Introduction to Salam

Bai Salam is a form of forward contract when the price for an asset is fully paid in
advance at the time of the contract for an asset or commodity to be delivered at some future
dates.
Three basic conditions of sale
 Firstly, the asset must exist.
 Secondly, the seller should have acquired the ownership of that asset. Therefore, if the
asset exists, but the seller does not own it, he has no right to sell it.
 Thirdly, only the ownership is not enough. The seller must of the possession, either
physically or constructively.
The only exception to this rule is the contract of Bai Salam (Trust Sale) and BaiIstisna
(Order Sale). These two contracts deal with the sale transaction involving an asset which is at
the point of contract, is non-existence.

1. Purpose
When riba is declared haram by Allah, farmers of Madinah could not take riba base loan.
At that time Holy Prophet (PBUH) allowed them to sell their produce in advance and to take
fullpayment at the time of contract which is clearly defined in Hadith
“Whoever pays money in advance (for fruits) (to be delivered later) should pay it for a known
quality, specified measure and weight (of dates or fruit) of course along with the price and
time of delivery”1

2. Conditions
 Price of product would be paid in cash, immediate and full at the time of contract. In
the absence of full payment it will be same as to sale of debt against a debt, which is
expressly prohibited by Holy Prophet (PBUH). The basic purpose of Salam is to
fulfill the instant need of seller.2
 The object of the exchange must be fungible i.e. can be specified according to weight,
size, volume, color, quantity, quality or grade. For example, precious stones cannot be
sold on the basis of Salam, because every piece of precious stones is normally

1
Imam Bukhari, Muslim
2
MeezanBank’s Guide to Islamic Banking by Dr. Muhammad Imran Ashraf Usmani
 different from the other either in its quality or in its size or weight and their exact
specification is not generally possible.
 The place, price and time of the delivery must be specified. Delivery in installments is
allowed, if agreed by all parties.
 The item should be available in the market till the time of contract to delivery or at
least till the date of delivery. Because, in case of any mishap seller make sure the
delivery by purchasing that item from market.
 The seller at the time of delivery delivers commodity and not money to the buyer.

3. Cancellation of the Salam Sale

This means to terminate the contract by returning the price to the buyer and the
commodity to the seller when the buyer receives the price. It is unanimously permissible if
the return is full otherwise it would not be allowed. A partial return is acceptable according to
Abu Haneefa and shafiand a unacceptable according to Ahmed as reported by IbnRushd
reported, it should not less or more than the thing meant otherwise it be invalid.
3.1 In case of Death: The majority of fuqaha think that deferred debts, honoured by trust,
can be incumbent when the debtor dies. One of these is the salam (salamfeehi).
Al Kasany said: .If the seller dies before the specified date of delivery the debt must be
incumbent upon this inheritance and these fore the inheritors have to fulfill.3

4. Salam in Pakistan
Traditional Islamic Banks are not providing any Salam base product however almost all
Islamic Banking Branches (IBBs) are providing Salam base product in agriculture such as
Islamic Divisions of
Askari Bank ltd
Bank Alfalah ltd
Soneri Bank ltd
UBL Ameen ltd

5. Application
Salam can be used for facilitating farmer customers who need working capital/ running
finance. The purchaser has an advantage of purchasing particular commodity at a relatively

3
The Salam Sale Contract in Jurisprudence and Practice Issued by: The Fatwa and Research Department
lower price. On the other hand, the seller gets early price of those items / commodities which
have not been produced yet. This may help him meet the working capital requirements.
Agriculture is broadly classified into crop and non-crop sectors. The two sectors are
quite different in terms of financing requirements and cash flows. IBIs are involved in
agriculture financing for both the sectors.
5.1 Crop Sector:Financing for raising crops or horticulture by the farming community is
classified under the crop sector credit. There are two main cropping seasons: Rabi and Kharif.
The period for Kharif crops starts from March to August. The important Kharif crops are
cotton, rice, sugarcane, Maize, Jawar and Bajra. The period from September to February is
Rabi’ season and main crops of the season are wheat, Barley, Gram and Mustard seeds.
Banks provide credit facility in crop/farm sector for production i.e. financing for purchase of
inputs or working capital which is Salam based and, development purposes i.e. financing for
the purchase of equipments or other long term investments at the farm.4.
5.2 Non Crop Sector:Financing for non-crop farming activities like livestock, fisheries,
poultry, sericulture, apiculture etc. is classified under non-crop sector credit. Banks provide
finance to farmers to meet financing needs of production as well as development under this
category.

6. Procedure and Mechanism

Whenever a farmer requires financing for cultivation or development of crops, he will
go to the bank and ask for some financing services. Instead of providing loan, as conventional
banks, the Islamic bank will make a future sale agreement with the customer which is known
as Salam agreement. That agreement covers following salient aspects:
 The agreement describes complete specifications of the commodity, sale price and
date and place of delivery
 Collateral or mortgage is decided.
 Conditions of default and termination are described and by this Initial Salam
Agreement is signed in the presence of witnesses(two by bank and two by farmer).
6.1 Eligibility of Customer
 Customer should be a holder of computerized NIC while usual requirements for
corporate clients would apply.
 Customer should not be a defaulter of any IBI / financial institution.

4
Guidelines on Islamic Financing for Agriculture by State Bank of Pakistan
  IBI is satisfied and feels comfortable with the farmer and guarantors (where
applicable) identity character, reputation and creditworthiness.5
6.2 Pricing Strategy: In Salam agreement, there is no standardized parameter for
determining the price of the commodity so the price is decided on the basis of negotiation
between Bank (buyer) and farmer (Seller). The price is by keeping following aspects
 Price of commodity is taken by daily Index price (Newspapers).
 The price of the commodity, delivered in future date is decided. This is always less
than the Index price.
Example:
Working Capital Required (Farmer):Rs. 10,000
Price of Wheat (Index Price):Rs. 500/ per bag (1 bag = 40 kg)
Negotiable Price of Wheat:Rs.350/ per bag*
According to this negotiation farmer will be liable to deliver 29 bags when the crop is
harvested on the specified future date.
*Fees and expenses incurred in preparation and execution of the Principal Documents.
6.3 Written Offer: after deciding all the matters mention in above Initial Salam
Agreement, the farmer gives a written offer for the sale of goods at the negotiated prices to
ensure the delivery it also includes
 Description of the Goods
 Validity of the Offer
 Delivery Date
 Terms of delivery
 Place of delivery
6.4 Delivery Notice:when crops are harvested then farmer issues a delivery notice in the
name of institution. After receiving delivery notice bank sends field manager for the
inspection of the product. Delivery notice includes
 Delivery Date
 Place of delivery
 Description of the Goods
 Additional remarks (if any)
6.5 Goods Receiving Notice: after receiving the product, bank sends receiving notice to
the farmer or supplier for ensuring the delivery of the specified product.
5
State bank of Pakistan
 6.6 Sale to Third Party
When products have been delivered by the seller (farmer) then bank have to sell the
products to the third party this sale is carried by two ways
 Parallel Salam
 Agency Agreement with the farmer (Banks prefer this way of selling).
6.6.1 Parallel Salam: After the execution of Salam agreement with one party, buyer
or seller executes another Salam agreement with third party,
Conditions for Parallel Salam:
 There must be two different and independent contracts, these two contracts cannot be
tied up and performance of one should not be contingent on the other.
 Parallel Salam is allowed with third party only.
6.6.2 Agency Agreement: After the delivery Bank signs a new agreement with the supplier
(farmer) and hires him as agent for the sale of product to third party.At this stage
Bank has a contractual possession of product. Agent sells product on the behalf of
Bank. Agent specifies his incentive in sale for his efforts with consent of Bank.

Figure (1) of whole Mechanism

1.Salam Agreement

2. Written Offer

Seller 3. Delivery Notice Bank

4. Receiving Notice

5. Agency Agreement

7. Risks Involved in Salam

Under this principle, the bank always acts as a purchaser and it pays the agreed price to the
farmer (seller) upon signing of contract.  The goods are then delivered to the bank on the
predefined future date and after this bank act as a seller. The risks involved in the mentioned
transaction are as below:

 Market Risk: Since the delivery of goods/crops is on future basis, so at the time of
delivery price of commodity can be less than the price of purchase.
 Delivery Risk: The goods/crops are not delivered to the bank on pre-agreed date or
are not according to the agreed specification.
 Credit Risk:if the supplier (Farmer) is unable to deliver the product then bank can
mitigate the credit risk by keeping the property of supplier as collateral.
 Risk of Damage: after delivery, product is in bank’s possession either physical or
contractive. If any damage occurs without the negligence of agent, bank has to bear
the risk. To mitigate risk bank will insure the product by agreement with Takaful
Agency.

8. Scope and Potential of Salam

The Salam sale has the flexibility to cover the needs of various sectors of people such
as farmers, industrialists, contractors, exporters or traders. It can be used to meet the
capital requirements as well as to meet the cost of operations.
 Salam sale is suitable to finance the agricultural operations where the bank can
transact with farmers who are expected to have the commodity in penalty during
harvest either from their own crops or crops of others, which they can buy and deliver
in case their crops fail. Thus the bank renders great services to the farmers in their
way to achieve their production targets.
 Salam sale is also used to finance the commercial and industrial activities, especially
in phases prior to production and export of commodities and that is purchasing it on
Salam and marketing them for lucrative prices.
 The bank in financing craftsman and small producers applies the Salam sale by
supplying them with the inputs of production as a Salam capital in exchange of some
for their commodities to market.
 9. Conditions of Agriculture Finance in Pakistan
Agriculture constitutes the largest sector of our economy. Majority of the
population, directly or indirectly, dependent on this sector. It contributes about 24
percent of Gross Domestic Product (GDP) and accounts for half of employed labor
force.6 There is a great scope in the agriculture financing for Islamic Banks.
In Pakistan, there are more than 700 Islamic Bank branches but if we take a
look at products and services offered by Islamic Banks, Salam is only 1% of total
operations in 2009. But if we look at the figures of last years, we came to know that,
instead of increment in this percentage there is a decrease from 2%(2007-08) to
1%(2009).According to Islamic banks moral hazards is the main reason of not
financing in this sector. But according to our opinion banks should not rely on
assumptions only but need to invest the short portion of their investment and then
decide whether to invest or not.
Islamic Banking Products and Services7

6
Federal Bureau of Statistics
7
State bank of Pakistan