Instruments of Investment & Finance
Al-ajr
Refers to commission, fees or wages charged for services.
Bai al salam
Contract of sale of goods, where the price is paid in advance and the goods are delivered in the future.
Bai bithaman ajil
This contract refers to the sale of goods on a deferred payment basis. Equipment or goods (the assets) requested by the client are bought bt the bank, which subsequently sells the goods to the client at an agreed price (the sale price), which includes the bank’s mark-up (profit). The client may be allowed to settle payment by instalments within an agreed period, or in a lump sum. Similar to a murabaha contract, this is also a credit sale.
Gharar
The root GhRR denotes deception. Bay’al-gharar is an exchange in which there is an element of deception either through ignorance of the goods or the price, or through faulty description of the goods. According to Ibn Guzayy, there are several types of gharar exchange, all of which are illegal. The following tare examples:
• Selling goods that the seller is not in position to deliver, such as a runaway horse in the desert or an unborn calf sold separately from the mother.
• Selling unknown goods or known goods against an unknown price, such as selling the contents of a sealed box.
• Selling goods without proper description, such as a trader selling an unspecified suit of clothing in his shop.
• Selling goods without specifying the actual price, such as selling at ‘the going price’.
• Making a contract conditional on an unknown event, such as when my friend arrives, if the arrival time is not specified.
• Selling a hopelessly sick animal or the goods on a sinking ship
• Selling goods on the basis of a false description.
• Selling goods without proper examination.
In short, Bay’al-gharar is an exchange in which one or both parties stand to be deceived through ignorance of an essential element of exchange. Gambling is a form of gharar because the gambler is ignorant of the result of his gamble.
Ijara (Leasing)
A contract under which a bank buys and leases out for a rental fee equipment required by its client. The duration of the lease and rental fees are agreed in advance. Ownership of the equipment remains in the hands of the bank. The contract is a classical islamic financial one, now in increasing use worldwide.
Ijara wa-iqtina (lease/hire purchase)
Very similar to ijara, except that there is a commitment from the client to buy the equipment at the end of the rental period. It is pre-agreed that at the end of the lease period the client will buy the equipment at an agreed price from the bank, with rental fees previously paid constituting part of the price.
Istisna
A contract of acquisition of goods by specification or order, where the price is paid progressively in accordance with the progress of a job completion. This is practiced, for example, for purchase of houses to be constructed where the payments made to the developer or builder are according to the stage of work completed. In the case of bai al salam, the full payment, if made in advance to the seller, i.e. before delivery of the goods. In Islamic financing, the applications of bai al salam and Istisna are as purchasing mechanisms, whereas murabaha and bai bithaman ajil are for financing sales.
Murabaha (Cost-plus financing)
This is a contract of sale between the bank and its client for the sale of goods at a price which includes a profit margin agreed by both parties. As a financing technique it involves the purchase of goods by the bank as requested by the client. The goods are sold to the client with a mark-up. Repayment, usually in instalments, is specified in the contract.
Mudaraba (Trust financing)
This is an agreement made between two parties: one which provides 100 percent of the capital of the project and another party known as a mudarib, who manages the project using his entrepreneurial skills. Profits arising from the project are distributed according to a pre-determined ratio. Any losses accruing are borne by the provider of the capital. The provider of the capital has no control over the management of the project.
Musharaka (Partnership financing)
This Islamic financing technique involves a partnership between two parties who both provide capital towards the financing of a project. Both parties share profits on a pre-agreed ratio, but losses are shared on the basis of equity participation. Management of the project may be carried out by both the parties or by just one party. This is a very flexible partnership arrangement where the sharing of the profits and management can be negotiated and pre-agreed by all parties.
Qard ul hasan (A benevolent or good loan)
An interest free loan given either for welfare purposes or for bridging short term funding requirements. The borrower is required to pay only the amount borrowed.
Al-rahn
An arrangement whereby a valuable asset is placed as collateral for a debt. The collateral may be disposed off in the event of a default.
Riba
Literally, an increase or addition. Technically it denotes, in a loan transaction, any increase or advantage obtained by the lender as a condition of the loan. In a commodity exchange it denotes any disparity in the quantity or time of delivery.
Shariah
Islamic canon law derived from three sources – the Quran, the Hadith (sayings of the Prophet Muhammad), and the Sunnah (practice and traditions of the Prophet Muhammad)
Zakat (Religious tax)
There are two types of zakat:
• Zakat al-fitr, which is payable by every Muslim able to pay, at the end of Ramadan (the month of fasting) This is also called zakat al-nafs (poll tax)
• Zakat al maal is an annual levy on wealth of a Muslim (above a certain level). The rate paid differs according to the type of property owned. This tax is earmarked, amongst others, for the poor and needy.