modes of islamic finance

Modes Of Islamic FinanceBasic principles of Islamic finance :1- Prohibition of Riba: The practice of charging financial interest or a premium in excess of the principal amount of the loan.2-Risk sharing:

Interest is prohibited and owner of funds become investors instead of creditors. The provider of capital and entrepreneur shares business risks and shares profits and loss according to the ratio of investment and participation by way of their Capital or Skill.3-Prohibition of speculative behavior:

An Islamic financial system discourages exhibition of wealth and prohibits transactions featuring extreme uncertainties, gambling, and risks

4-Transparency of contracts:Disclose all obligations and information regarding the contracts

undertake

Modes Of Islamic FinanceBasic principles of Islamic financial :5-Shariah Approved Activities

Sharia’h qualifies businesses are allowed (alcohol, gambling and casinos) are not allowed6- Prohibition of Gharar

Gharar is variously defined in English as 'uncertainty' or 'deceptive uncertainty'. The Qur'an uses the word "al-gharūr" to mean "deceptive".

A Gharar transaction occurs where one party can only benefit by the other's loss, under conditions of uncertainty.

Commercial insurance is given as an example of this, since either the insured pays a premium and receives no counter value, or the insurer pays out much more on a claim than was received by way of premium.

Example Of Gharar:1-Selling goods that the seller is unable to deliver 2-Selling known or unknown goods against an unknown

price 3-Selling goods without proper description 4-Selling goods without specifying the price

Modes Of Islamic Finance

Example Of Gharar:5- Making a contract conditional on an unknown event 6-Selling goods on the basis of false description7-Selling goods without allowing buyer to properly examine the goods8-Gambling is a form of Gharar because the gambler is ignorant of the result of his gamble

Modes Of Islamic FinanceTowards achieving the objectives of Shari’ah (Maqasid al-Shari’ah)High ethical values - justice, fairness, trust, honesty and integrityProtection of religion, life, lineage, intellect and wealth More equitable distribution of wealth1-Materiality and Validity of Transactions Economically productive underlying activities Avoidance of interest-based transactions No involvement in illegal and unethicalactivities Genuine trade and business transactions Avoidance of speculative transactionsEmbedded Governance2-Mutuality of Risk Sharing Entitlement of protitcontingent upon risktaking Honouring both substance and form ofcontractDisclosure & Transparency

Modes Of Islamic Finance1- Modarba (Riba Free Mode Of Financing)

2-Mosharika(Trade Financing)

3-Morabha (Equity Participation or Venture Financing

4-Ijarah (Asset Financing)

Modes Of Islamic Finance3-Morabha (Equity Participation or Venture

Financing :Definition:

Morabaha is a contract of sale in which a commodity is sold on profit. The seller tells the buyer his cost price as well as his profit he is adding to the cost.

Modes Of Islamic FinanceParties Of Murabaha Contract:

1-Finacial Institution (Rab-Ul-Maal) i.e Meezan Bank etc.

2-Murahib (who influences the Rab-Ul-Maal to buy the goods) 3- Muqqddam (The agent may be hired by the Rab-Ul-Maal)

4- The Supplier (who is directly approached by the Rab-Ul-Maal)


Financing :1- Morabaha is a financing technique that

involves a request by the Morahib (Worker) to the financier (Rab-ul-Maal) for the purchase of a certain goods or equipment or Asset for him and adds up the declared profit in the cost(COST+PROFIT) which is agreed by the Murahib.


Financing :2- The financer (Rab_ul_Maal) approaches to

the supplier by himself or through Muqqddam (Agent) for the purchase of machines and add up the all expenses or less the financing amount invested by Murahib (ARBOON)


Financing :

The seller discloses the cost to the buyer

Disclosed profit is added

Normal Sale

The seller does not disclose the cost to the buyer

Hidden profit

Murabaha Sale


Financing :• As per the rules of Shariah the seller cannot sell the goods unless

they come into his ownership. • The goods are need to be identified and purchased. • The bank(Rab-Ul-Maal) , being a financial institution does not have

the expertise to identify the goods and negotiate an efficient price.• The customer, however, being in the industry, can do this. The

Bank therefore appoint him(Maqqaddam), in the first step of the transaction, to identify and procure the goods on the bank’s behalf.

Modes Of Islamic Finance• Once the customer purchase the goods the risk of the goods transfers to

the Bank. Bank can now sell these goods to the customer.

• The customer play two different roles in this transaction. On that of Bank’s agent and other of purchaser. These roles should be clearly segregated to make the transaction halal.

• This process is explained in detail in next slides.

3-Morabha (Equity Participation or Venture Financing :3-Morabha (Equity Participation or Venture Financing :


Financing :3-Morabha (Equity Participation or Venture Financing :

Agreement to Murabaha

Bank Client

Murabha Financing Step By Step

1- Client and bank sign an agreement to enter into Murabaha




2- Client appoints as an agent to purchase asset on behalf of Bank

Agency

Agreement

Bank ClientAgreement to

Murabaha




3- Bank gives money to client to buy an asset

Agreement to Murabaha

Agency Agreement

Disbursement to the client

Bank Client




4- Client purchases the asset on behalf of Bank

Client purchases goods and takes possession

Transfer of Risk Vendor

Bank Client




5. Client makes an offer to purchase the goods

from bank.

Offer to purchase

Bank Client



Murabha Financing Step By Step6. Bank accepts the offer and sale is concluded.

Murabaha Agreement +

Transfer of Title

Bank Client


Financing :Murabaha financing and risk diversion

In a conventional transaction the bank transfer the risk on the client, however in a Murabaha transaction the Bank takes the following risks:

1. Asset Risk•Since for a short period of time the risk of Asset is transferred to the bank.

2. Credit Risk •Since once money is receivable from the customer, the risk of non-payment does exist


Financing :

• Murabaha transaction is the simplest from of an Islamic

Financial Transaction.

• Murabaha can be used to finance the purchase of any assets

which is recognized as Mal-e-Mutaqawam (Valuable) under

Shariah.

• A wide range of customer needs can be catered through

financing purchase of different assets by the customers.

Conclusion


Financing :Calculation Under Murabaha Contract with Modarba

Microsoft Office Excel 97-2003 Worksheet

modes of islamic finance

Education

unknown goods

certain goods

goods transfers

mosharikatrade financing

financing technique

ijarah asset financing

prohibition of gharar

gharar transaction