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ShariahContractfor Islamic FinancInstrumentsChap 3 (Part 2)
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ESSENTIAL ELEMENTS (rukun) ANDCONDITIONS OF SHARIAH CONTRA
In order to make a contract valid, each type of contract usehave essential element and each essential element required bcontract must meet the necessary conditions outlined.
For the purpose of identifying the essential element, the typcontracts used in the Islamic finance have been categorized ifollowing:
Trading contracts
Participating contracts
Supporting contracts
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Trading contrac
Contract of sale
Contract of IjarahContract of Bay InahContract of Bay Dayn
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1. Contract of sale (Bay Bithaman AjMurabahah)
The most popular type of financing by almost every Ibank in Malaysia is Bay Bithaman Ajil (BBA)
In 1997, BIMB used BBA and Murabahah as its mainincome-generating products of up to 90.5 per cent oassets
Definition a sale contract in which the payment ofselling price is deferred to an agreed later date. Themerchandise exists at the time of contract.
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Modus operandi of BBA Contract
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The illustration above shows that how BBA works;
1. You pick an asset you would like to buy.
2. You then ask the bank for BBA and promise to buy the asset from t
through a resale at a mark-up price.
3. Bank buys the asset from the owner on cash basis.
4. Ownership of the goods passes to the bank.
5. Bank sells the goods, passes ownership to you at the mark-up pric
6. You pay the bank the mark-up price in instalments over a period of
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Essential elements of BBA/ Muraba
seller
Buyer
Item soldPrice
Contract
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Essential elements of BBA Contra
Essential element Conditions of essential element
a) seller There are 3 necessary conditions of se
buyer, as follows:1. Capable of taking responsibility2. Not prohibited from dealing with t3. No coercion is exerted on either of
b) buyer
c)Item sold (underlying asset) There are 6 conditions required underas follows:1. It must exist
2. It must be pure (halal) according to3. It must have use according to the S4. It must be owned by the seller5. It must be capable of being delivere
free from encumbrances6. It must be known and specific by a
description or specification
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Essential elements of BBA Contra
Essential element Conditions of essential element
d) Price There are 2 necessary conditions of pri1. Known currency2. Absolute amount
e) Contract (offer and acceptance) There are 3 necessary conditions of confollows;1. The offer and acceptance must be ab
definite and decisive language
2. The acceptance must agree with the 3. The offer and acceptance must be mand the same meeting
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Bay al Murabahah
As in BBA, a Murabahah transaction involves the sale of ga price which includes a profit margin agreed by both par
However, in Murabahah, the seller must let the buyer knoactual cost for the asset and the profit margin at the timsale agreement.
Usually, islamic banks used to apply BBA altogether withmurabahah in asset financing
The Islamic banking practice in Malaysia tends to confine long term asset financing and Murabahah to short & medterm financing
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Bay al-Salam Definition
Postponed/deferred
delivery sale
The sale of a
deferred item in
an exchange for
an immediate
price
Literally
A sale with an
immediate
payment to thseller while del
of the goods so
delayed until a
specified date i
future
Technically
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Essential elements in Bay al-Sala
Price
Must be fully paid in
cash during the time of
contract
Must be fully specified in
term of currency
In an absolute amount
Goods
The quality of
commodity must be
expressly specified
The quantity of the
commodity is agreed
upon in absolute terms
Cannot be effected on a
particular commodity or
on a product of a
particular field
D
The exact
of deliver
specified
Cannot b
specific c
respect o
which m
at spot
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Types of Bay al-Salam
Ordinary Salam contract It involves only two
transacting parties which isthe buyer (musallim) andthe seller (musallam ilayh)
Parallel Salam Contrac It is a contractual
arrangement that coof two different andindependent contrac
in which the bank is And the other in wh
bank is a seller
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Application of Salam Contract inContemporary Islamic Finance
Is typically used in short-term financing and also could beemployed for a longer term financing
The salam and parallel salam are among the most effectivfinancing tools available for IFIs, particularly in providing financing services for small and needy farmers
May lies benefit for both contracting parties: the bank (buand the farmers (sellers)
The bank can bargain with the farmers for price less thanprice whereas the seller will have funds to enable him to pthe commodities according to specified quantity and qualit
M d di f B l S l
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Modus operandi of Bay al-SalamAgricultural Financing
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2. Contract of Ijarah
Ijarah contract is a form of exchange contract (`aqd mu`awadah) usufruct vs rent.
Ijarah is a contract that results in the transfer of theto use (usufruct).
The ownership of the asset remains with the owner c
lessor. In practice, ijarah can be used as operating lease or le
contract with an option to purchase al ijarah thumbay` (AITAB)
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Modus operandi of Ijarah
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Modus operandi of AITAB
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Modus operandi of AITAB Ijarah Thumma Bai is normally used in financing consumer goods especially m
There are two separate contracts involved: Ijarah contract (leasing/renting) an(purchase).
The contracts are made one after the other as shown in the diagram above:
Here is how it works:
1. You pick a car you would like to have.
2. You ask the bank for Ijarah of the car, pay the deposit for the car and promfrom the bank after the bank has bought the car.
3. Bank pays the seller for the car.
4. Seller passes ownership of the car to the bank.
5. Bank leases the car to you.
6. You pay Ijarah rentals over a period.
7. At end of the leasing period, the bank sells the car to you at the agreed sale
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Essential element of Ijarah
Ijarah
lessor
lessee
property
benefit
Rental
amount
contract
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Essential element of Ijarah
Essential element Conditions of essential element
a) Lessor There are 3 necessary conditions of lessor anas follows:1. Capable of taking responsibility2. Not prohibited from dealing with their pro3. No coercion is exerted on either of them
b) Lessee
c) Property There are 4 necessary conditions of the propfollows:
1. It must be owned by the lessor2. It must be ready for use3. It must be delivered to the lessee4. It must be specific by address, description
specification
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Essential element of Ijarah
Essential element Conditions of Essential element
d) Benefit There are 5 necessary conditions of benefitare;1. It must be permissible2. It can be fixed in value3. The lessor has the power and capability
the benefit and allow the lessee to use thproperty
4. It must be specified5. The benefit must not be a material part
property
e) Rental amount There are 2 necessary conditions of price 1. Known currency2. Absolute amount
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Essential element of IjarahEssential element Conditions of Essential element
f) Contract (offer and acceptance) There are 3 necessary conditiocontract as follows:1. The offer & acceptance mus
absolute and in definite andlanguage
2. The acceptance must agree offer
3. The offer & acceptance musat the one and the same m
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Shariah contracts involved in AITAB con
1. Ijarah contracta contract whereby the lessor (Islam
bank) will rent the asset to the lessee (customer) ovecertain period and at a monthly rental amount as aby both parties
2. Al-bay contract upon completion of the rental peupon early settlement, the lessor will then enter into
sale contract with the lessee to sell the asset at a preselling price
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Issues/challenges in operation of AITA(Oct 10 Q5(a)(iii))
1) Customer awareness
- customers do not really understand the differences between Aand conventional hire purchase. Customers also do not aware on thdistinction of AITAB as a Shariahcompliant product
2) Lack of experiences among bank officers
- many of them proclaim that both Ijarah and AITAB is similaespecially with regards to its document, procedure and governance
3) Competition in the market
- how to penetrate the market. As a new product, AITAB facedchallenge on how it can be offer at a lower cost compared to itscounterpart since AITAB require more paper documents and papethat have to be filled
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Contd..
4) ShariahFramework
- the basic operation of AITAB in effect is similar toconventional hire purchase, the only differences is the isinterest (riba) and issuance of acceptance (aqad) letter. regards to determination of fixed rate, standarddocumentation, and formation of agreement, AITAB
transactions follows the same spirit of Hire Purchase Ac
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3. Contract of Bay al-Inah Bay Inah conceptually refers to a sale of an asset, which i
repurchased at a different price, whereby the deferred prhigher than cash price
Is permissible based on analogy, the contract is similar to sale and purchase contract i.e transfer of ownership is tak
the majority view that such a sale is forbidden. They are HMalikis, Hambalis and some Shafiis.
Imam ShafiI, Abu Yusuf, Abu Daud, and Abu Thur, are ofview that this contract of sale is not contrary to Shariahprinciples.
SAC of BNM resolved the Bay al-Inah is still necessary inMalaysian context.
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Essential elements of Bay al-Ina
Seller
Buyer
goodsSighah
Price
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Conditions required for Bay al-In
Bai al-inah is permissible subject to the following condition:
i. There must be two separate contracts properly executed
ii. The transacted item must not be a ribawi material in the medium
iii. Payments of the price in the banks purchase contract must be on
iv. There must be real and valid taking possession of subject matter i
contractv. Allocation of the property as the subject matter of the contract m
and reasonable according to market price
vi. The first contract must be executed at the start before entering incontract
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Application.
Bay al-Inah has been used to construct numerous fin
product offered by the bank in Malaysia:a. Personal financing
b. Working capital financing
c. Istisna between 2 parties
d. Islamic credit card
e. BBA financing products
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Contract of Bay al-Dayn (Debt trad
A sale contract in which the creditor sells his payable
upon the debtor either to the debtor himself or to a party at discount or at cost price on the spot payme
The legality of bay al-dayn depends on its types whidetermined by the number of parties involved (whethor three), the party to whom the debt is sold (wheth
debtor or non-debtor) and the modes of delivery (onbasis or credit basis)
S l f d bt t th d bt d
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Sale of debt to the debtor and nondebtor
Illustration of the sale of debt
to the debtor Ahmad owes Muhammad
RM1000 and Muhammadsells the debt to Ahmad fora portion of the land ownedby Ahmad.
Illustration of the sale
to the non-debtor Yusuf owes Ahmad
RM5,000. Ahmad ththe debt (RM5,000)for a motorbike on abasis.
Th i t f Sh i h
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The requirement of Shariah concernBay al-Dayn
1. A debt must have been created through a contract o
deferred payment sale of goods or service.2. The goods must have been delivered or the service m
have been rendered.
3. The trading of debt must be on cash term
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Bay al-Sarf
Transactions of exchanging one currency with a simil
another currency For example, to buy 100 Ringgit Malaysia with an ex
of 1000 Thai Baht
Bay al-Sarf is applicable to modern spot forex whichbased on the spot rate in which the deal settlement iexpected to be completed within two business days afcontract has been executed
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Basic rules and conditions of Bay al Since trading currency involves ribawi items, it is always
to the Islamic rules in order to avoid occurrence of riba There are basic rules and conditions that needs to follow:
1. If the exchange is between the same type of currency, forexample gold for gold, it follows:
- equal quantity or weight regardless of quality
- must be on the spot basis2. If the exchange is between the two different types of curr
for example gold for silver, RM with IDR,
- the exchange must be on the spot basis
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Qardul Hassan A contract where a creditor (lender) transfers a specified property
borrower (debtor) and the debtor would have to return the similaback to its owner (creditor) when it is due with no additional amoimposed.
The word qardh is derived from Arabic qirad means to cut
Also called as qard, as it cuts certain part of the lenders propertyloan to the borrower.
Hassan is derived from the word ihsan means kindness to oth
The term Qard al-Hassan means beneficial loan or benevolent loanloan, interest free loan.
This loan is normally given for charity purposes or for short term requirements.
Therefore, the borrower is obliged to pay only the amount borrow
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Objective of Qardul Hassan
To help the needy fellow
people.
To establish better
relationship among poor
and the rich.
The mobiliz
among al
s
To perform a good deed
that is encouraged and
appreciated by the
Almighty Allah and His
Messenger.
To facilitate the poor to
create new jobs market and
business ventures by using
their merits, skills and
expertise.
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Conditions that need to be fulfille
Both contracts should
be legally capable to
enter into the qard
contract
Ijab and qabul of the
qard must be clearly
made before entering
into the loan contract
Both parti
provide w
Both of the partiesinvolve must not
hesitate to document
all details
The lender must notimpose any extra
payment in the
contract
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Individual assignment 2
Jan 2013: i) Q1 (b),
ii) Q2 (b)
iii) Q5 (b)
Jun 2012: i) Q1 (b), (d)
ii) Q2 (c) Jan 2012: Q5 (a) and (c)
Oct 2010: Q1
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End of chap 3 partAny questions?