ISLAMIC TRADE FINANCING INSTRUMENTS

➔ ISLAMIC LETTER OF CREDIT (ILoC)

➔ Definition of LoC
◆ Oxford Dictionary = A letter issued by a bank to another bank (especially one in
a different country) to serve as a guarantee for payments made to a specified
person under specified conditions.
◆ Merriam-Webster = A letter addressed by a banker to a correspondent certifying
that a person named therein is entitled to draw on the writer's credit up to a
certain sum.

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◆ A payment mechanism used in international trade to provide an economic

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guarantee from a creditworthy bank to an exporter of goods.
◆ Also known as ▶ documentary credit or bankers commercial credit, or letter of
undertaking (LoU).

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➔ Pillars of ILoC
◆ Customer/Importer
◆ Exporter
◆ Issuing Bank
◆ Advising/Negotiating Bank
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➔ Types of ILoC
1. Wakalah ILC (AGENCY)
- Islamic letter of credit, the customer must pay in advance the full value of the item in
question prior to the issuance of the ILC.
- Furthermore, the Islamic bank will receive a commission or service fee upon the service
rendered to the customer.

- Modus Operandi

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- Advantages of Wakalah ILC

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- To ensure buyer receives merchandise on time and payment made upon receipt
of complied document.
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- From islamic point of view, zakat fund of the islamic banks will help the muflis.
So, there will be no auction of assets of the muflis unless he surrenders himself.
- Therefore, this explicitly shows the beauty of islamic banking system in protecting
its ummah.
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2. Musharakah ILC (PARTNERSHIP)

- Islamic bank issues the ILC and both the bank and customer contribute to the purchase
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price under ILC, and later share.

- The procedures of the sale of the asset based on the pre-agreed profit sharing ratio.
Losses are born proportionate to the capital contribution.
- Modus Operandi

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- Advantages of Musharakah ILC

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- Customer shares the profit from the venture as provided in this agreement
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- The absolute return on the investment depends on the profitability of the venture.

3. Murabahah ILC (COST-PLUS PROFIT)

- A document of trust signed by the importer, the strength on which the bank allows the
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importer to obtain release of the merchandise but making a lump sum payment at a later
date.
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- Under the principle of Murabahah (cost plus profit) where the customers is unable to pay
the purchase price, the bank issues the ILC and pays the purchase price to the exporter.
The bank immediately sells to the customer at a mark up for a deferred payment.
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- Modus Operandi
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➔ ISLAMIC LETTER OF GUARANTEE (ILoG)
➔ Definition
◆ A contract between a bank and another party (a third party) ▶ where the bank
agrees to discharge the liability of the bank’s customers in case of default or
failure of the customer to fulfill his obligations under the terms and conditions of
the guarantee.

➔ Modus Operandi

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➔ ISLAMIC SHIPPING GUARANTEE (ISG)

➔ Definition
◆ A facility where the Bank indemnifies and guarantees the shipping company for
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the release of goods to the buyer/importer without the presentation of the original
Bill of Lading.
◆ Issued under the Kafalah contract, it can be defined as a surety provided by a
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party to the owner of the goods, who had placed or deposited his goods with the
shipping company, whereby any subsequent claim by the owner for his goods
must be met by the guarantor (the Bank).
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➔ ISLAMIC ACCEPTED BILLS (IAB)

➔ Definition
◆ A financing facility extended by the Bank to a customer to finance his purchases
or sales.

➔ Modus Operandi
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➔ IAB Imports

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➔ IAB Exports
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