The Islamic Banking Essay

Introduction of Islamic Banking

The cardinal beginnings of Islam – the Quran and the Sunnah of the Prophet ( PBUH ) provide guidelines for economic behavior and how the economic system of a society should be organized.

“ Early Islamic theory and pattern formed a complete economic system for a new order in society, in which all participants would be treated more reasonably an economic system of poorness prevailed in Islam until 13th and fourteenth century. Under this system flow of money and goods was purified by being channelled from those who had much of it to those who had small by promoting zakat and detering Riba on loans ” . Michael Bonner.

Moslems based their economic analyses on the Quran ( such as resistance to Riba, intending vigorish or involvement ) , and from Sunnah, the expressions and behaviors of prophesier Muhammad ( PBUH )

As it says in Koran:

“ Those who devour vigorish will non stand except as bases one whom the evil one by his touch hath driven to madness. That is because they say: ‘Trade is similar vigorish. ‘ But Allah hath permitted trade and out vigorish. Those who after having way from their Lord, desist, shall be pardoned for the yesteryear ; their instance is for Allah ( to justice ) . But those who repeat ( the offense ) are comrades of the fire, they will stay therein ( everlastingly ) ” ( 2:275 )

Section # 1

Murabaha:

Murabahah is really from the word rabbi which literally means net income. Murabahah is defined as selling a trade good for its purchase monetary value plus a specified mark-up or net income agreed upon. The mark-up may be a lump amount or a certain per centum of the purchase monetary value. Thus, murabahah is the resale of a thing at some net income added on the original cost. In simple it is known as Cost plus sale.

Murabahah is a trust based dealing. If the marketer in a Murabahah dealing is guilty of any misrepresentation, the buyer has the option to reject the thing or to take the full monetary value stipulated or some compensation. If the topic perishes before the buyer returns it, or anything happens to it which would forestall cancellation of the sale on find of the misrepresentation, the buyer is apt for the full monetary value mentioned, and is without any option.

This literally means sale of goods at a reciprocally agreed monetary value. Technically, it is a contract of sale in which the marketer declares his cost and net income. As a funding technique, it involves a petition by the client to the bank to buy certain goods for him/ her. The bank does that for a definite monetary value which is normally over the cost and set in progress. The monetary value normally includes a net income border agreed by both parties. The purchase and merchandising monetary value, other costs, and the net income border must be clearly stated at the clip of the sale understanding. Murabaha finance is non a loan given on involvement, it is a sale of plus ( s ) for cash/deferred monetary value. It is fixed price sale which is usually done for short AA¬term and can merely be used for the purchase of fresh assets merely. The bank can non bear down extra money on late payments. However, in most instances plus retains in the ownership of the bank until the loan is paid to the full. This kind of funding is most controversial but besides the most common about 60 to 70 per centum of all Islamic funding is based on Murabaha and largely in Malaysia due to the more broad nature of the Ulema at that place, where as in subcontinent and in Arab states it is seen with some serious inquiries.

Examples:

For case a individual needs to purchase a machine for his/ her mill. The client will travel to the Islamic bank and the bank will purchase the machine on its behalf and so sell it to the individual at an increased monetary value but on episodes deferred for a certain period of clip.

Condition of Price and the Net income

The monetary value and net income should be known. The net income can be a lump amount or based on per centum. For illustration, the thing can be sold at a comparative net income, as 11 for 10 or 10 % net income. It signifies a net income of one in 10, two in 20, and three in 30. Expense incurred on transit, storage, etc or any other disbursals the add-on of which is accepted may legitimately be added to the original cost.

When a individual purchases a thing on recognition, he can non legitimately sell it by Murabahah without informing the purchaser of the fact. It is because when a belongings is bought on recognition its monetary value is needfully higher than the hard currency monetary value

Conditionss for Murabahah

The most of import conditions of the murabahah sale are as follows:

• The purchaser has to cognize the original monetary value of the trade good including all the disbursals. Bank can non conceal the cost from the client.
• The net income to seller must be declared to the purchaser whether it is a certain fixed sum of money or a per centum of the original monetary value.
• The first contract must be legitimate from the point of position of sharia law ; otherwise, the murabahah contract will be cancelled.
• If the trade good was inflicted by any defects, the marketer has to inform the purchaser about it, because murabahah sale is a trust sale and the marketer should non bewray his purchaser. If, nevertheless, the purchaser discovers that the marketer has betrayed him he either for a compensation or a cancellation of the sale.
• Murabahah is non allowed with respect to the ribawi belongingss. Any exchange of ribawi belongingss should be like for similar and on the topographic point. As such the sale of, for case, 10 kilogram of rice for 15 kilogram is non allowed. Any addition or detain in exchange of ribawi trade goods amount to vigorish.

Murabahah in Islamic Banking:

Murabahah sale can be ordinary Murabahah when the marketer buys a trade good without depending of a anterior promise of purchase and offers the trade goods for a Murabahah sale for its monetary value and a net income to be agreed upon. Murabahah sale can besides be connected with a promise where three parties could be involved. These could be the marketer, the purchaser, and the bank. The bank does non buy the belongings unless the purchaser specifies the trade good and promises to purchase it. The bank undertakes to buy the trade good as requested by the client and resell it to him for the cost monetary value plus a border of net income antecedently agreed upon during the promise phase. The payment would be settled by the client within an in agreement clip frame either in ball amount or installments.

The bank would hold to subscribe two separate contracts, one with the provider and the other with the client. It is necessary that the trade good should be in the ownership of the bank before the sale contract with the other party is concluded. Any hazard prior to the bringing should be borne by the bank until the ownership is transferred to the client.

The practical stairss of the Murabahah sale are:

1. The buyer identifies the trade good and requests the marketer to direct a citation.
2. The bank surveies the petition, and negotiates the merchandising monetary value, manner of payment, continuance of episodes, and other conditions and securities. The buyer promises to purchase the trade good from the bank on the footing of Murabahah.
3. If the Bankss aggress it will advise the buyer and buys the trade good. The marketer approves the sale and sends the bill.
4. The bank and the buyer mark the Murabahah sale contract in conformity with the promise already agreed upon.

Extra Conditionss for Practicing Murabaha:

In add-on to the conditions mentioned earlier the undermentioned conditions should be observed when Muslim Bankss pattern Murabahah.

1. The bank should get ownership and ownership of the goods prior to its sale to the client.
2. The bank must transport the hazard of loss before bringing, or the effects of rejection of the goods by the purchaser because of hidden defects.
3. Promise from any of the two parties of the contract is morally adhering on both the parties. However, if the bank while trusting on the promise takes the necessary stairss to get the belongings the promise becomes lawfully adhering. The promise is needed as the client may decline to buy the belongings. On the other manus, the bank can non come in into a valid contract as it does non hold the belongings.
4. The common promise may be valid topic to the status that each of the two parties must hold the option.

Murabaha Sukuk:

“ Murabaha Sukuk is certifications of equal value issued for the intent of financing the purchase of goods through Murabaha so that the certification holders become the proprietors of the Murabaha trade good. The issuer of the certifications is the marketer of the Murabaha trade good, the endorsers are the purchasers of that trade good and the realized financess are the buying cost of the trade good. The Sukuk holders own the Murabaha trade good and are entitled to its sale monetary value ” .

Murabaha is a dealing, which can non be securitized for making a negotiable instrument to be sold and purchased in the secondary market because in the last phase of Murabaha dealing, the relationship between the bank and client is that of the creditor and debitor. Therefore, “ Murabaha Sukuk certification merely represents a pecuniary debt receivable from the client in the signifier of Murabaha monetary value which is non-negotiable as per the regulations of Shari’a. If otherwise so the transportation of the Sukuk to a 3rd party will intend transportation of debt which can merely be exchanged at par value. This restricts the possibility of making a secondary market for Murabaha Sukuk. However, trading of Murabaha certifications is allowable after buying the Murabaha trade good and before selling it to the purchaser ” .

Murabaha in Foreign Trade:

Murabahah can besides be used to finance foreign trade. The hazard of the dealing is born by the bank until the ownership is transferred to the client. The dealing should non be one of remitting the history from the provider on behalf of the buyer as it will amount to involvement. The bank should really purchase the goods and go on to be responsible until they are delivered to the client. The bank should move as a bargainer and non a moneyman. Net income in this context is justified since it is derived from the purchasing and selling dealing as opposed to involvements accruing from the chief Lent out.

Section # 2

Is Murabaha Islamic?

One may reason that Murabaha is similar to a loan from a conventional bank. But the fact is that it differs from loan in many ways. Mufti Taqi Usmani responds to unfavorable judgment on Murabaha in following ways:

First, Murabaha dealing is ever asset backed, which means that the Islamic bank foremost buys the plus that is traveling to be sold to the client who has placed a petition, before it really makes its dealing, whereas in conventional Bankss, plus backing is non prerequisite for involvement bearing loans.

Second, Murabaha is a fixed monetary value contract ; monetary value can merely be increased in instance of default, whereas in conventional Bankss, involvement is charged on day-to-day footing from the client.

Third, Murabaha is strictly a sale and purchase dealing in which the bank receives a petition from client to purchase certain goods on client ‘s behalf. The bank therefore has to take purchase the plus and gets the ownership of the plus and hence, assumes the hazard of maintaining the plus with itself until the client purchases it from bank. The net income charged by bank is to counterbalance for this net income. While a loan from a conventional bank is imparting of money and charging of involvement. Fourthly, in such minutess, relationship between Islamic bank and a client is of marketer and purchaser, whereas in conventional Bankss, it is of creditor and debitor.

Fifthly, an Islamic bank can non stay apathetic as what plus is purchased, whereas conventional Bankss are apathetic as to what is being purchased.

But still it brings negatives of Islamic finance that Murabaha is used as a fast one to make what conventional finance is making, i.e. loaning on the footing of involvement. It is merely the practician who can guarantee that Murabaha does non devolve to that degree. And they besides need to lucubrate the differences between murababa and a bank loan. They need to market those differences every bit good. Since fiscal intermediation does non affect selling goods and services straight, it would be more appropriate to acquire fiscal mediators involved in Murabaha concern indirectly.

Now imagine a whole scope of concerns making Murabaha. These concerns would cognize the hazards they are taking. They would besides be able to diversify their activities as a agency of cut downing hazard. Possibly they are already specialising in managing different market sections in footings of the trade goods involved. These concerns would necessitate funding. This funding could come from Islamic fiscal establishments. This manner there would be a buffer between the altering fortunes of existent concerns and those managing merely finance. It will therefore alleviate the Islamic fiscal establishments from the demand to cut down hazard by doing their contracts look like payment of less money now in exchange of more money to be received in future. In my sentiment the most appropriate signifier will be Mudaraba or net income sharing.

Section # 3

Comparison of Murabahah & A ; Interest-based Loans:

1. Murabahah is based on sale contract while a conventional bank progresss loan and charges involvement. The relationship between Islamic bank and the client is one of marketer and buyer while in conventional banking it is one of creditor and borrower.
2. In Murabahah the monetary value of the sold plus is fixed while the sum paid by the borrower to the conventional bank may depend on the rate of involvement which fluctuates.
3. In conventional banking in instance of default payment, the borrower will be charged involvement on involvement as the arrears would be capitalised. However, in Islamic banking the bank may action the buyer for default but can non increase the monetary value.
4. In conventional banking if the borrower is unable to pay the episodes the belongings will be possessed by the bank. In Islamic banking if the client is unable to pay the monetary value, the bank will take a legal action, possess the belongings and sell it to another buyer. The Islamic bank is entitled to have the outstanding sum and should return the balance to the client.
5. In conventional banking if the borrower wants to pay before the due day of the month of episodes, he may acquire a discount. On the other manus, a buyer who wants to pay all the outstanding balance in lump amount may acquire ibra from the Islamic bank.
6. The buyer from an Islamic bank should be entitled to the assorted options that enable him to call off the contract. This issue does non originate in a conventional banking as the contract between the parties is a loan contract.

Reasons behind Murabahah ‘s Popularity:

Murabaha ( cost plus ) funding and Mudaraba, Islamic fiscal establishments consider Murabaha to be superior to debt funding on a figure of evidences. They besides consider initiation of murabaha in Islamic fiscal instruments makes that box truly capable of managing all fiscal state of affairss. Islamic bank claim that it serves to maintain the fiscal market in relation with the market for existent goods and services, therefore doing it less vulnerable to chancing like guess.

1. Murabahah is necessitated by the fact that people want to purchase belongingss such as house or vehicle. Profit/loss sharing contracts are non suited for sale and purchase understandings.
2. It is a sale contract where the ownership with all its duties, for case, insurance, care, and revenue enhancements, is transferred to the buyer.
3. It generates an unconditioned debt in a fixed sum, unlike a spouse ‘s right to portion in future net income.
4. As a debt duty, it can be secured.
5. Compare to partnership, reduces the demand to supervise the client ‘s concern or swear his honestness.