Islamic Modes:

Murabaha and Salam

Islamic Microfinance Workshop
CIBE Training Program
Muhammad Khaleequzzaman
Head Islamic MFIing & Finance
IIU Islamabad

Training Workshop Islamic Microfinance

ISLAMIC MODES/INSTRUMENTS:
Sale Contracts:

Murabaha/Murabahah to the Purchase Orderer

Salam/Parallel Salam
Istisna/Parallel istisna

Participatory Modes:

Mudarabah/Resource Mobilization
Musharakah/Diminishing Musharakah

Rent based Modes:

Operating ijarah
Ijarah wa iqtina

Training Workshop Islamic Microfinance

Sale Defined:
Exchange of a thing of value with another thing of
value with mutual consent OR the sale of a commodity
in exchange of cash.

Elements of a valid sale:

Contract ( Aqd )
Subject matter ( Mabee)
Price ( Thaman )
Possession or delivery ( Qabza )

Training Workshop Islamic Microfinance

Rules of Sale: [Sale Defined and Elements of Sale]
1. Subject must exist at the time of sale
2. Subject must be in the ownership of seller Physical or
constructive
3. Sale must be instant and absolute
[exception of above rules in Salam and Istisna]
4. Subject should be halal
5. Subject must be known and identified
6. Sale must be unconditional
7. Delivery of sold item must be certain
8. Price of subject must be certain

Risks and responsibilities attached with the subject

must transfer from seller to the purchaser as a result
of sale

Training Workshop Islamic Microfinance

Types of Islamic Sale

Bai muajjal
Murabaha
Musawama
Salam
Istisna

Murabaha:
Uses of Murabaha

Sale of raw material

Sale of cart

Sale of equipment

Sale of agricultural inputs

Sale of consumer goods

House material financing

Theory & Practice of Murabahah

Outline:
1. Murabahah Brief Historical Perspective
2. MFIing Murabahah/Murabahah to the
Purchase Orderer
3. Procedural details of Murabahah as practiced
by Islamic MFIs
4. Issues in Murabahah
5. Documentation

M. Khaleequzzaman IBF, IIUI

Theory & Practice of Murabahah

Murabahah Concept and Shariah Legitimacy
Murabahah defined:

Selling a commodity as per cost with a defined and agreed

margin of profit (Ribh)
Profit may be a percentage of the selling price or a lump sum.
The transaction may be concluded with or without any promise
to purchase by the client: Ordinary Murabahah / MFIing
Murabahah or Murabahah to the Purchase Orderer.

Shariah Legitimacy of Murabahah:

Quraan:

and
Sunnah:

It is no crime for you to seek the bounty of your

Lord [Surah Ale Imran: 198]

Allah has permitted trading

forbidden Riba [Surah Al-Baqarah: 275]
The Prophet (PBUH) purchased a she camel from Abu
Bakr (RAA) for use as transportation from Medinah...
M. Khaleequzzaman IBF, IIUI

Theory & Practice of Murabahah

Murabahah Historical perspective
Introduced as new form of sale in second half of First
Hijrah century as a sale with necessary condition of
declaring cost by the seller and agreeing on profit
margin by both the seller and the purchaser [AlMuwatta, Imam Malik]
Modifications were made by Imam Shafii, including an
order of the purchaser, who could subsequently
exercise the option not to purchase the same, and
also included credit transaction
He clearly bifurcated two sales transactions

M. Khaleequzzaman IBF, IIUI

Theory & Practice of Murabahah

Process Flow:
Negotiation/Approval of overall limit
MOU/Master Murabahah Facility Agreement
Requisition + Undertaking + Security Deposit (Hamish
jiddiyah - Optional) + Invoice
2

MFI

Client

MOU/Master MFA

Approval of Limit

Requisition, Undertaking, Sec. Dep.

2
M. Khaleequzzaman IBF, IIUI

Theory & Practice of Murabahah

Third party appointed as agent [Optional]
Clint can be appointed agent [case of dire need]
Payment to the Supplier Direct
Payment in Suppliers Name

MFIMFI

Invoice

Agent
(Client)

3
Receipt of Payment

Agency Agreement
Payment

2A

Agent
Client
(3rd Party)

2
1
3
2

Supplier
M. Khaleequzzaman IBF, IIUI

Theory & Practice of Murabahah

Possession

Payment to supplier
Discount of supplier/benefit to client
Title of goods
Transfer of risk and responsibilites

Risks and Responsibilities

MFI

Title

Supplier

Agent
(Client)

Goods

Agent
(3rd party)

M. Khaleequzzaman IBF, IIUI

Theory & Practice of Murabahah

Conclusion of Murabahah

Personal/group sec.

Offer to Purchase

Client

MFI
Acceptance of Offer

Receipt , Possession Report

Sec. Deposit/Hamish jiddiyah

3
DP Note

Payment of Murabahah Price

Murabahah Price

Client

MFI
Murabahah Terminates

2
M. Khaleequzzaman IBF, IIUI

Theory & Practice of Murabahah

Purchase of poultry feed stock

Murabahah transaction: Rs. 30,000

Murabahah Facility:
90 Days
Payment:
Each month
Rate of Profit:
15% p.a.
Freight:
5% of cost of goods
Security:
Personal/group
guarantee

M. Khaleequzzaman IBF, IIUI

Theory & Practice of Murabahah

Pricing of Murabahah [Example]:
Particulars

Amount (Rs.)

Cost of goods

Rs. 30,000

Rate of Profit

15% p.a.

Freight/Insurance

5% of cost

Total cost

30000 x 5%

Profit

31500 x 15% x 90/365 = 1165

Murabahah Price

31500+1165 = 32665

Installment

31500/3+1165/3 = 10888

30000 + 1500
=31500

M. Khaleequzzaman IBF, IIUI

Theory & Practice of Murabahah

Issues in Murabahah:

Unilateral promise/undertaking
Invoice in the name of MFI
Prior contractual relationship (customer and supplier)
Vendor being third party/blood relation/wholly owned
institution of customer [Buy back (Inah)]
Commitment or credit facility fee
Documentation charges
Hamish Jiddiyah/treatment/timing
Timing of promissory note
Rollover/Default in payment of price
Rebate on early payment
M. Khaleequzzaman IBF, IIUI

Theory & Practice of Murabahah

Documentation:
Murabahah Agreement and Allied Documents:

Parties to the Murabahah

Subject matter
Cost price
Profit Margin
Value Date Disbursement date of Cost Price
Contract price
Default clause/penalty
Right of set off i.r.o clients credit balance

Agency agreement as separate contract

Purchase Requisition
Invoice
Receipt of payment to the supplier
M. Khaleequzzaman IBF, IIUI

Theory & Practice of Murabahah

Documentation:

Declaration
Securities as per security documents
Demand Promissory Note
Schedule of payment

M. Khaleequzzaman IBF, IIUI

Theory & Practice of Murabahah

Risks in Murabahah:
Risks

Mitigants

Customer refuses to
purchase while holding
as agent

Promise, HJ,

Customer already
purchased from
supplier/wants
liquidity/Inah

Direct payment to supplier, date of invoice to

be after date of agency agreement, obtain
other documents gate pass, truck receipts,
physical inspection, etc.

Overdue installments

Penalty to go to charity

Default risk

Collateral/securities

Market (price) risk

Immediately supply the item

M. Khaleequzzaman IBF, IIUI

Theory & Practice of Murabahah

Some Applicable Guidelines from AAOIFI:
A. Measurement of asset value
At acquisition Measured and recorded at
historical cost.
After acquisition
Asset available for sale to client shall be
measured at historical cost
In case of default in payment of Murabahah price,
the asset shall be measured at cash equivalent
value
(ie. Net realizable value).
A provision to be created for decline in the asset
value (ie. Difference between acquisition cost and
the cash equivalent value).
M. Khaleequzzaman IBF, IIUI

Theory & Practice of Murabahah

Some Applicable Guidelines from AAOIFI:
B. Potential discount after acquisition
The discount shall not be considered as revenue
However it should reduce the cost of goods.
C. Profit recognition
Profit shall be recognized at the time of executing
contract if the term does not exceed the current
financial period.
Profits of credit sale whose payment is due after the
current financial period shall be recognized as per
following:
Proportionate allocation of profits
Profit may also be recognized as and when received.
M. Khaleequzzaman IBF, IIUI

Theory & Practice of Murabahah

Some Applicable Guidelines from AAOIFI:
D. Failure to fulfill promise having paid Hamish
Jiddiyah
Hamish Jiddiyah to be treated as liability on Islamic
MFI.
Treatment:
The amount of actual loss to be deducted from
Hamish Jiddiyah
E. Penalty Deposited in Charitable A/C on realization

M. Khaleequzzaman IBF, IIUI

Salam

Islamic Modes Agricultural Financing

Salam: Defined
A salam transaction is the purchase of a
commodity for deferred delivery in exchange for
immediate payment. It is a type of sale in which
the price, known as the salam capital, is paid at
the time of contracting while the delivery of the
item to be sold known as subject matter of salam
(al Muslam fihi) is deferred. Salam is also known
as Salaf (lit: borrowing)

Salam: Purposes
Liquidity needs of farm production
Working capital/Running Finance
Project finance (partial requirements)

Islamic Modes Agricultural Financing

Salam: Shariah Legitimacy

Allh says O ye who believe when you deal with

each other, in transactions involving future
obligations in a fixed period time, reduce them to
writing [Al Baqara Verse 282]
Ibn Abbas reported, the Prophet (PBUH) came to
Medina and found that people were selling dates
for deferred delivery (salam) after a duration of
one or two years. The Prophet (PBUH) said:
whoever pays for dates on a deferred delivery
basis (salam) should do so on the basis of
specified scale and weight [Bukhari and Muslim]

Islamic Modes Agricultural Financing

Wisdom of allowing Salam

Farmers, orchard owners, merchants can fulfill

their working capital and liquidity needs before
the commodity is ready to be sold

Three major problems and solutions

1.
2.
3.

Risk of default by seller [personal/group

guarantee/ hypothecation]
MFIs need to liquidate goods after delivery
[parallel salam]
Sellers inabillity to produce or procure
commodity [receive back the same price]

Islamic Modes Agricultural Financing

Salam:

An exception to the possession

A purchase contract opposite to Murabahah

Benefits both the seller and purchaser

Payment of full price at spot - otherwise selling debt for

debt

Allowed in commodities satisfying condition of Dhawatul

Amthal - quality and quantity can be specified exactly

Product of a particular field or farm cannot be sold

Quality and quantity decided in un ambiguous terms

Quantity should be agreed in specific terms (by weight,

volume or measure)

Islamic Modes Agricultural Financing

Salam:

Certain date and place of delivery

The commodity should remain in the market throughout the

period of contract [Different opinions]

The time of delivery should be sufficient to allow use of

salam capital conveniently and effect prices, preferably be at
least 15-30 days from the date of contract [Different
opinions]

A security/guarantee or is preferred as safeguard to the risk

of default

Only commodity is delivered and not the money

Islamic Modes Agricultural Financing

Salam: Alternatives Available to MFIs of

Taking Delivery of Commodity:

1. By establishing a subsidiary
2. By appointing the third party or client
its agent to sell the commodity
i.

The agency agreement should be

separate from the salam agreement
ii. If agent has been able to sell the
commodity at a price more than the
one agreed in agency agreement, agent
gets the difference

3. By opting for Parallel Salam or Third

party sales

Payment of Salam Price 1-1-07

Salam Contract Wheat 2000 kg.
Signed 1-1-07 Delivery 30-6-07
Sale Proceeds

MFI

3C

Farmer

Salam
Transaction

Agent

Delivery of Wheat 30-6-07

Sale Proceeds less Commission

Third Party
Purchaser

3A

Sale of Wheat

3B

Sale Proceeds

Salam Sale Contract 1-1-07, Wheat 2000kg.

2 Salam
Salam
Price
Price
Payment
Payment
1 June
1-1-0706

Parallel
Salam

Delivery of
Commodity
20 Dec
5-7-07
2006

Payment of Price
15-1-07

Purchaser/
Purchaser
Seller
MFI
MFI
2nd Salam Contract

Farmer
Client

Delivery of
Commodity
20
30-6-07
Dec 06

Third Party
Third Party
2nd Salam
2nd Salam
15 June 06
15-1-07

Salam Price Payment 1-1-07

Farmer

Delivery of
Commodity
30-6-07

Third Party
Promise

Purchaser
Seller
MFI

6
5

Delivery of
Commodity
5-7-07

15-1-07

Promise to Purchase

Salam Sale Contract 1-1-07

Pays 5-7-07

Third Party
Promise and
Payment

Islamic Modes Agricultural Financing

Rules of Parallel Salam and Third party

promise
Both the contracts viz. salam and parallel salam
must be independent of each other
Parallel salam is allowed only with third parties.
Therefore the original seller cannot be entered into
the parallel salam
The third party giving unilateral promise should
not pay the price as this is not allowed in Shariah
Examples of Products

THANKS