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Islamic Modes of Financing - Part 2In our previous bulletin, we have been able to present brief explanations on three Islamic modes of financing which include Musharakah, Mudarabah and Murabahah. We shall now describe succinctly the other instruments that are mostly adopted by Islamic financial institutions.
Ijarah: Ijarah which is known as leasing could literally mean giving something on rent. This is a mode of financing that is concerned with the usufructs of assets and properties. Ijarah is similar to the conventional lease financing or hire purchase. In Ijarah mode of financing, the usufruct of a particular property is transferred from one person, i.e the lessor or financial institution to another, i.e the lessee or the beneficiary in exchange for a rent payable to the lessor. As previously mentioned, there are usually two parties involved in this kind of mode of financing: the lessor and the lessee. In Islamic jurisprudence, the rent the lessee pays to the lessor is called the "ujrah". It should be noted that even though Ijarah is basically adopted as a form of investment, it could somewhat be used to facilitate financing - this is however subject to the terms and conditions guiding such contracts.
Musharakah Mutanaqisah (Diminishing Musharakah): Musharakah Mutanaqisah is another form of Musharakah developed lately. It is otherwise referred to as diminishing partnership and it is a kind of contract with diminishing or declining ownership. Musharakah Mutanaqisah combines three different modes of financing - shirkah (partnership), Ijarah (leasing) and bay' (sale) in one. It is structured in a way that the financier and the client participate in either joint ownership of property/asset/equipment or joint business enterprise. Consequently, the share of the financier in the property ownership or business venture as the case may be will be broken down into a number of units. Thus, the client will begin to buy out the share of the financier periodically thereby making him, i.e the client, the sole owner of the property or business venture in the long run. It is commonly adopted to finance home/property and of course business venture.
Bay' Salam: Salam is a forward sale contract that is traditionally used to finance agricultural produce. It is a mode of financing that allows the sellers of certain goods to sell or supply goods to the buyer at a later date in exchange of an advanced price fully paid on the spot. In other words, the price is paid fully in cash in Salam but the supply of the purchased items is deferred. Both the buyer/financier and the seller benefit from this mode of financing. The seller benefits by receiving price in advance while the buyer enjoys lower prices than the spot sales. It is however imperative to note that the financier or the financing institution may have no need for the goods or farm produce supplied by the seller, it may simply resell the commodities in a market to realize its profit. This process is called Parallel Salam.
Istisna: Istisna is another Islamic mode of financing that permits sale of commodity before it is actually brought into existence. It is a contract that is mostly used to finance manufactured products. Istisna is used to finance construction of buildings, residential towers, villas and the likes. It can also be used to finance manufacturing of ships, aircrafts, equipments, machines, etc. The financing institution might be the financier while a client of the institution might be the contractor or vice versa. In whatever dimension it is adopted based on given circumstances, a party, i.e, the seller agrees to deliver the specified manufactured products at an agreed time while the other party, i.e, the buyer pays in lump sum or in future on instalments or in different stages of the manufacturing or construction process.
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