Professional Documents
Culture Documents
INTRODUCTION
Islam is the latest religion and a complete code of life. Islam helps us in every
walk of life including the financial dealing in the society. If we follow Quran and
Sunnah, we shall get a clear picture of banking system. Interest is the heart of
conventional economy, but in Islam interest is declared Haram (forbidden).
“Those who devour usury (riba) will not stand except as stands
one whom the Evil One by his touch hath driven to madness.
That is because they say, trade is like usury, but Allah hath
permitted trade and forbidden usury”.
In the early years of Islam, the products offered were basic and founded on
conventional banking products, but in the last few years the Islamic banking started
development of new products and services.
Keeping in mind the great demand of Islamic banking in not only in Muslim
countries but also in Western countries many conventional banks are
showing interest in entering the market of Islamic financial
products. Unfortunately, what I observed is that Islamic banking products are
unknown to most of the people in the world even in Muslim countries, and poorly
understood by many banking staff. In this report I tried to shed some light on different
products offered by Islamic banking system I mean Shariah, as substitute for those
offered by conventional banks. I will try to describe that how these products differ
from conventional banking products. This report will guide banking staff and
common people about Islamic banking products.
• Interest rates
• Income inequality
b) The functions and operating modes of b) The functions and operating modes of
conventional banks are based on Islamic banks are based on the principles
principles made by man. of Islamic Shariah.
e) Conventional bank has to guarantee all e) Islamic bank can never guarantee all its
its deposits. deposits.
DIFFERENT PRODUCTS OFFERED BY ISLAMIC BANKS
For day to day banking activities, a number of financial instruments have been
developed that satisfy the Islamic doctrine and provide acceptable financial returns for
investors. One of the best ways to understand Islamic banking is to understand the
products that are considered acceptable in Islam. Islamic banking products are an
acceptable stepping stone towards an ideal solution to deal with the conventional
banking system. Most of these are covered below.
MUDARABAH
In Islamic Banking, the financers should not only evaluate the financial merits
of investment opportunities, but also structure the investment to remain with in the
boundaries of Islamic Sharia. Sharia law prohibits lending money at interest for
businesses as investment. Because of Sharia restriction, the Rab ul Mal becomes a
shareholder in the organization. Sharia laws impose an obligation on the individual or
organization making the investment to ensure the money will be used only for moral
purposes. But in conventional banking there is no restriction like this. The
requirement, however, does preclude investing in firms involved with alcohol
production, defence, the production of pork products, gambling, or pornography as
defined under Sharia interpretations.
Example of Mudarabah
In Arabic, the word Musharakah means sharing. There are a number of rules
in Sharıa regarding partnership contracts, the rights and obligations of parties, and
rules for sharing profits and losses. In terms of business we can classify Musharakah
contract as joint ventures in which the business operator and the capital provider
jointly supply capital, in which profits is shared on an agreed ratio and losses are
divided according to the capital contributions. This concept is different from fixed
income investing, and it is an ideal alternative for the interest based financing with far
reaching effects on production and supply. Capital provider can subsequently sell the
equity ownership for a profit or can even hold the equity stake in the firm and receive
a portion of the profits.
There is no doubt that the Musharaka contract is one of the most popular
financial tools in Islamic finance industry. It avoids the above mentioned sicknesses
of the conventional economy.
MURABAHA H (Cost Plus)
Murabahah can not be used as a mode of financing except where the client
needs funds to actually purchase some commodities. For example cotton as a raw
material for ginning factory, import of goods or house. The financer must have owned
this commodity before he sells it to his client. This means bank can also use
Murabahah as a financing technique.
The following criteria are used when calculating the price that the client has to
pay and monthly instalments that are be required to make throughout the mortgage
term:
TAKAFUL
Being a Muslim it is our believe that everything that happens is by the will of
Allah swt. Similarly any accident or misfortune that befalls us (resulting in losses) is
by the will of Allah. Insurance means to reduce the risk of loss due to misfortunes or
accidents. In this modern world the way to reduce the losses is through insurance.
Thus, Conventional insurance involves the elements of uncertainty, gambling and
Riba that is why conventional insurance is Haram as agreed by most Islamic scholars.
It is generally accepted by Muslim Jurists that the operation of conventional insurance
does not conform to the rules of Shariah.
Islam focuses on to reduce the risk first, for example, during the Hijrah,
Prophet (PBUH) went to hide the caves first instead of going straight to Madina. He
asked the companions to migrate to Madina by batches instead of one big group. This
was to reduce the risk of theft. Similarly when Prophet (PBUH) went to war, he put
on his armour instead of wearing light cloths. This means Islam teaches to reduce the
risk not gambling or uncertainty.
In conventional leasing leaser will receive rent even if the lessee could not
obtain any benefit from the leased item. Since the lesser, in an Islamic lease
(ijarah) bears all ownership responsibilities, in the event of loses without the
lessee’s fault or his negligence, the leaser helps the lessee in the form of rent
discontinues. In conventional leasing the leaser is a passive financer who
transfers all responsibilities of maintenance etc to the lessee, but in Ijarah
leaser retains the responsibility of major maintenance.
Ijarah is validated by the Quran and Sunnah. Several verses are found in the
Quran (Alkahf, 77; Alqasas, 26; Altalaq, 65-6) on the worker’s entitlement to a wage.
Prophet (PBUH) advised to the employer,
“Pay the employee his wages before his sweat dries up”
Ijarah Wa Iqtina
Sukuk is the Arabic name for a financial certificate, but commonly refers to
the Islamic equivalent of bond. Evidences show sukuk bonds were used in early days
of Islam for transferring financial obligations in trade and other commercial
businesses. Sukuk securities are structured to comply with the Islamic law and its
investment principles, which prohibit the charging, or paying of interest. A
conventional bond on the other hand involves Riba so it is not permitted. Sukuk has
the advantage of competitive pricing over the conventional bonds, as a risk mitigation
structure.
Sukuk represents the ownership of an asset or its usufruct, the claim involved
in sukuk is not simply the claim of cash flow but an ownership claim as well.
Conventional bonds are just interest bearing securities. But sukuk holders claim an
undivided beneficial ownership in underlying asset, as well as they are entitled to
share in the revenues generated by the sukuk assets.
Sukuk may be issued on existing as well as specific assets that may become
available in the future. Sukuk can be structured alongside different techniques. While
a conventional bond is a promise to repay a loan, Sukuk constitutes partial ownership
in a debt (Sukuk Murabaha), asset (Sukuk Al Ijara), project (Sukuk Al Istisna),
business (Sukuk Al Musharaka), or investment (Sukuk Al Istithmar). The most
acceptable structure which is tradable, is the Sukuk Al Ijara.
Benefits of Sukuk
• Best way of financing large enterprises that are beyond the ability of single
party to finance.
• Ideal means for the investors seeking to deploy streams of capital and who
require at the same time, the ability to liquidate their position with ease
whenever they need should arise.
• Excellent way of managing liquidity for banks and Islamic financial
institutions. When they are in need of disposing of excess liquidity they may
purchase sukuk, and voice versa.
• Means for the equitable distribution of wealth, as sukuks allow all the
investors to benefit from the true profit resulting from the enterprise in equal
shares.
SALAM
Holly Prophet (PBUH) has permitted a trade, where the price of a well defined
object is paid in full at the time of agreement, and which is delivered after a specified
period of time. This advance payment of the price allows the farmers to buy seeds,
spend for their own sustenance, etc. Salam contracts are considered to be one of the
most important means provided by the Islamic financial system as an alternative to
loaning or financing.
The word Salam means, to hand over or deliver. In my own opinion, the term
Salam can be defined as,
Partial payment is not allowed as it would mean the use of credit which is
prohibited in this context. Full payment eliminates in a way the element of Gharar on
the side of the buyer. The objects of this sale are goods and cannot be gold, silver, or
currencies based on these metals. Salam covers almost everything that is capable of
being definitely described as to quantity, quality, time and place the goods are to be
delivered.
In counterpart of salam named forward contract, the riba is the core part. Party
(buyer) who pays in advance gets a specified percentage of interest regardless of the
economic position of the other party, and it is not acceptable in Islam. Salam is the
future delivery of the commodity at lower cost. Salam addresses the necessity of the
liquidity and protection of the rights of the buyer, and it removes the liquidity
shortage.
Shariah rules for Salam
It can be defined as
"A loan which is returned at the end of the agreed period without
any interest or share in the profit or loss of the business."
Qard is derived from Arabic word qirad which means to deduct. In financial
terms it means to cut a certain part of the money by giving loan to the borrower.
Hasan is also derived from an Arabic word ihsan which means kindness to others.
Thus the term qard hasan means beneficial or benevolent loan, interest free loan or
good loan etc.
So, Qard Hasan is a kind of good loan given to the needy people for a fixed
period of time without interest or share in profit. The receiver of this is only required
to repay the original amount of the loan. On the other hand conventional loans are
given at a specified annual percentage ratio (APR), which the borrower has to pay
even if his purpose of borrowing is failed.
CONCLUSION
Foundation, Liecester.
Iqbal Khan, (2007). “Islamic finance; Relevance and growth in modern financial age”.
Haron, S. & Azmi W.N.W. (2009). Islamic finance and banking system”. Mc Graw
Jeddah
www.misys.com
Sole, Juan, (2007), “Prospects and Challenges for Developing Bond and Sukuk
Islamic Method of Financing”. Arab Law Quarterly, Vol. 14. pp. 203-220