An enhanced structure of tawarruq and rahn: A way out of current problematic

structure of ar-rahn product

Dziauddin bin Sharif
Amir Shaharuddin
Nurul Aini Muhammed
Abstract
This work examines the challenges that have been experienced by the institution on
the principles of sharah regarding product's structure. It does not necessarily mean
that the sharah principles that are applied related to the existing product are
wrongly casted, though it may happen, but this effort is to look for a better
alternative. Therefore, it may avoid the need for the total amendments that ultimately
affects the reluctant costs borne by the institution. Consequently, the improvement will
always being reviewed from time to time, either by finding the best alternative, or
slight modification in the framework of existing structure. By using the discourse
analysis, this paper aims to examine and suggest the structure of ar-rahn product that
is constructed using the principle of tawarruq and rahn. Through this method, the
structure will be enhanced by certain feature in order to suit the needs of industry.
While the structure was initially introduced by the earlier researcher, the interviews
that adopted from the key players of the industry was crucial to be dicoursed and
examined for the better enhancement. As a result, the enhanced structure of tawarruq
and rahn was suggested.
1.

Introduction

Although ar-rahn has vibrant evidences in al-Qur'n and adth, its application needs
some adherence to the principles of mumalat that were outlined by the jurists
through their consensus, analogy and debate. The application that does not depend on
a clear understanding towards the evidence would lead to violation of Islamic
objectives. For instance, the objective of ar-rahn is merely securing the debt issued by
the creditor, and thus, any purpose of aiming the profit generation from the transaction
will cause its objective misappropriates. Therefore, the review on the application of
Sharah principles in the existing products is important to identify its weaknesses, so
that it may be improved. However, if it has fulfilled the Islamic principles, the
application of current structure may be sustained as usual.
2.

Methodology

According to Guy Cook (1989), discourse can be defined as a stretch of language

consisting of several sentences which are perceived as being related, not only in
terms of ideas, but also in terms of the jobs that they perform. This paper adapts the
discourse analysis technique as suggested by Guy Cook (1989). In this regards, the
data from the existing structure, the classical text of Islamic jurisprudence and the
interviews of the industry players will be reviewed in constituting a coherent unit, so
that the enhanced structure is not only Sharah compliance but also can be suited to
the industry and within their framework and policy. The existing problematic structure

that referred to the institution's product, the opinions of Islamic jurists and the
interviews are therefore discoursed altogether in considering the new structure. Below
is the list of interviewees that are approached by the researcher.
Table 1: List of interviewees and their position, institution and date of interviews
Interviewees

Position

Institution

Respondent 1

Head, Shariah
Research and
Review Department
Profesor and Senior
Researcher

Agrobank

Respondent 2

Respondent 3

Profesor and
Executive Director

Respondent 4

Senior Executive.
Shariah Advisory,
Development &
Secretariat
Professor of
Shariah and
Economics
Assistant General
Manager
Chief Executive
Officer
Head Shariah / Vice
President of
Shariah Division
Senior Researcher

Respondent 5
Respondent 6
Respondent 7
Respondent 8
Respondent 9

Respondent 10

Senior Researcher
and Head of Islamic
Banking Unit

Respondent 11

Shariah Legal
Advisor

International
Shari'ah Research
Academy for
Islamic Finance
(ISRA)
International
Shari'ah Research
Academy for
Islamic Finance
(ISRA)
RHB Islamic
Bank

Date of
interviews
21 June 2013
14 January
2014

28 January
2014

26 June 2013

University of
Malaya

8 May 2013

Bank Islam
Malaysia Berhad
Bank Islam
Malaysia Berhad
Bank Kerjasama
Rakyat

24 May 2013

International
Shari'ah Research
Academy for
Islamic Finance
(ISRA)
International
Shari'ah Research
Academy for
Islamic Finance
(ISRA)
Research
Division,
Attorney
General's
Chambers

21 May 2013

5 June 2013
13 June 2013

22 May 2013

21 July 2013

3.

Literature Review

Shamsiah (2013) and Khir (2013) consistently agreed about the finding in their
researches in 2008 and 2012 about the unnecessary concept of ujrah to be embedded
in ar-rahn contract, as they stated that ar-rahn is only served for securing the debt,
and is not a method for generating the profits. In fact, Khir (2012) analyzed that the
concept of ujrah is a part of sale contract under bay manfaah (sale of usufruct) and
thus, it is prohibited to be applied with the qard (loan) contract. It is understandable
due to the reasons why the concept of ujrah is wrongly used in ar-rahn product, as
there is a h adth that prohibits such practice. Meanwhile, Naim (2004) concluded that
some practices adopted by the Islamic system are not truly in compliance with the
teaching of the Islamic law. He also found that ar-rahn scheme still contains elements
of usury in its transaction; hence he proposed a "good loan", which must be backed by
the pawned item, and maintained that it is the responsibility of the government and
the riches to prevent the public from continuously getting trapped in this financial
.system
4.

Current problems: The need of changes

In discussing the appropriateness of ujrah that based on the wadah yad d amnah,
which currently applied by most of ar-rahn institutions, there are two groups of
scholars with contradicting views. The first group is proponent to the improvement of
ujrah application, and the second group is an opponent to the ujrah application.
Generally, the group of scholars that support the improving effort of ujrah application
are the scholars from the sharah division or department from respective financial
institutions, particularly the banking institution. They supported the total rejection of
ar-rahn scheme stating that using the principle of wadah is impractical. They
suggested that the structure does not need not be replaced, but enhanced. Based on the
interview, the existing sharah structure of ar-rahn is still acceptable as he claimed
that the structure is widely accepted among the players in the Islamic banking and
cooperative institution that conducts ar-rahn scheme. If the structure fails to suit the
requirement of sharah compliance, the Sharah committee of the institution has to
stop the operation of the product immediately. He opined that the operation of ar-rahn
is allowed to continue as long as the Sharah Committee of Bank Negara Malaysia
and Majlis Fatwa does not prohibit such practice.
During the interview with respondent 6, he argued that the term ujrah leads to a
controversial issue among the Islamic researchers as it is not really the case, and that
he concerns more on the substance. If the imposition of ujrah fee in ar-rahn contract
is considered inappropriate, another term can be suggested. However, he did not
mention the appropriate terms that should be adopted to replace the term of ujrah.
According to respondent 5, a Sharah professor, said that the cost of holding the
collateral by the institution must be written in details so that a safekeeping fee
imposed upon the item can be justified. In another interview session with respondent
8 suggested the cost of holding the collateral can be imposed by institution through
the creation of the sizes of storage box. For an example, the storage box of collateral
can be categorized into several classifications such as a small, a medium or a big size.
However, these type of charges can only be imposed for three types of fees, and such
practice looks unattractive for the institution, despite the fact that it has been
implemented in the Middle East countries.

Meanwhile, the second group is the opponents of the ujrah application. The scholars
of this group are mainly the academicians and researchers, who sees it as misleading
the sharah principle in the contract. The criticisms over this concept have been
widely discussed and written. During the interviews with two senior researchers of
International Sharah Research Academy for Islamic Finance (ISRA), they
consistently agreed about the finding in their research in 2008 and 2012 about the
unnecessary concept of ujrah to be embedded in ar-rahn contract, as they stated that
ar-rahn is only served for securing the debt, and is not a method for generating the
profits. In fact, Khir (2012) analyzed that the concept of ujrah is a part of sale contract
under bay manfaah (sale of usufruct) and thus, it is prohibited to be applied with the
qard (loan) contract. It is understandable due to the reasons why the concept of ujrah
is wrongly used in ar-rahn product, as there is a h adth that prohibits such practice as
following:

,

,

(Hadh. Al-Sajastaniyy. Sunnan Ab Dawd: vol.3 #3506)

Do not allow a loan (in combination with) and a sale, do not have prerequisites to
sell, do not gain a profit if it is guaranteed, and do not sell what you do not have
In a h adth narrated by Nasiyy also stress the same thing with different words:

(Hadith. Al-Nas'iyy, Sunan al-Nas'iyy: v.7 #4629)

Isml bin Masd had told us from Khlid from ussein al-Muallim from Amr
bin Shuayb from his father from his grandfather: Verily Rasulullah forbids
combination of salaf (debt) and sale, two conditions within a sale, and profit as long
as it not guaranteed (without taking a risk).
In addition, respondent 10, argued that the safekeeping fee imposed by the institution
exceeds the reasonable rate of that safe deposit box, hence it corroborates the presence
of rib elements. This higher rate of fee can be seen through the calculation of annual
fee against the loan that is given at 13% in banking institutions, and 11.9% as the
average charge in a whole ar-rahn shop owned by the cooperative societies. Even
though the rate seems higher, the product is widely engaged by the small middle
income group, and makes it relatively expensive for them.
Moreover, respondent 10 also stressed that the product received an overwhelming
response from the public as it has unique and attractive elements such as a quick
approval, rollover functionality, and a guarantee of getting back the pawned jewelry.
This situation however reveals the real motives of customers who are willing to pay
more safekeeping fees than they really should, and that they subscribes to ar-rahn
scheme merely for the purpose of obtaining the financing facility.

Table 4.1: The proponent and opponent view to the improvement of ujrah application

Type of
scholars

Justifications

Proponent to the
improvement of ujrah
application
The sharah division or
department from
respective financial
institutions, particularly
the banking institution
The total rejection of
ar-rahn scheme stating
that using the principle
of rahn, wadah and
ujrah is impractical
The existing sharah
structure of ar-rahn is
still acceptable as he
claimed that the
structure is widely
accepted among the
players in the Islamic
banking and cooperative
institution
Existing concept of arrahn is allowed to
continue as the
Sharah Committee of
Bank Negara Malaysia
and Majlis Fatwa does
not prohibit such
practice

Opponent to the ujrah

application
The academicians and
researchers
The concept of ujrah
that embedded to arrahn contract is
unnecessary
The concept of ujrah is
a part of sale contract
under bay manfaah
(sale of usufruct) and
thus, it is prohibited to
be applied with the
qard (loan) contract.

The concept of ujrah is

wrongly used in arrahn product, as there
is a h adth that
prohibits such practice

These two contradicting views can be simply understood by their points of

differences. Both of them come from a different circumstantial ground and thus,
affluence their perspectives on ar-rahn scheme to differ from one another. The
scholars who supported the improving efforts are more indulgent in placing the
juristic analysis of a transaction, while the others are firmer in their stance. In case of
this issue, the scholars from the industrial background who involved directly in the
operation are unwilling to eradicate entire principles used and replace them with the
sale contracts. In the financial institutions, particularly from a banking point of view,
the complete amendment from a loan that is backed by collateral to a sale contract
will distress their main activities such as the operational system, the risks
management, and the costs of operation. Though not impossible to implement, the
unnecessary contract of wadah as what some scholars have claimed is not yet to
reach a level where the authority is agreeable on stopping their product's operation.

In addition, the claim on the indirect connection between the safekeeping fee (ujrah)
and the loan amount is somehow established in industries for some quite a long time;
the situation is always being analogized to an issue of the sales arrangement contract
through the method of tawarruq and inah. As the principle of tawarruq and inah is
still permissible in the financing products of Islamic financial institutions, a claim of
the indirect connection between ujrah and qard cannot be considered as a form of
prohibited contract, hence, a total rejection is not a priority issue for ar-rahn product.
Unless a solid alternative for the current mechanism of tawarruq through Sq al-Sila
could be sought, any further ideas will bring about the irrelevant pace in the
perspective of industries.
Accordingly, several proposals have been considered in order to improve the existing
concept and researcher finally has proposed a number of improvements in some areas
through the implementation of the combining concept of ar-rahn and tawarruq. The
concept is once revealed by Khir in 2012 as it can free itself from the element of riba
and thus, the operators are freed from the issue to determine the profit rate. However,
several adjustment is been made in order to suit the requirement of the banking
institution and the needs of customers.
5.

Sharah improvement

This paper proposes the Sharah improvement that replaces the existing concept that
has an issue of riba. In this regard, the principle of tawarruq is proposed to be adopted
by ar-rahn institutions. A tawarruq can be defined as purchasing an asset with
deferred price, either on the basis of muswamah or murbah ah, then selling it to a
third party so as to obtain cash. (BNM, 2010:224) Based on analysis that was made on
the arguments of both sides, the best option is to change the structure of qard wadah - rahn to tawarruq rahn, if the amount of financing is more than
RM50,000. The flow of structure can be shown based on following figure:
Figure 1: A suggested structure: An enhanced structure of tawarruq and rahn

The
process
shall takes
only 10
minutes

Broker A
Broker B

Institutio
n
1 4 5

Exemption of
credit
assessment

Exemption of
waklah fee

3
Client

1.

At the first stage, the customer approaches the institution for cash
financing. The institution then assesses customer's ability of engaging in
such contract. This stage is practically critical, because most ar-rahn
institutions are not assessing customer's credit ability in repaying the
debt. The absence of customer's credit assessment is a great turning point
for the success of this suggested structure. Thus, the exemption or very
minimal assessment, which takes very short time is a must condition.

2.

The institution buys a commodity from Broker A; normally, this process

of buying a commodity is done through Sq al-Sila or Commodity
Murbah

ah House. This trading platform that uses commodity such as

crude palm oil as the underlying commodity is introduced by Bursa
Malaysia in 2009 so as to facilitate Islamic financial transactions,
particularly the application of commodity murbah

ah which is based on
the principle of tawarruq. Usually, this process will include buying and
selling transactions in ten minutes, since it is applied through the system
in computer, as according to the respondent 4.

3.

The institution sells the commodity to the customer at a mark-up price,

and the customer pays the price in deferred payment basis, based on six
months or above according to the agreed terms and conditions of the
contract.

4.

The customer's jewelry is pawned to the bank based on rahn contract in

lieu of a debt, which he/she pays in the deferred time.

5.

The customer appoints the institution as his/her agent to sell the

commodity to a third party for getting the cash. This process is also
conducted through mechanism of Sq al-Sila, or Commodity
Murbah

ah House. Once again, at this stage the institution must find a

way for the exemption of waklah fee that is resulted from the
appointment of bank as the customer's agent. This fee may discourage
the customers as the institution is already making a profit from the markup price.

6.

As an agent, the institution sells the commodity to the third party, who is
known as broker B. But this time, the selling price is based on the
current market price that makes the difference of what customer should
pay to the institution.

7.

The difference that creates the cash will then be given straight away to
the customers, or credited into customer's account depending on agreed
financing.

This structure suggestively allows the institution to generate a legitimate

profit, as it does not involve qard as the underlying contract for profit
generating. In fact, the profit is purely generated from a mark-up sale via
tawarruq arrangement that the parties entered into. Nevertheless, this structure
associates the issue of organized tawarruq (tawarruq munazzam), which is
controversial in terms of its legitimacy. In principle, the majority of Sharicah
scholars approve the permissibility of the classical tawarruq contract.
However, they are far from unanimously agreeing with the legality of
organized tawarruq (tawarruq munazzam) as practiced in contemporary
Islamic finance. Those who allow it stipulate specific conditions to avoid
prohibited elements such as the three-way inah. The modern scholars who
reject the current practice of organized tawarruq argue that it is a legal trick to
circumvent the prohibition of riba. In counting back those arguments, this
selected structure shall depend on the following justifications:
i.An absence of ownership transfer
Many institutions are reluctant to own the jewelry that has been
transferred to their ownership contract due to the cost, and operational
risk's factors. On the other hand, the composite contract of tawarruq and
rahn as what is suggested in this work, does not involve the transfer of
the jewelrys ownership to the institution and this can reduce their risk of
markets deficiency for resale. The reselling of the jewelry can be harder
market for the institution to deal with, since it has now become a used
item and the buyer will perceive it as a cheaper item. This situation
occurs when the original seller fails to repurchase the sold jewelry in the
first contract of bay sarf, which has taken place earlier. It also reduces
the risk of the institution against losses resulting from the gold price
fluctuations in the market. Thus, this structure make the jewelry to be
functioned as a security to the commoditys trading activities executed at
bursa suq al-sila in a tawarruq contract, instead of just being an object
of matter.
ii.

The rahn based product should carry the real concept of ar-rahn
Although, there are various products sharing the same principles of
sharah, or products that have shared the same name by using different
sharah principles, yet it is hard to compare them with the product of
ar-rahn itself. The customers always perceive the rahn based product as
their source of instant cash. Thus, their jewelry held by the institution
cannot be considered as a transfer of an ownership, as it would alienate
the customers and discourage the policy makers of the institutions (as
what structured in bay sarf) in transferring an ownership. Either the
clients or the institutions does not perceive pawning as the main
contract, but rather a derivative mechanism to the contract of debt; this
perspective is in line with the original ruling of sharah about ar-rahn.
If the pawned jewelry is not deemed as collateral in lieu of a loan given,
but a contracted matter in a sale contract as what has proposed in bay alsarf,
then ar-rahn product is pointless as the product's label carries the

element of pawning. People will get jumbled if the term pawning only
appears as the products label, and afterwards the items ownership goes
through the legal impact that is affected by the product structure.
Therefore, the structure of the product must reflect the actual concept
that is supposedly meant for, or else it should be ready for the product
rebranding; it will cause transformation on a massive scale for hundreds
of the existing ar-rahn institutions. Alternatively, the jewelry is remained
as a security item for the main contract, either the debt or through sale
agreement if the structure of tawarruq - that is backed by rahn - is
executed.
iii.

The stronger connection of qard and sale

The Islamic scholars acknowledge that the structure used today has a
link with the prohibition of bay wa salaf as mentioned in the h adth.
Even though the connection between the concept of ujrah and qard
indirectly links to the product, yet it has a significant dependency upon
each other. This happens since the object is served for two different
contracts, which vary in nature and its contract objectiveness. Moreover,
some institutions have distinguished the rate of ujrah fee for the pawned
jewelry; with or without the offer of loan. For example, Ar-Rahnu of
Koperasi Perbadanan Melayu Johor (KPMNJ) charges RM0.15 as ujrah
fee for each of RM100 of marhn value without a need to borrow cash,
while imposing a higher rate of RM0.70-0.75 if a customer needs cash.
This clearly shows a significant relationship between determining
process of ujrah, and the amount of loan in debt contract that is offered
by the institution. Furthermore, a study done by Khir shows, that there is
an unnecessary inclusion of principles in the product which are ujrah
and wadah. He held that the unnecessary inclusion of a contract in a
deal is an indicator of the presence of a h ilah element (Khir, 2010), for
this particular case, the structures including the principles of ujrah and
wadah are unnecessary. This occurs since the original concept of rahn
has already covered the function of ujrah and wadah.

iv.

An instrument of tawarruq is not prohibited

One may argue that tawarruq structure has a problem from the
viewpoint of some contemporary fiqh scholars. However, the scholars
who disagree about the current practice of an organized tawarruq
claimed that it is a legal trick to escape the prohibition of rib. They took
the resolution of Majma Fiqh as a basis of their claim (The International
Council of the Islamic Fiqh Academy, 2009:13). In response, Laldin
(2014) insisted that the resolution of Majma Fiqh - which refers to the
prohibition of the use of tawarruq instrument - is not binding.
Furthermore, the contemporary scholars such as Shaykh Abd al-Sattar
Ab Ghuddah, Shaykh Niz m Yaqbiyy and Dr. Mohamed A. Elgari
disagreed with the ruling. This resolution is then being refuted by the
Shariah Standard 2010 that permitted such practice. (AOOIFI,
Monetization, 2010:528) There are many scholars who allow such

practice, as they claim that the current structure of tawarruq which is

implemented in the institution is excluded from what the resolution has
concluded. They define that tawarruq munazz am is an arrangement in
which the contracting parties have no choice, but to follow only the
specified transaction flow from head to toe; for instance, just as the
delivery or the sale of goods to the other parties is not allowed . (Hashim,
2014) For an instance, the commodity should be well identified so as to
become distinct from the other assets of the seller, or recording the
numbers of its identifying documents such as storing certificates.
(AOOIFI, Monetization, 2010:525) Based on an interview with
respondent 2, Profesor and Senior Researcher at International Shari'ah
Research Academy for Islamic Finance (ISRA) about tawarruq executed
in Malaysias financial institution, it was discussed that if the buyer at
any level has a complete freedom in tasarruf
- either to take delivery, or

sell goods to any party - then it is not included in the "tawarruq

munazz am".
The Bursa Suq al-Sila in Malaysia is given this liberty;

thus, his viewpoint of such practice is not included in tawarruq

munazz am.
Moreover, they also viewed that these instruments are

included in the category of makhrij1, which is supposed to be

temporary. (Hashim, 2014)
v.A permitted tawarruq structure shall fulfill the specific condition as resolved
by AOIFI Shariah Standard
AOIFI Shariah Standard had permitted such practice; general evidence
can be traced in the texts of the Quran and the Sunnah that permit sale
transaction. (AOOIFI, 2010) It has also been confirmed by two
resolutions issued by; the Islamic Fiqh Academy of the Muslim World
League; the Standing Committee of the Supreme Board of Sharia
Scholars of the Kingdom of Saudi Arabia (Fatwa No. 19297); as well as
the fatwas of several sharah supervisory board. Therefore, tawarruq is
an exit for avoiding rib rather than a trick for performing it, since it is
usually practiced by those who do not want to be involved in interestbased borrowing. It has been reported by Abd Allh Ibn Mubr ak that
Sayyidah 'ishah (God bless her) practiced it. However, its
permissibility depends on the specific condition that must be fulfilled by
the transacting parties. Among others are:
i.

The prohibition of composite contract between purchasing the

commodity and reselling them, which is justified by the fact that
joining them together would impose a commitment on the client to
sell the commodity right away. Hence, such immediate transfer of
the ownership of the commodity may not enable the client to
receive it. This is again the same reason for prohibition of proxyrelated commitment.

Makhrij refers to h iyal al-mubh ah which is means permitted h iyal. (Kuwait 1404-1427H: 36:241)
iyal specifically means the use of acumen and ingenuity to avoid difficulty in ones commitment to
Sharah rulings, especially in financial and economic matters . (Ashr, 1998:251)

ii.
iii.

iv.
v.

The permissibility of resorting to the proxy of the institution when

the client, by virtue of law, is unable to sell the commodity directly
is meant to safeguard the deal from being nullified by the law.
The ruling that institution should provide detailed information
about the commodity to the client, aims at preventing the fictitious
transactions and helping the client to obtain the liquidity. Such
requirement holds true; whether the subject matters are in the form
of a commodity, car, and shares of company, international goods,
or local goods. The latter are more suitable for monetization due to
the easiness of ensuring their existence and the chance available to
the client to actually hold them, if he so desires.
The ruling that the institution should provide the client with full
description or a sample of the commodity is actual, rather
fictitious.
Monetization should be subjected to strict controls and restrictions,
so that institutions fulfill the main objectives underlying their
presence and the interest of customers to make dealings with them.

6. Conclusion
In conclusion, this structure has manifest gains over other structures that have
been earlier debated. The use of rahn in this structure consistently meets the
purpose for which the rahn contract was constituted by the Sharah, i.e. as an
assurance contract. In this structure, profit generation is placed in the right
position, which is a trading contract, while ar-rahn remains a trust-based
security contract. Thus, this structure does not try to employ rahn for a
purpose that contravenes the very nature of the rahn contract, and its
objectiveness. As a result, this structure is ultimately safe from the prohibited
elements of bay wa salaf or qard jarra manfaah, which regularly arise from
the structures such as that of ijrah (additional exchange contracts), and arrahn contract. In addition, there is no conflict of muqtad a al-aqd between
wadah and rahn. This structure significantly enables the bank to generate a
legitimate profit, since it does not involve qard as the underlying contract for
profit generating. In fact, the profit is purely generated from a mark-up sale via
tawarruq arrangement that the parties enter into.
7. References
Guy Cook. 1989. Discourse, Oxford University Press: UK.
Khir, Mohamed Fairooz Abdul. 2012. " Critical Appraisal of the Rahn-Based
Islamic Microcredit Facility." Research Paper, the International
Shari'ah Research Academy for Islamic Finance (ISRA) No. 45/2012.
AOOIFI, 2010. Shariah Resolutions in Islamic Finance. 2. Kuala Lumpur:
Bank Negara Malaysia.

The International Council of the Islamic Fiqh Academy. 2009. "al-Tawarruq:

Haqiqatuhu wa Anwa`uhu." Chap. 179 in Majma al-Fiqh al-Islmiyy,
13. Sharjah.
Al-Nas'iyy, Ahmad bin Shuayb Ab Abd Rah mn. 1991. Sunan al-Nas'iyy.
Halab: Maktab al-Mat bat al-Islmiyyah.
Al-Sajastaniyy, Ab Dawd Sulaymn al-Ashas . d.275H. Sunnan Ab Dawd.
Riy: Dr al-Kutub Al-Arabiyy .