawada.

(b) Shirkat ul Amal: When some partners who’s technically knowledgeable on the same
ground and undertake a business to provide services to the customers where charged for their
services are distributed as per agreement then it is called Shirkat ul Amal or Shirkat ul
Shanai.

(c) Shirkat ul Wujooh: When the partners have no investment but by using their credibility
they purchase the products on credit and sell then on cash then distribute the profit as per
agreement then it is called Shirkat ul Wujooh.

Examples
Real Estate Investment: Two parties can form a Musharaka to jointly invest in a real estate
project. The parties contribute capital according to an agreed-upon ratio, and profits are shared
accordingly. If the project incurs any losses, they will be shared in proportion to each party's
contribution.
Start-up Financing: In a Musharaka partnership, two or more parties can invest in a start-up
business. They agree on the ratio of investment and profits and losses, and work together to
manage the business. Profits are shared according to the agreed-upon ratio, and any losses
incurred are shared accordingly.

MURABAHA
Murabaha is one of the most common modes used by Islamic Banks. It refers to a sale where the
seller discloses the cost of the commodity and amount of profit charged. Therefore, Murabaha is
not a loan given on interest rather it is a sale of a commodity at profit.
The mechanism of Murabaha is that the bank purchases the commodity as per requisition of the
client and sells him on cost-plus-profit basis. Under this arrangement, the bank is bound to disclose
cost and profit margin to the client. Therefore, the bank, rather than advancing money to a
borrower, buys the goods from a third party and sells those goods to the customer on profit.
A question may be raised that selling goods on profit (under Murabaha) and charging interest on
the loan appears to be one of the same things and also produces the same results. The answer to
this query is that there is a clear difference between the mechanism/structure of the product. The
basic difference lies in the contract being used. Murabaha is a sale contract whereas the
conventional finance overdraft facility is an interest based lending agreement and transaction. In
case of Murabaha, the bank sells an asset and charges profit which is a trade activity declared halal
(valid) in the Islamic Shariah. Whereas giving loan and charging interest thereupon is pure interest-
based transaction declared haram (prohibited) by Islamic Shariah.

Example of Murabaha:

Bilal would like to buy a boat that sells for $100,000 from Billy's Boat Shop. To do so, Bilal
would contact a Murabaha bank, that would buy the boat from Billy's Boat Shop for $100,000
and sell it to Bilal for $109,000, to be paid in installments over a three-year period. The amount
Bilal pays is a fixed amount to a bank that owns the asset and there is no interest charge involved.
Also, if Bilal defaults on any payments, there are no additional charges that he would incur. The
additional amount Bilal pays over the cost price from the boat shop is in effect a 3% loan, but
because it is offered as a fixed payment without any additional costs, it is allowed by Islamic law.

Murabaha Used For In Islamic Banks

Murabaha is typically used to facilitate the short-term financing requirements of the customer. The
following are the uses of Murabaha:

“Purchase of raw material, goods, and merchandise of all kinds and descriptions, Purchase of
equipment, Import of goods and merchandise, Export financing (pre-shipment).”

Basic Rules Of A Valid Murabaha Transaction

  The subject matter of sale must exist at the time of the sale. Thus anything that may not
exist at the time of sale cannot be sold and its non-existence makes the contract void.
 The subject matter should be a property having value. Thus goods having no value cannot
be sold or purchased.
 The certainty of price is a necessary condition for the validity of the sale. If the price is
uncertain, the sale is void. The subject matter of sale should not be a thing used for an un-
Islamic purpose.

Ijarah
Definition:
Ijarah is an Arabic word it means “to give something on rent” or "providing services and
goods temporarily for a wage.

Ijarah denotes a contract where one party transfers the right to use an item he owns to another
party for a specified period in exchange for an agreed consideration.

Explanation:
Ijarah is an Islamic financing concept that involves leasing an asset or property to a lessee for an
agreed-upon period and price. The lessee pays rent to the lessor for the use of the asset during the
lease period. Ijarah is often used as an alternative to traditional interest-based financing, as it is
based on the principles of risk-sharing and avoiding interest. The lessor retains ownership of the
asset during the lease period, and the lessee may have the option to purchase the asset at a
predetermined price at the end of the lease. Ijarah can be used for a wide range of assets,
including real estate, equipment, and vehicles.

Ijarah in Quran and Hadith:

The legitimacy of the ijarah contract is derived from the Quran and founded on the Sunnah of
Prophet Muhammad (peace be upon him).

The following verse of the Quran implies the permissibility of the Ijarah contract:

And said one of them (the two women):” O my father! Hire him! Verily, the best men for you
to hire are strong and trustworthy. He said: I intend to wed one of these two daughters of
mine to you, on condition that you serve me for eight years, but if you complete ten years, it
will be (a favor) from you. But I intend not to place you under difficulty. If Allah will, you
will find me one of the righteous.” (64 Surah al-Qasas, verse 27)
The above verses describe the story of Prophet Musa (peace be upon him) being hired for a
certain period of time to undertake a specific task. The compensation for the task undertaken by
the Prophet is deemed as a payment for the outstanding dowry for his marriage.

The following hadith implies the general permissibility of ijarah:

Abdullah Ibn Umar narrated, the Prophet (peace be upon him) said: “Pay the hired worker his
wages before his sweat dries off” (65 Ibn Majah, Sunan Ibn Majah, hadith no. 2443. Al-
Bayhaqi, al-Sunan al-Kubra, hadith no. 11761)

Types of ijarah:
In Islamic law, the term ‘ijarah’ is used for two different situations. So, Ijarah can be categorized
into two different types. Its general types are based on subject matter and based on contractual
relationships. Under these two types, there are several types which are tangible asset, labor, and
description of asset under subject matter while operating lease and financial lease under a
contractual relationship.

1. Ijarah Al’Amal (hiring/employment):

Ijarah al-Amal refers to the type of contract in which someone hires or employs a person or
service on wages. The hired person provides his services in return for compensation. The
employees may be doctors, lawyers, teachers, or any other person who can render valuable
services.

Example:

A law firm may hire a lawyer on a contract basis to provide legal services for a specific period of
time. The lawyer would provide his or her services to the law firm in return for a set
compensation. The law firm would be responsible for providing the necessary resources and
facilities for the lawyer to carry out his or her work, such as office space, legal software, and
administrative support. At the end of the contract period, the contract may be renewed or
terminated, depending on the agreement between the lawyer and the law firm.

2. Ijarah Al-Ayn (Leasing an Asset):

It comprises all tangible assets. Ijarah al-Ayn is applied to the contract when the person leases his
property to someone in exchange for rent. It can be transport, factories, facilities, etc.

example:

Someone rents his car to another person and gets rent in exchange for the usufruct of the vehicle.
In this contract, the ownership of the property remains with the lease giver.
 Essentials of Ijarah

Responsibility of the Lessor:

 As the owner of the leased asset lessor bears and assumes the full risk of the corpus of the
leased asset. If the asset is destroyed during the lease period, the lessor will suffer the
loss.
 Similarly, if the leased asset under Ijarah finance, loses its usufruct without any misuse or
negligence on the part of the lessee, the lessor can not claim the rent.
 The lessor is liable to pay all the expenses incurred in the process of its purchase and its
import to the country of the lessor, for example, freight, customs duty, and clearing
charges.
 Taxes related to ownership and registration charges of the car will be borne by the lessor,
including agent fees if any.
 Insurance of leased assets is the responsibility of the lessor. But he can appoint the lessee
as an agent to arrange insurance on his behalf of him

Responsibility of the lessee:

 The Ijarah lessee is liable to compensate the lessor for every harm to the leased asset
caused by any misuse or negligence.
 Taxes related to the use of assets will be borne by the lessee.
 He is liable for the wear and tear which normally occurs during its use

Sukuk
Introduction to Sukuk
Sukuk, also known as Islamic bonds, are financial instruments that adhere to Islamic finance
principles. In essence, sukuk represent a share in the ownership of an asset, a project, or a business,
rather than a debt obligation. This makes sukuk compliant with Islamic finance principles, which
prohibit the payment or receipt of interest (riba). Sukuk are often used to fund large infrastructure
projects, real estate development, and other investments.

Structure and Types of Sukuk

Sukuk are structured in a way that allows investors to own a share in an underlying asset or project.
The underlying asset can be tangible or intangible, and the sukuk are structured based on a variety
of Islamic finance principles, including ijara (leasing), musharaka (partnership), and murabaha
(cost-plus sale), among others.

Ijara Sukuk
The most common types of sukuk is the ijara sukuk, which is based on the concept of leasing. In
an ijara sukuk, the issuer (usually a corporation or government) sells an asset to a special purpose
vehicle (SPV), which then issues the sukuk to investors. The investors effectively own a share in
the SPV, which owns the asset.

For example, government may issue an ijara sukuk to finance the construction of a new highway.
The government sells the highway to an SPV, which then issues the sukuk to investors. The
government then leases the highway back from the SPV for a period of, say, 25 years, during which
time it pays a rent to the SPV. The sukuk holders receive a return on their investment from this
rent. At the end of the lease period, the highway reverts back to the government.

Musharaka Sukuk
Another type of sukuk is the musharaka sukuk, which is based on the concept of partnership. In a
musharaka sukuk, the issuer and the investors form a partnership to undertake a specific project.
The profits and losses of the project are shared among the partners in proportion to their
investment.

For example, a corporation may issue a musharaka sukuk to finance the construction of a new
factory. The corporation forms a partnership with the sukuk holders, who contribute funds to the
project. The profits generated by the factory are shared among the partners in proportion to their
investment. If the project generates a loss, the partners share the losses in the same proportion.

Murabaha Sukuk
A third type of sukuk is the murabaha sukuk, which is based on the concept of cost-plus sale. In a
murabaha sukuk, the issuer buys an asset and then sells it to the sukuk holders at a higher price,
which includes a profit margin. The sukuk holders then resell the asset back to the issuer at a later
date at the original purchase price, without the profit margin. This allows the sukuk holders to earn
a return on their investment without violating the Islamic prohibition on interest.

For example, a corporation may issue a murabaha sukuk to finance the purchase of inventory. The
corporation buys the inventory and then sells it to the sukuk holders at a higher price, which
includes a profit margin. The sukuk holders then resell the inventory back to the corporation at a
later date at the original purchase price, without the profit margin. The sukuk holders earn a return
on their investment from the profit margin, without violating the Islamic prohibition on interest.

Conclusion
Sukuk represent an increasingly popular means of raising capital in the Islamic finance industry.
They offer a unique alternative to conventional bonds and provide investors with a range of
investment opportunities that are compliant with Islamic principles. Governments and corporations
have issued sukuk to finance various projects, including infrastructure, real estate, and short-term
investments. While sukuk have their advantages and disadvantages, they continue to be a
significant part of the Islamic finance industry.

Istisna
Istisna is a type of contract used in Islamic finance for the sale of a specified asset
that is yet to be manufactured or constructed. In an istisna contract, the seller
agrees to produce or manufacture a specific asset, such as a house, car, or
machinery, and deliver it to the buyer at a future date. The buyer agrees to pay the
seller the agreed price for the asset upon delivery.

Istisna contracts are commonly used in project finance, where the financing is used
to fund the construction or development of a specific project. In an istisna contract,
the financier agrees to provide the necessary funds to the manufacturer or producer
to finance the project. The manufacturer or producer agrees to deliver the
completed project to the financier at an agreed-upon future date, and the financier
agrees to pay the manufacturer or producer the agreed-upon price upon delivery.

The istisna contract differs from other Islamic financing contracts, such as
murabaha and ijara, in that it is used for the production or manufacturing of a
specific asset. The contract can be structured in such a way that the financier can
pay the manufacturer or producer in installments as the work progresses. The
contract can also be structured in such a way that the financier can have a security
interest in the asset being produced, providing additional protection for the
financier.

Conclusion
Istisna is a type of Islamic finance contract used for the manufacturing or
production of a specific asset. It is commonly used in project finance and can be
structured in a way that provides additional security for the financier.
 SALAM SALE (BAI’ AL SALAM)
BaiAl Salam, also known as Baisalaf or Baimafalisa is the purchaser of a commodity for
deferred delivery in exchange for immediate payment. It is a type of sale in which the price,
known as the Salam Capital, is paid at the time of contract while the delivery of the item to be
sold, known as AlMuslam Fihi (the subject matter of a Salam Contract), is deferred. The seller
and the buyer are known as Al Muslam Ilaihi and Al-Muslim or Rab al-salam, respectively.

A contract of Salam derives its legitimacy from the Quranic verse

In the Quran Allah says: “O you who believe! When you contract a debt for a fixed period, write
it down...” (02:282).

IMPORTANT PRINCIPLES OF SALAM: a. Contracting Parties:The parties who are

involved in a Salam contract are the seller (Muslam Ilaihe) and the purchaser (the Muslim). b.
The subject matter of Salam: The subject matter of Salam includes the object and the price.

i) Object: The object of a Salam contract can be goods that may be weighed, measured or
counted and not permitted to be an identified and specific thing like “this rice” or cannot be
stipulated as a produce of specific piece of land. The Salam object is also not permitted to be
any article which cannot be delineated in terms of their description like jewellery and antiques

ii) Price: The price for Salam goods can be in the form of goods such as wheat and other cereals,
or items of material value such as livestock.

APPLICATIONS OF SALAM IN ISLAMIC FINANCE:

• Working capital financing

• Financing for agriculture production

• Personal Finance

Bai' al-Mujjal
Bai' al-Mujjal is a contract of sale in Islamic finance where the seller agrees to sell
goods to the buyer on a deferred payment basis. It is a type of credit sale in which
the buyer agrees to pay the cost of the goods at a later date, typically in
instalments.

Under this contract, the seller acts as a financier and the buyer as a purchaser. The
seller buys the goods and sells them to the buyer at a higher price, which includes a
profit margin. The buyer pays the cost of the goods at a later date, usually in
instalments.

The Bai' al-Mujjal contract is commonly used in trade financing and is an

alternative to traditional borrowing and lending methods. It allows buyers to
purchase goods on credit and pay for them over time, while enabling sellers to
generate income from the sale of goods without having to wait for the full payment
upfront.

Here's an example of how a Bai' al-Mujjal transaction might work:

A buyer needs to purchase goods from a seller but does not have the funds to pay
for them upfront. The seller agrees to sell the goods to the buyer on a deferred
payment basis using the Bai' al-Mujjal contract. The buyer and seller agree on a
sale price of $10,000, with the payment to be made in 6 months.

The seller purchases the goods for $9,000 and sells them to the buyer for $10,000,
thereby earning a profit of $1,000. The buyer agrees to pay the seller $10,000 in 6
equal instalments over the next 6 months, with each payment being $1,666.67. The
seller retains ownership of the goods until the full payment has been received.

Significance and Importance:

Here are some of its significance and importance:

1. Accessibility: Bai' al-Mujjal enables buyers who are unable to pay for goods
upfront to purchase them on credit, thus increasing their accessibility to goods and
services.

2. Profitability: For sellers, Bai' al-Mujjal offers an opportunity to generate

income from the sale of goods without having to wait for the full payment upfront.
The profit earned by the seller is determined by the sale price and the cost of
goods, which includes a profit margin.
3. Risk Management: The risk of non-payment is borne by the buyer, who has
agreed to pay the cost of the goods at a later date. The seller, therefore, does not
have to worry about the risk of default.

4. Flexibility: Bai' al-Mujjal offers flexibility in terms of payment, as buyers can

choose to make payments in instalments over a period of time that is convenient
for them.

5. Shari'ah Compliance: Bai' al-Mujjal is a Shari'ah-compliant contract that is

widely used in Islamic finance. It ensures that transactions are carried out in
accordance with Islamic principles and ethical standards.

It provides access to credit, generates income, manages risk, offers flexibility, and
is compliant with Shari'ah principles.

Here's a real-life example of how Bai' al-Mujjal is used in practice:

Suppose a small business owner, Ali, needs to purchase raw materials to produce
his goods, but he does not have the funds to pay for them upfront. He approaches a
bank that offers Islamic finance services and requests a financing facility based on
the Bai' al-Mujjal contract.

The bank agrees to provide financing to Ali, under which it will purchase the raw
materials on Ali's behalf and sell them to him on a deferred payment basis. The
bank buys the raw materials for $10,000 and sells them to Ali for $11,000 on a
deferred payment basis, with payment due in six months.

Ali agrees to pay the bank in six equal instalments of $1,833.33 each, with the first
payment due at the end of the first month. The bank retains ownership of the raw
materials until Ali makes the full payment.

Under this arrangement, Ali is able to purchase the raw materials he needs to run
his business without having to pay for them upfront. The bank earns a profit of
$1,000, which is the difference between the cost of the raw materials and the sale
price. The risk of non-payment is borne by Ali, who has agreed to make the
deferred payments as per the terms of the contract.
This example illustrates how Bai' al-Mujjal can be used in practice to provide
financing to businesses and individuals who need to make purchases on credit. The
contract enables businesses to manage cash flow effectively while allowing banks
to generate income by providing financing to customers.

Bai’Bil Wafa
Bai'Bil wafa is an Arabic term that translates to "pledge of loyalty and allegiance." And In the
context of Islamic finance, Bai'Bilwafa refers to a legal contract that allows for the transfer of
ownership of an asset from one party to another in the event of the original owner's death. The
contract is commonly used in Islamic wills and estate planning to ensure that the transfer of
assets is carried out according to Islamic principles.

In Islamic finance, transactions must be conducted in accordance with Shariah law, which
prohibits charging or paying interest, as well as engaging in speculative or unethical activities.
Bai'Bilwafa is one of several contracts that are used to ensure that Islamic financial transactions
are conducted in compliance with these principles.

This type of contract is commonly used in Islamic wills and estate planning to ensure that assets
are transferred in accordance with Islamic principles. The contract can also be used for other
purposes, such as transferring ownership of an asset in exchange for a financial obligation, such
as the payment of a debt.

Example:
Here is an example of how Bai'Bilwafa can be used in Islamic finance:

Suppose that Ahmed owns a house and wishes to ensure that it is transferred to his daughter
Fatima upon his death. Ahmed can enter into a Bai'Bilwafa contract with Fatima, in which he
transfers ownership of the house to her in the event of his death. However, he retains the right to
continue living in the house until his death. Upon his death, ownership of the house is transferred
to Fatima, and she becomes the new owner.

1. Transfer of Ownership of a Property:

Suppose that a father, Muhammad, owns a property and wishes to ensure that it is transferred to
his daughter, Aisha, upon his death. Muhammad can enter into a Bai'Bilwafa contract with
Aisha, in which he transfers ownership of the property to her in the event of his death. However,
he retains the right to continue living in the property until his death. Upon his death, ownership
of the property is transferred to Aisha, and she becomes the new owner.

2. Transfer of Shares in a Company:

In Islamic finance, shares of a company can be bought and sold, but they cannot be traded with
an interest-based loan.

Suppose that a shareholder, Ali, owns shares in a company and wishes to transfer them to his
son, Hassan, in the event of his death. Ali can enter into a Bai'Bilwafa contract with Hassan, in
which he transfers ownership of the shares to him in the event of his death. Upon Ali's death, the
ownership of the shares is transferred to Hassan, and he becomes the new shareholder.

3. Transfer of Cash:

Bai'Bilwafa can also be used to transfer cash from one party to another in the event of death.

For example, suppose that a father, Abdullah, has a savings account and wishes to transfer the
funds to his son, Omar, upon his death. Abdullah can enter into a Bai'Bilwafa contract with
Omar, in which he transfers ownership of the funds in the savings account to him in the event of
his death. Upon Abdullah's death, ownership of the funds is transferred to Omar.

Wakalah
Wakalah Meaning:
Wakalah refers to a contract where a principal (or muwakkil) authorizes or appoints an agent (or
wakeel) to do a well-defined legal action on his or her behalf. Wakalah meaning is “Contract of
an Agency”. The wakalah in Islamic banking is about the provision of service, and the main
features of wakalah are service, representation, and power to affect the legal position of the
principal.

Wakalah in Islamic Banking:

Wakalah in Islamic banking is used, where a representative is appointed to undertake

transactions on another person’s behalf. The agency law or Wakalah law is to facilitate economic
exchanges, where they are hindered by distance, size, and numbers, or where the principal is
unable, or unwilling to act personally.

The contract of wakalah and its applications is a part of AIMS’ diploma in Islamic finance and
CIFE (the best Islamic finance certification). These qualifications also lead to the MBA in
Islamic finance degree program.

What is Wakalah Contract?

o The principal appoints an agent on behalf of himself, to carry out a certain well-defined
action, as a representative.
o The agent performs the task, according to the instructions.
o The agent is entitled to receive a predetermined fee, irrespective of whether the
accomplished task satisfied the principal or not.
Conditions of Wakalah in Islamic Banking:
o The agent should also be a competent person.
o Principals should have the power, and competence to deal. For example, an insane or a
minor cannot appoint agents.
o The act should be known and must be lawful.

Types of Wakalah:
1. PARTICULAR WAKALAHOR SPECIAL AGENCY:

The agency contract is made for a certain known transaction. For Example, Agent is bound to
sell or buy a particular house or car.

2. GENERAL WAKALAH:

It is a general delegation of power. For example, the principal asks an agent to buy a 4-bedroom
house.

3. RESTRICTED AGENCY:

Where the agent acts within certain conditions; For Example: Buying the house at a certain price,
and on in a given time.

4. ABSOLUTE AGENCY:

Where no condition is put for the transaction; For Example, No specific price or time is given to
the agent.

Examples of Wakala:
For example, lawyers are employed to represent their clients, or brokers are authorized to sell or
purchase commodities. Similarly, in organizations such as companies, managers, and directors
are needed to act on behalf of the companies.

In some cases, specialized middlemen are needed to make contracts on behalf of their principals
or to dispose of their principals’ property. Commerce could come to a standstill if businessmen
and merchants could not employ the services of agents and were expected to do everything
themselves.

An agent may obtain a certain wage for his services. If payment is not mentioned, in this case,
reference is made to the practice of the people. For example, a lawyer or a broker is entitled to
their wages based on the practice common among the people. Wakalah is a non-binding contract.

Gharar
Definition:
  Gharar literally means uncertainty, hazard, chance, or risk.
 Islamic dictionary describes it as “The sale of what is not present”.
 Gharar in Islamic banking may be defined as: “The uncertainty that is present in the
basic elements of an agreement is the wording, subject matter, consideration, and the
liabilities”
 As a matter of fact, it is one of those impediments, which limit the power of decision-
making.

Examples:
 If a person invests money in a business, and the business becomes insolvent, then the
person will lose his/her investment. Gharar is also used to refer to any risk that is
unknown. Gharar is not restricted to monetary loss. It can also refer to property loss or
bodily injury.
 someone sells you a can of food that does not have a label and so you are uncertain what
you are buying. This is Gharar (uncertainty).
 If someone sells you crops that have not yet harvested.
 If someone tried to sell you fish in the sea that has not been caught or an animal that has
not yet been born.
 Futures and Options Contracts

Prohibition of gharar in Quran:

 “Do not consume your property wrongfully, nor use it to bribe judges, intending sinfully and
knowingly to consume parts of other people’s property.” [2:188]
 “You who believe, do not wrongfully consume each other’s wealth but trade by mutual
consent. Do not kill each other, for God is merciful to you.” [4:29]

Prohibition of Gharar in hadith:

 The Prophet (peace be upon him) forbade all transactions that have a high level of
uncertainty (Gharar). He also gave us explicit examples of what constitutes gharar:
It was narrated that Abu Sa’eed Al-Khudri (may Allah be pleased with him) said:“The
Messenger of Allah (peace be upon) forbade selling what is in the wombs of cattle until
they give birth. And selling what is in their udders unless it is measured out. And
selling a slave who has fled. And selling spoils of war until it has been distributed. And
selling Sadaqah until it has been received. And what a diver is going to bring up (i.e
the catch from the sea).”[Sunan Ibn Majah • Book 12, Hadith 60

 “Whoever sells a defective commodity without disclosing it remains in Allah’s wrath”.

Explanation:

“Gharar is an Arabic word, which means “risk.” In Islam, gharar is used to refer to the risk of
losing something of value. Gharar dealings are harmful to certainty and openness in business
dealings. The prohibition of gharar protects businesses against transactions that involve high
uncertainty or deceit as they have the scope to cause injustice and involve risk being
asymmetrically shouldered (such that will result in a one-sided loss or a gain at the other’s
expense). It also ensures genuine consent in dealings as genuine consent can only be achieved
through transparency. The prohibition of gharar protects against unexpected losses,
disagreements, misunderstandings and distrust and consequently promote satisfaction in business
dealings.

Hawalah
Literally meaning, to move, shifting from one place to another.Technically, to make a transfer of
a debt from one debtor to the debtor account of another.To transfer a debt from one person
(debtor) to another with the same price, it comes to the consequence than the liability of the
debtor is abolished. In other words, the first obligator is freed from any financial obligations.

Hawalah is a contract which caused the transfer of debt from one party to another.

According to Mughni Muhtaj, the term Hawalah is refer to the debt transfer from a party/person
to another

Hawalah is similar to the sale of debt but is not sale, it also resemble kafalah and wakalah.

The three important participants in a Hawalah contract are: the principal debtor, the creditor and
the transferee.

There are various modern use of ḥawālah, including bills of exchange and issuance of cheques
(Kureshi and Hayat, 2014). One of the common applications of ḥawālah system is remittance
where migrant workers remit money to their family or relatives in their home country

Legality:
The legality of Hawalah can be seen in the hadith reported by Al-Bayhaqi, in which the Prophet
‫ﷺ‬have said: “Delinquency of rich debtors is a form of transgression, so if one of you has his debt
transferred to a rich person, let him accept the transfer of debt” (Narrated by Ahmad and the
author of six books).
Imam Ahmad bin Hambal and Imam Shafie: When the new debtor is solvent, the creditor has no
recourse against the creditor in the event that the debt is not settled by the new debtor

The discharge of debtor is total and irrevocable, unless he gureentee in the non payment of new
debtor.

Types of Hawalah

 The restricted model

 The un-restricted model

The restricted model:

Where the payer owes a sum of money to the transfer-or and the transfer-or owes a debt
to the transferee. The transfer-or can elect to transfer the payer’s debts to the transferee in order
to settle the debt.

Restricted Type of Ḥawālah

The unrestricted model:

Where the payer need not owe money to the transfer-or yet the payer may still
undertake to pay the transferor’s debt from his own funds provided that this directive came from
the transfer-or.

Unrestricted Type of Ḥawālah

In the modern financial era, the principle of ḥawālah is commonly used in both formal and informal
financial systems. As indicated by Kureshi and Hayat (2014), the concept of ḥawālah has been
widely adopted in contemporary banking services, namely: bill of exchange, promissory note,
cheques, remittance and bank draft. It is also a mechanism which can be used to settle international
accounts by book transfer.

In short, the socio-economic perspective of ḥawālah indicates that it is a rational economic

choice for remitters in many countries, especially where banking system is weak or absent.

Example:
A has a debt owing to him from B and A himself owes a debt to C. All three agree that C,
instead of realizing his due from A, and A his due from B, C shall realize his duties from B.

Involving:

Guarantee= Adjoining liabilities

Hawalah: Transfer/ Removal

 It must be absolute transfer, not subject to future and not conditional.

 It may subjected to the debt incurred in the future.
 Hiwalah benefits the creditor and relieves the debtor difficulty.
 Musawamah
Musawamah is a term used in Islamic finance. It describes a type of transaction in which the
buyer does not know the price paid by the seller to create or obtain the good or service being
offered.

Musawamah is a general kind of sale in which price of the commodity to be traded is stipulated
between seller and the buyer without any reference to the price paid or cost incurred by the
former. Thus it is different from Murabaha in respect of pricing formula. Unlike Murabaha,
seller in Musawamah is not obliged to reveal his cost.

All other conditions relevant to Murabaha are valid for Musawamah as well. Musawamah can be
an ideal mode where the seller is not in a position to ascertain precisely the costs of commodities
that he is offering to sell. But under the rules of Islamic finance, various conditions must be met
in order for Musawamah transactions to be permitted and to meet the standards required
under Sharia law.

How Musawamah Works?

Musawamah describes a transaction where the price of the good or service is not disclosed to the
buyer. This differs from Murabaha transactions, where a buyer knows the cost of the underlying
asset. Since the seller is not obligated to disclose the cost of obtaining or producing the
merchandise for sale to the buyer, the agreed selling price is left to the bargaining powers of both
the seller and buyer.

Restrictions
In order to follow Shariah law, there are three specific restrictions that exist:

1. The product, property or service must be owned entirely by the seller at the time of sale.
2. The item must be usable and valuable in some way and in good condition.
3. The sale must take place when the item is traded, not any other time in the future. Any
sale made at a later date is void and null.

Real World Examples of a Musawamah

1. Michaela wishes to purchase a souvenir from a merchant during her travels in Morocco.
She settles on a locally made scarf which is being sold by an artisan in a small market.
Because the scarf has clear usefulness and value to the buyer, and because it is currently
in the possession of the seller and is being sold at the present time, the sale of the scarf
qualifies as a Musawamah transaction under Sharia law. For this reason, the merchant is
not obligated to disclose to Michaela the underlying cost of producing the scarf.
Therefore, Michaela will not know the seller’s profit margin when negotiating over the
 price. For these reasons, Michaela and the merchant are free to barter over the price of the
scarf until they reach a mutually acceptable agreement.
2. Musawamah can be used in the context of a real estate transaction, where the buyer
negotiates the price of the property with the seller without disclosing the profit margin.
The seller may offer a price for the property based on the market conditions and the buyer
can negotiate for a better price based on their own assessment of the property's value.
Once the parties agree on a price, the transaction can be completed.
3. A manufacturer may need to purchase raw materials for their production process. In this
case, Musawamah can be used to negotiate the price of the raw materials with the
supplier without disclosing the cost or profit margin. The manufacturer can negotiate for
a better price based on the market conditions and their bargaining power. Once the price
is agreed upon, the manufacturer can purchase the raw materials from the supplier and
use them in their production process.

“MAL-E-MUTAQAWAM”
The term "Mal-e-Mutaqawam" is derived from two Arabic words, "Mal" which means wealth,
and "Mutaqawam" which means resistant or resilient. In Islamic finance, "Mal-e-
Mutaqawam" refers to assets that are less likely to be affected by economic downturns or financial
crises. These assets are considered to be less risky.

Things the use of which is lawful under the Shariah; or wealth that has a commercial value. Legal
tenders of modern age that carry monetary value are included in Mal-e-Mutaqawam. It is possible
that certain wealth has no commercial value for Muslims (non-Mutaqawam) but is valuable for
non-Muslims. “Examples are wine and pork”

Mal-e-Mutaqawam is an Islamic finance term that refers to assets or investments that are compliant
with Shariah law principles. It means "resistant wealth" or "permissible wealth" and “resilient
assets” is used to describe financial instruments that are structured to avoid forbidden activities
such as interest-based transactions, gambling, and investments in industries such as alcohol,
tobacco, and gambling and financial assets that describe the financing to protect that asset It’s a
concept that refers to a specific type of financing. Under this concept, the financier purchases an
asset, such as a property or a vehicle, and then leases it to the borrower for a fixed term. The
borrower pays regular lease payments, which include a rental fee and a portion of the principal
amount, and at the end of the lease term, the borrower has the option to purchase the asset at an
agreed-upon price. The lease agreement may also include provisions for the maintenance and
upkeep of the asset during the lease period.

Mal-e-Mutaqawam is commonly used in Islamic finance for various types of assets, including real
estate, machinery, and vehicles. It provides a flexible financing option for businesses and
individuals who require capital for their operations or personal needs.
EXAMPLES:
Here are some examples in forms of transactions and products.

 A company that owns plant and machinery assets would be called resilient assets, if the
company uses various safeguards for the security of its factories such as gates, security
cameras, security emergency plans, etc.
 Islamic bonds (Sukuk): These are financial instruments that are structured to comply with
Shariah principles. Sukuk pay a fixed return to investors based on the profit generated by
the underlying assets. Sukuk can be issued for different tenures and is commonly used to
fund infrastructure projects.
 Business Investment: A business owner needs financing to expand their business. Instead
of taking out a loan with interest, they approach an investor who is willing to invest in their
business through Mal-e-Mutaqawam. The investor and the business owner agree on the
terms of investment, including the amount of financing, the profit-sharing ratio, and the
expected time frame for the investment.

“Overall, Mal-e-Mutaqawam refers to financial instruments that are structured

to be in compliance with Islamic finance principles and avoid activities that are
considered harmful or unethical.”

Al-Rahn
Al-Rahn, also known as collateral, is a concept in Islamic finance that refers to the security or collateral
that a lender takes as a guarantee for the repayment of a loan. In Islamic finance, lending money on
interest or usury is strictly prohibited, and as such, collateral is used to ensure that the borrower fulfills
their obligation to repay the loan. Al-Rahn is based on the Islamic principle of Qard al-Hasan, which
means giving a loan for the benefit of the borrower without any interest.

The concept of Al-Rahn is central to many Islamic finance products, such as Murabaha, Tawarruq, and
Salam. In a Murabaha transaction, for example, the lender purchases an asset requested by the borrower
and then sells it to the borrower at a profit, with the borrower paying in installments. The asset purchased
by the lender serves as the collateral in case the borrower defaults on the payment. Similarly, in a
Tawarruq transaction, the borrower sells an asset to a third party for cash, which is then used to repay the
lender. The asset sold serves as the collateral in case the borrower defaults on the payment.

Al-Rahn is viewed as a means of protecting the rights of both the lender and the borrower in an Islamic
finance transaction. It ensures that the lender has some security in case the borrower defaults, and it also
provides some assurance to the borrower that they will be able to recover their collateral in case they are
unable to repay the loan. In addition, Al-Rahn encourages responsible borrowing and lending practices, as
borrowers are more likely to take their obligations seriously when there is collateral at stake.

Al-Rahn is a key concept in Islamic finance, and its proper implementation is essential for ensuring the
stability and growth of the industry. Islamic finance institutions and scholars are constantly working to
refine and improve the use of Al-Rahn in financial transactions, to ensure that it remains in line with the
principles of Islamic finance and serves the needs of both lenders and borrowers.

Al-‘Aariyah (Gratuitous loan of non-fungible objects)

Al-‘Aariyah means loan of a particular piece of property, the substance of which is not consumed
by its use, without anything taken in exchange, In other words, it is the gift of usufruct of a
property or commodity that is not consumed on use. The offeror of a’ariyah doesn’t taken
anything from the offeree in exchange for enjoying the usufruct of the underlying. In this sense,
a’ariyah differs from qard in that the latter is a loan of fungible objects (mithliat) which are
typically consumed by use, and in which the qard taker has to return back to the offeror a similar
object or commodity, but not the same object or commodity.
In essence, however, both a’ariyah and qard are based on virtuous attitudes towards others. In
both cases, the borrowed object (in a’ariyah) or amount (in qard) is considered a liability on the
borrower who is under obligation to give it back to its rightful owner.
It is different from Qard that is the loan of fungible objects which are consumed on use and in
which the similar and not the same commodity has to be returned. It is also a virtuous act like
Qard. The borrowed commodity is treated as liability of the borrower who is bound to return it to
its owner. It is one of the customs of the Muslim society. People may borrow small articles of
household goods from neighbours and relatives. The difference between ‘ariyah and qard is that
in the former case, the thing borrowed (which is always other than money) is to be returned in its
original form, whereas in case of qard, the loan can be, and is usually, returned in money of
equivalent value.

ʿĀrīyah never involves the loan of money or of objects that will be consumed in their use. Under
an ʿārīyah contract, a Muslim may pay a debt by allowing his debtor to use, for example, his
house or his land for a certain period of time while maintaining full ownership of
the premises. ʿĀrīyah also enables an individual to lend possessions to another at a time when he
would not be able to take care of them himself. The borrower is not, in principle, responsible for
damage to the object arising from his authorized use of it, though the various schools of Islāmic
law differ from each other in their doctrines on this point.

Examples
 neighborly lending of small articles
  loan of a particular piece of property, the substance of which is not consumed by its use,
without anything taken in exchange
 the gratuitous loan of some object—e.g., a utensil, a tool, or a work animal

Al Kafalah: Principles and Applications in Islamic Finance

Introduction:

Islamic finance is a rapidly growing sector of the global financial industry. The principles and
practices of Islamic finance are based on Islamic law, also known as Shariah, which prohibits
interest-based transactions and promotes risk-sharing arrangements. One of the key concepts in
Islamic finance is al kafalah, which is a form of guarantee or suretyship. This assignment aims to
provide an overview of al kafalah, its principles, and its applications in Islamic finance.

Principles of Al Kafalah:
Al kafalah is a contract in which one party (the kafil) guarantees the debt or obligation of another
party (the makful) to a third party. The kafil undertakes to pay the debt or perform the obligation
if the makful fails to do so. Al kafalah is based on the principle of social solidarity and mutual
assistance in Islamic society. The kafil is expected to act in good faith and to ensure that the
makful fulfills his or her obligations.

Applications of Al Kafalah in Islamic Finance:

Al kafalah has several applications in Islamic finance, including the following:

1. Bank Guarantees: Banks can use al kafalah as a form of guarantee for their customers.
For example, if a customer needs to secure a loan or credit facility, the bank can require a
kafil to guarantee the debt. This provides the bank with additional security in case the
customer defaults on the loan.

2. Trade Finance: Al kafalah can also be used in trade finance transactions. For example, a
buyer can request a kafil to guarantee payment for goods purchased from a seller. This
provides the seller with additional security in case the buyer defaults on payment.
3. Construction Projects: Al kafalah is also commonly used in construction projects. The
contractor can request a kafil to guarantee the performance of the project, including the
quality of work, completion time, and payment of subcontractors and suppliers.
 4. Zakat Collection: Zakat is an obligatory charity in Islam that is collected from Muslims
who meet certain criteria. Al kafalah can be used to guarantee the collection of zakat. For
example, a zakat collector can request a kafil to guarantee the collection of zakat from a
specific group of Muslims.
Conclusion:
Al kafalah is a fundamental concept in Islamic finance that promotes social solidarity and mutual
assistance. It has several applications in various sectors of the economy, including banking,
trade, construction, and charity. The principles of al kafalah emphasize the importance of good
faith and responsibility in fulfilling obligations. As Islamic finance continues to grow, al kafalah
will remain a key component of Islamic financial transactions.

Tabarru
Tabarru is an Arabic term commonly used in Islamic finance to refer to a donation
or gift of property, money, or other assets made voluntarily by a participant in a
takaful (Islamic insurance) scheme. In the context of takaful, tabarru is considered a
form of charitable contribution, which is given to the pool of funds that is used to
compensate participants who suffer losses.

When a participant in a takaful scheme makes a tabarru contribution, they are

effectively donating a portion of their assets to the collective fund, with the
understanding that they may benefit from the pool in the event of a loss. The amount
of the tabarru contribution is determined by the participant, and can vary according
to their financial means and the level of coverage they require.

One of the key principles of Islamic finance is the concept of risk-sharing, which
underlies the takaful system. By pooling funds from many participants, takaful
providers are able to spread the risk of loss across a wider group, which can help to
reduce the overall cost of insurance. The tabarru contributions made by participants
are a critical component of this system, as they help to ensure that there is sufficient
capital available to pay claims when they arise.

It is worth noting that tabarru contributions are distinct from the premium payments
made by participants in a takaful scheme. Premiums are considered a form of
consideration or compensation, and are calculated based on actuarial principles and
the level of risk being assumed by the takaful provider. Tabarru contributions, on
the other hand, are entirely voluntary and are not linked to any specific level of
coverage or benefit.

EXAMPLE OF TABARRU
Here is an example of how tabarru works in Islamic finance:

Let's say that Ali wants to participate in a takaful scheme that provides coverage for
his car. He approaches a takaful provider and signs up for a plan that offers
comprehensive coverage, with a total sum insured of $10,000.

As part of the enrolment process, Ali is asked to make a tabarru contribution to the
takaful pool. He decides to contribute $500 as a voluntary donation to the pool.

Over the course of the year, Ali makes regular premium payments to the takaful
provider in exchange for coverage. The premium payments are calculated based on
actuarial principles, taking into account the level of risk associated with Ali's car and
the coverage he has selected.

If Ali's car is involved in an accident and sustains $5,000 in damages, he would file
a claim with the takaful provider. The provider would then use funds from the takaful
pool, including the tabarru contributions made by participants like Ali, to pay the
claim and cover the cost of the repairs.

If there are insufficient funds in the pool to cover the claim, the provider may assess
additional tabarru contributions from participants in order to make up the difference.

In this way, tabarru helps to ensure that there is a sufficient pool of funds available
to compensate participants who suffer losses, and promotes the principle of risk-
sharing in Islamic finance.

QARD (LOAN OF FUNGIBLE OBJECTS)

Qard (qarz) is a loan in which money is given to a person on the condition that this person
returns it without taking any kind of increase on it. In Islam, Qard is one of the actions in which
the lender draws near to God, as it involves cooperation between people to do good and to help
the needy.
“If you loan to Allah, a beautiful loan [ qard ], He will double it to your (credit), and He will
grant you Forgiveness” (Qur’an 64(al-Tagabun):16–17.)

Characteristics of Qard:

1. It is not permissible to stipulate any increase in the loan in favor of the lender. But if the
borrower returns an increase in the original loan or gives a gift to the lender without the lender
stipulating that in the contract, then the lender may accept it.

2. It is permissible to stipulate a term in the Qard, in this case, the lender may not ask the
borrower to repay the Qard before the term is due.

3. It is permissible for the lender to stipulate that a mortgage or guarantor be taken from the
borrower for the money of the Qard.

Qard applications in Islamic banks:

1. Current Accounts (Demand Deposits).

2. Qard Al-Hassan loans: Qard Al-Hassan is one of the unique services offered by the Islamic
Bank. It is the act of lending money without interest.

Examples:
1. Helping a friend: If a friend is in need of financial assistance, you can give them a Qard
loan to help them out. The loan should be given with the intention of helping the friend,
not to make a profit.
2. Assisting a family member: Similarly, if a family member is in need of financial help,
you can provide them with a Qard loan without charging any interest.
3. Supporting a charitable cause: Islamic charities often provide interest-free loans to people
in need. These loans are given to help people become self-sufficient and break out of the
cycle of poverty.
4. Business investment: If you want to invest in a business but do not want to charge
interest, you can provide a Qard loan to the business owner. The loan should be given
with the intention of helping the business grow, not to make a profit.