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Islamic Law of Contracts and Business Transactions
Sigit S.Wibowo
September 19th , 2008
Sigit S.Wibowo () Prog. Ekstensi Manajemen-FEUI September 19th , 2008 1 / 25
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Contents
1 Introduction
2 Mal (Wealth), Usufruct and Ownership
3 General Framework of Contracts
4
Elements of a Contract5 Broad Rules for the Validity of Muamalat
6 Wadah (Promise) and Related Matters
7 Types of Contracts
8 Commutative and Noncommutative Contracts9 Conditional or Contingent Contracts
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Introduction
Islam considers the property of people as sacred and inviolable astheir life and honour
Islam forbids the unlawful devouring of others property by way oftheft, embezzlement, usurpation, bribery, cheating and all otherunlawful means of acquiring wealth
These proscriptions are in addition to the main prohibitions like Riba,Gharar and Qimar
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Mal (Wealth), Usufruct and Ownership
Contracts deal with goods/wealth (Mal), usufruct of goods andtransfer of ownership of the goods/usufruct from one to another party
Wealth is anything that is useable and has legal and material value forthe people
valuepossessablelegitimate useabstract and intangible rightsduciary money (a medium of exchange)
Mal or property in Islamic commercial lawmovable and immovablefungible and nonfungiblenally determinate (Ain) and indeterminate (Dayn)
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Mal (Wealth), Usufruct and Ownership (contd)
With respect to the exchange of goods, Islamic law distinguishesbetween Mabi (the subject of sale) and Thaman (price)
Ownership can be any of the following categories of assets and can beacquired through contracts, succession or addition to the existingowned assets of someone
Ownership of assets (Milk ulAin)!denite and not related to timeOwnership of debt (Milk ud Dayn)Ownership of usufruct (Milk ul Manfat)!related to time
An important categorization of goods
fungible goods (Zwatul Amthal or Mithli), e.g. Salamnonfungible goods (Zwatul Qiyam or Qimi), e.g. Istisnaa
Sale and buy-back (Bai al Inah) is prohibited according to themajority of jurists, sale and lease-back is allowed by almost all
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Dening Various Related Terms
MithaqA covenant and refers to an earnest and rm determination on the partof the concerned parties to full the contractual obligations; it hasmore sanctity than ordinary contracts
Ahd or Wadah
a unilateral promise or an undertaking, although sometimes it alsocovers a bilateral obligation
Aqd (Contract)
the existence of two parties; the issuance of an outward act depicting
internal willingness; an oer (Ijab) and acceptance (Qabul). Further,there must be a legal union between the two declarations regarding thesubject matter or the contractual obligationsimplies obligation arising out of a mutual agreement
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Dening Various Related Terms (contd)
Aqd is used in two senses
in the general sense, it is applied to every act which is undertaken inearnestness and with rm determination, regardless of whether itemerges from a unilateral intention or from a mutual agreementin the specic sense, it is a combination of an oer (Ijab) andacceptance (Qabul), which gives rise to certain legal consequences
Islamic law relating to business generally deals with Ahd/Wadah(promise) and Aqd (contract)
Islamic nancial institutions presently enter into promises in respect ofa number of transactions, for instance:
Murabaha to Purchase OrdererIjarah Muntahia-bi-TamleekSale and lease-backDiminishing MusharakahDisposal of goods purchased through SalamDisposal of assets manufactured/constructed under Istisnaa
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General Framework of Contracts
Islamic law is related to the methodology of the Sharah in dealingwith Ibadat (devotional acts) and Muamalat (transactions)
Ibadat are held to be universal truths that are unaected by time andspaceMuamalat are matters pertaining to individuals interacting among
themselves
Imam Ibn Taymiyah
The acts and deeds of individuals are of two types: Ibadat, whereby their religiousness is improved, and Adat
or Muamalat (transactions), w hich they need in their worldly matters. An inductive survey of the sources of the
Sharah establishes that devotional acts are sanctioned by express injunctions of the Sharah. Thus, what is notcommanded cannot be made obligatory. As regards transactions, the principle governing them would be
permissibility and absence of prohibition. So nothing can be prohibited unless it is proscribed by Allah (SWT)
and His Prophet (pbuh) in the overall framework."
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General Framework of Contracts (contd)
Muamalat, in turn, pertains to two types of activities, i.e. social andeconomic and/or nancial
A basic rule of Islamic law: the apparent wording, any format or
writing of the contractOnly that will have legal consequences; any party who has enteredinto a contract cannot say that it was not his intent (Niyyah)
The validity of the contract requires that its motivating andunderlying cause should be according to the requirements of theSharah
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Elements of a Contracts
A contract comprises the following elements
they must be mature and sanean oer (Ijab) and acceptance (Qabul)a legal (Sharie) basis of union between the two declarations and the
contractual obligationsfree from all prohibited factors
The contract is invalid if the following elements are not foundproperly:
the form, i.e. oer and acceptance (Sighah)the contracting parties (Aqidain)the subject matter (Maqud alayh)
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Elements of a Contracts (contd)
There are seven components in a contract (Sanhuri)
the concurrence of oer and acceptance;the unity of the Majlis (session/meeting) of a contract;
plurality of the contracting parties;sanity or the power of distinction of the contracting parties;subject matter susceptible to delivery;the object (Mahall) dened;the benecial nature of the object, in that trade in it is permitted as
per Sharah rules.
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Broad Rules for the Validity of Muamalat
Free mutual consent
All transactions, in order to be valid and enforceable, must be based onfree mutual consent of the partiesConsent obtained through oppression, fraud and misperception rendersa contractinvalid as per Islamic lawConsenting parties have certain and denite knowledge of the subjectmatter of the contract and the rights and the obligations arising from it
Prohibition of Gharar
All valid contracts must be free from excessive uncertainty (Gharar)about the subject matter or the consideration (price) given in exchange
Avoiding Riba
Riba is an increase that has no corresponding consideration in anexchange of an asset for another asset
Avoiding Qimar and Maisir (games of chance)
All contracts involving Qimar and Maisir are prohibited
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Broad Rules for the Validity of Muamalat (contd)
Prohibition of two mutually contingent contracts
The sale of two articles in such a way that one who intends to purchasean article is obliged to purchase the other also at any given price.The sale of a single article for two prices when one of the prices is notnally stipulated at the time of the execution of the saleContingent sale.Combining sale and lending in one contract
Conformity of contracts with the Maqasid of Sharah
The injunctions of the Sharah are directed towards the realization ofvarious objectives for the welfare of mankind
Prots with liability
This principle states that a person is entitled to prot only when hebears the risk of loss in business
Permissibility as a general rule
Everything that is not prohibited is permissible
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Wadah (Promise) and Related Matters
In Wadah or Ahd, one party binds itself to do some action for the
otherAhd generally does not create legal obligation but in certain cases itbecomes legally binding and enforceable
Keeping in mind the intricacies of present-day business, particularlywhen conducted by Islamic banks, contemporary scholars have
reached the consensus that Wadah is enforceable by law until andunless the promisor is not in a position to full it on account of anyforce majeure
If nonfullment is due to any wilful act of the promisor, he has to
make good the loss to the promiseeThe dierence between a contract (Aqd) and a bilateral promise isthat the ownership in bilateral promise is not transferred at the timeof signing the promise Aqd, not only the ownership transfers but alsothe rules of inheritance apply as soon as it is executed
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Wadah (Promise) and Related Matters (contd)
The Islamic Fiqh Academy of the OIC has made the promise incommercial dealings binding with the following conditions
The promise should be unilateral or one-sidedThe promisor must have caused the promisee to incur some liabilities or
expensesIf the promise is to purchase something, the actual sale must take placeat the appointed time by the exchange of oer and acceptance. Merepromise itself should not be taken as the actual saleIf the promisor backs out of his promise, the court may force him eitherto purchase the commodity or pay actual damages to the seller. Theactual damages will include the actual monetary loss suered by him,but will not include the opportunity cost
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Token Money (Hamish Jiddiyah) and Arbun
Hamish Jiddiyah the margin reecting the rm intention of thepromisee
Islamic banks take token money from the promisee clients, which is theamount taken from them to convey seriousness in purchasing the
relevant commodity/assetBanks hold token money as a trust and adjust it in price at the time ofthe execution of the sale
Arbun the earnest money given at the time of execution of the saleas part of the price
Taken from the buyer as part of the price after execution of the saleagreement
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T f C
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Types of Contracts
The Islamic Fiqh Academy of the OIC has made the promise incommercial dealings binding with the following conditions
Valid (Sahih)Voidable/defective (Fasid)Void (Batil)
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V lid C
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Valid Contracts
The validity of any contract depends on the legality or illegality of thesubject matter, the existence and precise determination of the subjectmatter, delivery or the ability to deliver the subject matter without
involvement of excessive uncertainty and precise determination of theprice or consideration in a contract.
Contracts Eective Instantly or from a Future DateMawquf (Suspended) ContractsBinding (Lazim) and nonbinding Contracts
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V id bl (F id) C
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Voidable (Fasid) Contracts
Causes of invalidity are of two types
Intrinsic causes which relate to the basic elements of the contract, such
as unlawfulness or nonexistence of the subject matter, or the absenceof contractual capacity in any of the partiesExtrinsic causes that relate to Wasf, i.e. external attributes such asRiba or Gharar contained in the contract.
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V id (B til) C t t
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Void (Batil) Contracts
Contracts that do not full the conditions relating to oer andacceptance, subject matter, consideration and possession or delivery,
or involve some illegal external attributes are considered void (Batil).The sale of a thing having an element of absolute uncertainty orspeculationA Batil contract does not give rise to any eect
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C t ti C t t (U d M dh )
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Commutative Contracts (Uqood-e-Mu awadha)
Classication according to object
Bai Muqayadhah (barter sale)
Bai al Hal (simultaneous exchange of goods for money, spot sale)Bai al Sarf (exchange of money or monetary units)Bai Salam (sale with immediate payment and deferred delivery)Bai Muajjal (deferred payment sale, commonly known as a credit sale)Bai Mutlaq (normal sale of goods for money, also called absolute sale)
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Commutative Contracts (contd)
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Commutative Contracts (cont d)
Classication according to subject
Bai Tawliyah (resale at cost price)Bai Murabaha (resale at cost price plus prot bargaining on protmargin)Bai Wadhiah (resale with loss); The above three forms of sale aretermed Buyual Amanat or trust sales)Bai Musawamah (sale without any reference to the original costprice-bargaining on price)
Ijarah or the contract of hiring is divided into:
Ijarat al Ashkhas (rendering services)
Ijarat al Ashya (letting things)
Istisnaa (contract of manufacturing)
Wakalah can be both commutative and noncommutative contracts
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Uqood Ghair Muawadha (Tabarru) or Gratuitous
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Uqood Ghair Mu awadha (Tabarru ) or Gratuitous
Contracts
The main feature of these contracts is the donation of property
The donor transfers ownership of any property to a party withoutconsideration. The following contracts fall under this category
Hibah (gift)Wasiyyah (bequest)Waqf (endowment)Kafalah (guarantee)Ariyah (loan of usable item free of any charge)
Loan (Qard)Hawalah (assignment of debt).
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Conditional or Contingent Contracts
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Conditional or Contingent Contracts
As a general rule, conditional contracts are not validThis, however, requires some detail and some conditions could be
acceptable, that is three types of stipulations/conditionsTaliq conditions which suspend a contract to any future event.Idafa an extension that delays the beginning of any contract until afuture time.Iqtiran (concomitance) that varies the terms of the contract
Valid conditions are those that conrm the eects attributed tojuridical acts by the Sharah and which are admitted explicitly by it,such as the option of stipulation (Khiyar al-Shart) reserved for a partyto revoke or ratify a contract within specied days
Such a condition is valid because the Sharah has sanctioned theoption of stipulation and the option of inspection (Khiyar al-Ruyah)The stipulation to sell on the condition that the seller will not handover the goods to the buyer unless he pays the price is also a validcondition, because it stresses and conrms the eects of the contract
and realizes its objectiveSigit S.Wibowo () Prog. Ekstensi Manajemen-FEUI September 19th , 2008 24 / 25
Reference
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Reference
Muhammad Ayub (2007), Understanding Islamic Finance. West
Sussex, U.K.: John Wiley & Sons Ltd. (Chapter 5)
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