Ethica cife study_notes[1]

CIFE Study Notes
™

A User’s Guide to the  
Certiﬁed Islamic Finance Executive™ Program

© 2012-2015 Ethica Institute of Islamic Finance

© 2012-2015

Published by
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Table of Contents

1. Why Islamic Finance 9 - 14

2. Understanding Musharakah   15 - 21
Islamic Business Partnerships
3. Understanding Mudarabah  22 - 28
Islamic Investment Partnerships
4. Understanding Ijarah  29 - 36
Islamic Leasing
5. Understanding Murabaha  37 - 43
Cost Plus Financing
6. Understanding Salam and Istisna  44 - 52
Forward Sale and Manufacturing Contracts
7. Understanding Islamic Insurance 53 - 59

8. Understanding Sukuk  60 - 66
Islamic Securitization
9. Liquidity Management In Islamic Finance 67 - 73

10. Risk Management In Islamic Finance 74 - 81

11. Glossary – Commonly Used Industry Terminology 82 - 104

12. Contact Ethica 105

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Certified Islamic Finance Executive™

Introduction

Winner of "Best Islamic Finance Qualification" at the Global Ethica's 100% online delivery platform enables us to give you
Islamic Finance Awards, Ethica is chosen by more professionals dynamic and up-to-date material 24 hours a day, rather than
and students for Islamic finance certification than any other waiting around for outdated guidebooks, CDs, and distance
organization in the world. With over 20,000 paying users in 44 learning emails. Our training and certification is designed for
countries, the Dubai-based institute is accredited by leading maximum knowledge transfer without burdening you with more
scholars and serves banks, universities, and professionals across information than you require. All the information, including
over 100 organizations. Ethica’s 4-month Certified Islamic spreadsheets, case studies, questions, exercises, and quizzes is
Finance Executive (CIFE) program is delivered 100% online. contained in the training modules.

Ethica's award winning CIFE™ is a streamlined training and Our experts are here to answer your questions over email
certification program designed to take complete newcomers to (questions@ethicainstitute.com).
an advanced level of understanding in Islamic finance in just 4
You get access to our entire inventory of training videos during
months.
your study-period. You can play each video as many times as
The program fee is $1,495, which can be paid online or through you like - 24 hours a day.
wire transfer and includes:
One module consists of an approximately 20 minute training
• 4 months access to self study videos video comprising a variety of exercises, case studies, and
• 1 examination attempt quizzes, along which the student is expected to conduct his or
her own self-study. Experience with hundreds of other learners
• CIFE™ Certificate couriered to your home or office shows that the CIFE™ program is comfortably manageable in
• Ethica's 1-on-1 Career Counseling™ about 1 to 3 months of training and about 1 month or less of
studying for the examination, enabling most users to complete
• Ethica's Recruiter's Database™
the program in less than the 4 month access period.

3

There are no prerequisites for the Ethica CIFE™ though some prior knowledge of finance does help. If you have no prior knowledge of
Islamic finance, you've come to the right place. We designed the material specifically for newcomers seeking a high level of proficiency in
the practical aspects of Islamic finance in a very short amount of time.

There are no fixed dates for the program either. You can start whenever you like.

The CIFE™ Examination: A 90 minute timed exam comprising 112 multiple choice questions. The pass mark is 70%.

How to take the exam: Login, click on 'My Account' and then click on 'Take CIFE™ Exam.'

Re-attempt: If you fail you can re-attempt the exam by paying a small fee.

Once you understand the 22 core modules listed below that comprise the testable material, you are ready to take the 90-minute online
CIFE™ examination. You can take the exam as soon as you are ready. For some that's 3 months, for others it's more: you choose your
pace. The recommended study schedule shows you how to comfortably finish the program in the allotted 4-month period with an
investment of as little as 1 hour per week.

Course Recommended
Course Name Course Description
Code Study Schedule

CIFE01 Why Islamic Finance? What makes Islamic finance different from conventional finance? And what Week 1
makes it better? We look at 3 real-world examples and find out. We also
introduce you to the 4 principles that guide Islamic finance transactions.

CIFE02 Understanding Musharakah I You've heard of joint-stock companies. Now learn about the Islamic variation. Week 1
(Islamic Business Partnerships) We look at Musharakah, the Islamic business partnership where partners
pool together capital, expertise or goodwill to conduct business or trade. We
look at the basic features of a Musharakah and its types, their mode of
operation, duration and the various forms of capital contribution.

CIFE03 Understanding Musharakah II We discuss the management of the Musharakah business and take you Week 2
(Islamic Business Partnerships) through some practical applications of how Islamic banks use Musharakah.
We also look at profit and loss sharing ahead of the subsequent module's
profit calculation exercises.

CIFE04 Understanding Musharakah III We complete our discussion on general aspects of Musharakah, including Week 2
(Islamic Business Partnerships) how banks handle negligence, termination, and constructive liquidation. We
and Quiz round our discussion with some practical examples of Musharakah
calculation, a quick review of financial statements and how exactly profit gets
calculated.

4

Course Recommended
Code Study Schedule

CIFE05 Understanding Mudarabah I Where Islamic banks meet conventional private equity type investing. Here Week 3
(Islamic Investment Partnerships) you learn Mudarabahs, the Islamic business partnership where one partner
supplies capital for the business and the other provides management
expertise. We explain the Mudarabah structure and contrast it with
Musharakah and Wakalah, explaining how they differ in banking practice.

CIFE06 Understanding Mudarabah II How is an investment partnership different from an agency contract? We Week 3
(Islamic Investment Partnerships) discuss the relative merits of the Mudarabah and the Wakalah structure in
different situations. We also describe the Mudarib's role, the duration of
Mudarabahs and the forms of capital contribution by the investor and in
some cases even the Mudarib.

CIFE07 Understanding Mudarabah III We discuss the Mudarabah's management and the rules for sharing profit Week 4
(Islamic Investment Partnerships) and loss. We also look at some practical examples showing how Islamic
and Quiz banks use Mudarabahs.

CIFE08 Understanding Ijarah I (Islamic What's an Islamic lease? This modules helps you find out. We introduce Week 5
Leasing) Ijarah, the Islamic lease, and look at prerequisites for their execution, legal
title, possession, maintenance, earnest money, default, and insurance. We
begin answering the question "How does an Ijarah work?" with step-by-step
practical explanations.

CIFE09 Understanding Ijarah II (Islamic You learn the rights and obligations of the lessor and the lessee and focus Week 5
Leasing) and Quiz on defective assets, sub-leases, extensions and renewals, transfer of
ownership, and termination.

CIFE10 Understanding Murabaha I (Cost Learn about the most widely used Islamic finance product: buy an asset for Week 6
Plus Financing) the customer; sell the asset at a premium in installments to the customer.
That's a Murabaha. In these modules we introduce Murabahas and walk you
through the first 5 of the 7 important steps necessary for a Murabaha's valid
execution.

CIFE11 Understanding Murabaha II (Cost Wrap up the 7 steps to executing a Murabaha: we cover steps 6 and 7 and Week 6
Plus Financing) go on to discuss common mistakes bankers make when executing
Murabahas and how to avoid them. We also look at risk management,
default, early repayment, and profit calculation in Murabahas.

CIFE12 Understanding Murabaha III (Cost So how does it work in the real world? We look at 6 practical examples of Week 7
Plus Financing) and Quiz Murabahas based on installment repayments, bullet repayments, advance
payments, and credit and import Murabaha.

5

Course Recommended
Code Study Schedule

CIFE13 Understanding Salam And Istisna I What makes a forward contract Islamic? Learn here. In this module on Week 7
(Forward Sales And Manufacturing Salam, the Islamic forward sale, and Istisna, the Islamic manufacturing
Contracts) contract, we begin with Salam. We look at the goods for which a Salam may
be executed, the pre-requisites, and the use of a Parallel Salam.

CIFE14 Understanding Salam And Istisna II We discuss security, replacement, and default before explaining how its Week 8
(Forward Sales And Manufacturing pricing is calculated. We then look at Istisna and discuss the major
Contracts) differences between it and the Salam.

CIFE15 Understanding Salam And Istisna In this ﬁnal module we discuss delivery, default, and termination an Istisna. Week 8
III (Forward Sales And We conclude the 3 module series with a practical product structuring
Manufacturing Contracts) and Quiz exercise where you get to choose the appropriate ﬁnancing tools in a given
scenario.

CIFE16 Understanding Islamic Insurance You learn the difference between Islamic and conventional insurance and the Week 9
and Quiz essentials that make Islamic insurance unique. You walk through a numerical
example before taking the Self-Assessment Quiz.

CIFE17 Understanding Sukuk I (Islamic You've read about them. Now learn about them. Sukuks are Islamic shares Week 10
Securitization) and we show you the main features walking you through the 8 step
structuring process concluding with a study of Ijarah Sukuk.

CIFE18 Understanding Sukuk II (Islamic We continue our discussion on Sukuk with a look at Musharakah and Week 10
Securitization) and Quiz Mudarabah, Sukuk and the limitations of issuing using Murabaha, Salam and
Istisna. We close with a case study of the IDB Sukuk.

CIFE19 Liquidity Management In Islamic What do Islamic banks do with excess capital in the short- term? How do Week 11
Finance I they access capital for the long-term? You learn the answers to these and
other questions in this module. We discuss how Islamic banks manage
liquidity and begin by explaining an inter-bank Mudarabah, walking you
through how a weightage table works; useful information for other Islamic
banking products. We close the module with a look at the application of
Sukuk in liquidity management.

6

Course Recommended
Code Study Schedule

CIFE20 Liquidity Management In Islamic You look at filters for stocks, shares, Musharakah investment pools, and the Week 11
Finance II and Quiz use of agency contracts to manage liquidity. We also look at local and the
foreign currency Commodity Murabahas and walk you through the steps for
executing each quiz.

CIFE21 Risk Management In Islamic Some have said "Banking is risk management." If you don't know anything Week 12
Finance I about risk management this is the module for you. You learn the basics
about risk management in Islamic finance and discuss the most common
risks facing Islamic banks and the mitigation techniques used to address
them.

CIFE22 Risk Management In Islamic Now you learn about how risk relates to each specific Islamic finance Week 12
Finance II and Quiz product. We go through each major Islamic banking product, namely
Murabaha, Salam, Istisna, Ijarah, Musharakah and Mudarabah, and explain
the specific risks associated with each quiz.

Week 13 - 16
• Review all modules
• Reattempt all self-assessment quizzes
• Examination

7

CIFE Study Notes ™

A User’s Guide to the  
Certified Islamic Finance Executive™ Program

Important Note: The following CIFE™ Study Notes are an
accompaniment to the online training modules available at
Ethica and are not meant to replace the blended learning
experience of the complete Certiﬁed Islamic Finance
Executive™ program

CIFE01

Why Islamic Finance?

What makes Islamic finance different from
conventional finance? And what makes it better?
We look at 3 real-world examples and find out. We
also introduce you to the 4 principles that guide
Islamic finance transactions.

CIFE01: Why Islamic Finance?

The difference between Islamic finance and conventional finance is the difference
• The difference
between buying and selling something real and borrowing and lending something
fleeting.
• Example: Nigerian President Obasanjo
Conventional banking transactions are interest based.
• Example: Nick the homebuyer Islamic bank transactions are asset or service backed.

• Example: Faisal the college student An asset or service cannot be compounded like an interest based loan. An asset
or service can only have one buyer or seller at any given time, whereas interest
• Islamic finance essentials allows cash to circulate and grow into enormous sums.
Interest creates an artificial money supply that isn’t backed by real assets resulting
• Transactions in increased inflation, heightened volatility, richer getting rich, and poorer getting
poor.
• Salient features
 
Nigerian President Obasanjo – Example
Nigeria took a $ 5 billion loan in 1985 and paid it off as $44 billion in 2000 as a
result of compound interest.
How would the Islamic bank manage such a developing country’s need?
• An Islamic bank could have arranged for the $4 billion construction of a natural
gas pipeline and delivered it to Nigeria for $5 billion using an Istisna.
• Or taken an equity stake in a highway project and shared in profits and losses
using Musharakah or Mudarabah.
• Or purchased commodities and sold them at a premium using a Murabaha.
• Or structured a project financing using an Ijarah Sukuk.

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Nick the Homebuyer – Example It took him 25 years to pay off his loan and he ended up paying
over $400,000.
In 2009 Nick lost his job, his house, and all the money he had
spent paying off his mortgage. How would an Islamic bank fulfill Faisal’s need?
The property bubble that triggered the global financial meltdown An Islamic bank could structure a service-based Ijarah to lease
could not have happened if the properties had been financed out the university’s credit hours. Faisal ends up paying about
Islamically because a conventional bank merely lends out cash. 20% or 30% more; but with the interest-based loan, he pays
Legally, it can keep lending this cash over and over, well above its about 400% more.
actual cash reserves. Islamic finance never can, and never will be able to grow Faisal’s
An Islamic bank, on the other hand, has to take direct ownership debt once it’s fixed.
of an actual asset. Whether for a longer period in a lease or
 
partnership, or a shorter period in a sale or trade, Islamic finance
Islamic Finance Essentials
always limits the institution to an actual asset.
All banking products can largely be divided into the following 4
How could Islamic finance have fulfilled Nick’s need for a home?
categories:
Based on a Diminishing Musharakah.
1. Equity
Musharakah refers to partnership. In a Diminishing Musharakah,
2. Trading
the bank’s equity keeps decreasing throughout the tenure of the
financing, while the client’s ownership keeps increasing through a 3. Leasing
series of equity purchases. Eventually, the client becomes the 4. Debt
sole owner.
At no time does the homebuyer pay any interest and at no time
does any payment compound. The homebuyer just pays for two Some important Islamic finance transactions:
things: the house, in small payments, little by little. And the rent, • Equity based - Mudarabah, Musharakah, and Sukuk
for the portion of the house he doesn’t yet own.
• Trade based - Murabaha, Salam, and Istisna
 
• Lease based - Ijarahs
Faisal the Student – Example
Faisal took a student loan. His university cost him $120,000 for  
four years. He began borrowing $30,000 at the beginning of each
year. Three years after graduation he began paying off his student
loans at the rate of $20,000 a year.

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Islamic banking transaction must:
1. Be Interest free
2. Have risk sharing and asset and service backing: Based on
the Islamic concept of “no return without risk”. An Islamic
bank takes a direct equity position, or buys a particular asset
and charges a premium through a trade or a lease. It uses risk
mitigants, but not without ﬁrst taking ownership risk.
3. Have contractually certainty: Contracts play a central role in
Islam and the uncertainty of whether a contractual condition
will be fulﬁlled or not is unacceptable in the Shariah.
4. Be ethical: There is no buying, selling, or trading in anything
that is, in and of itself, impermissible according to the Shariah
for instance dealing in conventional banking and insurance,
alcohol, and tobacco.

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CIFE02, 03, 04

Understanding Musharakah –  
Islamic Business Partnerships

You've heard of joint-stock companies. Now learn about the
Islamic variation. We look at Musharakah, the Islamic
business partnership where partners pool together capital,
expertise or goodwill to conduct business or trade. We look at
the basic features of a Musharakah and its types, their mode
of operation, duration and the various forms of capital
contribution. We discuss the management of the Musharakah
business and take you through some practical applications of
how Islamic banks use Musharakah. We also look at profit
and loss sharing ahead of the subsequent module's profit
calculation exercises. We complete our discussion on general
aspects of Musharakah, including how banks handle
negligence, termination, and constructive liquidation. We
round our discussion with some practical examples of
Musharakah calculation, a quick review of financial
statements and how exactly profit gets calculated.

CIFE02, 03, 04: Understanding Musharakah

A Musharakah is a partnership that is set up between two or more parties usually
• Definition
to conduct business or trade. It is created by investing capital or pooling together
expertise or goodwill.
• Types of Musharakah
Partners share profit based on ownership ratios and to the extent of their
• Musharakah duration participation in the business and share loss in proportion to the capital they invest.
Profit cannot not be fixed in absolute terms such as a number or percentage of
• Musharakah capital
invested capital or revenue.
• Musharakah management  
Types of Musharakah:
• Musharakah profit and loss
• Shirkah tul Aqd
• Negligence in Musharakah • Shirkah tul Milk

• Musharakah termination  
Shirkah tul Aqd is a partnership to enter into a joint business venture and trade.
Partners enter into a contract to engage in a defined profit seeking business
activity.
Shirkah tul Milk is a partnership in the ownership of property or assets for personal
use.
Every Shirkah tul Aqd has a Shirkah tul Milk imbedded in it, namely joint ownership
of assets and property.

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Differences between Shirkah tul Aqd and Shirkah tul Milk intention of terminating or concluding the business venture at any
point for instance equity participation.
1. Shirkah tul Aqd is a direct contract of partnership in a
business or income generating activity whereas Shirkah tul Partners may exit the business at any point they want. This is
Milk comes indirectly through contracts or arrangements usually done by the remaining partner(s) purchasing the share of
unrelated to production or income generation. the individual exiting the Musharakah.
2. Shirkah tul Milk is a partnership of joint ownership as opposed Temporary Musharakah: Partnership created with the intention of
to a commercial venture (Shirkah tul Aqd). It may serve as terminating it at a given time in the future at which point
source of income for one party but not for both. Musharakah assets are sold and distributed along with any
remaining profit on a pro-rata basis.
3. In a Shirkah tul Milk ownership proportions cannot be
specified however a Shirkah tul Aqd cannot be formed unless It is used to meet working capital needs of businesses, other
the respective capital contribution shares of the parties are examples being private equity followed by planned exit.
specified.
 
  Musharakah Capital
Types of Shirkah tul Aqd:
All Shariah–compliant items of material value may be used as
• Shirkah tul Wujooh: Partnership where subject matter is capital in a Musharakah.
bought on credit from the market based on a relationship of
It may be in the form of cash or it may be in kind, for instance
goodwill with the supplier.
contributing assets to the business in which case it is necessary
• Shirkah tul Aa’mal: Partnership in the business of providing to ensure the assets are valued at the time of Musharakah
services. There is no capital investment, instead partners execution.
enter into a joint venture to render services for a fee.
Partners’ capital investment ratio must be determined at
• Shirkah tul ‘Amwaal/Shirkah tul ‘Inaan: Partnership Musharakah inception or before the business generates profit.
between two or parties to earn profit by investing in a joint In case of a Musharakah investment in different currencies,
business venture. partners must agree upon the numeraire, i.e. one particular
  currency to serve as the standard of value in the business which
Musharakah Duration is usually the currency of the country where the business is
located.
Ongoing Musharakah: Most common form also referred to as
open-ended or permanent. Partnership where there is no Debt may not constitute Musharakah capital.

18

Musharakah Management For instance, $1000 of profit cannot be stipulated as a fixed
number at the time of the contract’s execution because the profit
All partners possess the right to be involved in the administration
itself is not yet known.
of the business.
Or, for instance, if a person invests $100,000 and their profit is
Partners who opt for limited partnership are silent partners. Since
guaranteed to be 10% of their investment amount. This would
they do not participate in the business unlike the working
result in an absolute positive number, or $10,000, regardless of
partners, according to Shariah, they cannot be allocated a profit
whether the business gains or loses money.
share greater than their capital contribution ratio.
Similarly, profit rates cannot be set as a percentage of the
The working partner is responsible for running the Musharakah
revenue either as if there’s no revenue; how can there be any
but cannot receive separate remuneration for his services
profit? And what if the revenue is unexpectedly high; why should
although he may receive an increased profit share as a reward for
investors be denied higher profits.
his management role.
In a Musharakah:
Unlike for the silent partner, the working partner’s profit share may
exceed his capital contribution ratio. • Profit may not be guaranteed or fixed in absolute terms for
any of the Musharakah partners.
In case an individual who is not a business partner serves as
business manager, he is paid a fixed wage for his services but • Profit may not be set as a percentage of capital.
does not share business profit or loss.
• Each partner whether minority or majority shareholder must
The business manager is liable for loss in case of his proven be allocated a profit share.
negligence.
• One partner cannot guarantee any part of the profit or capital
If the business manager invests in the Musharakah business by of another partner.
means of a separate contract, his capacities of manager and
• Silent partner’s profit ratio may not exceed his investment
partner are independent of one another. He earns remuneration
ratio.
for his managerial role and shares profit and loss based on his
business partnership. • During the Musharakah, a partner may surrender all or part of
his profit share to another provided doing so is not agreed at
 
the time of Musharakah execution.
Musharakah Profit and Loss
• Profit sharing mechanism and profit ratios must be clearly
It is important to remember that profits are not fixed in absolute determined at Musharakah inception.
terms, such as a number, or as a percentage of the invested
capital or the revenue.

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• Musharakah may only announce an expected return for the 3. The client’s contribution to the Musharakah is the business he
business, actual returns are declared only after they are owns, while the bank’s contribution to the Musharakah are the
known. running facility funds.
  4. After a certain period, the client and the bank share the
Profit Calculation business’s operating profit based on a predetermined ratio.

Profit is calculated by subtracting costs and expenses from 5. Eventually, one partner, the bank, sells shares to the remaining
revenue. partner, the client, and exits the Musharakah.

Loss can only be shared by capital contribution ratios. Unlike interest-based financing, where the bank is only interested
in the repayment of a debt, in a running Musharakah, the bank
  has actual equity ownership in the client’s business.
In Practice
 
Many Islamic banks base profit and loss sharing investment or Negligence in Musharakah
savings accounts on Musharakah. The bank is the working
partner and the account holders are silent partners. Negligence refers to loss resulting from the violation of contract
conditions, willful or intentional damage to the Musharakah.
Modern ijtihad has enabled a profit calculation system based on a
combination of tiers of investment amounts, investment duration,  
minimum and average balance. Musharakah Termination
Many businesses need running finance, but are unwilling to opt If partners have not agreed on a Musharakah term, one of them
for finance on interest. In a conventional running finance facility may terminate his partnership unilaterally at any time.
the bank offers credit to a client over a certain period and charges
Alternatively a condition may be stipulated at contract execution
interest. To address this, the bank and its client enter into a
that no partner can terminate the contract without the consent of
temporary Musharakah.
the other partners.
 
In case of Musharakah termination, if assets are realized as cash,
In a Shariah-compliant running Musharakah facility:
they are distributed based on partnership ratios. In case a profit
1. The bank and the client agree to a financing limit. has been earned, it is distributed based on predetermined profit
ratios.
2. The bank opens a current account to hold the client’s sale
proceeds and also to allow him to utilize the finance facility. Tangible assets may be liquidated by granting them to existing
partners in exchange for the profit they have earned or they may
be sold in the market and the income from them distributed.

20

CIFE05, 06, 07

Understanding Mudarabah – 
Islamic Investment Partnerships

Where Islamic banks meet conventional private equity type
investing. Here you learn Mudarabahs, the Islamic business
partnership where one partner supplies capital for the
business and the other provides management expertise. We
explain the Mudarabah structure and contrast it with
Musharakah and Wakalah, explaining how they differ in
banking practice. How is an investment partnership different
from an agency contract? We discuss the relative merits of
the Mudarabah and the Wakalah structure in different
situations. We also describe the Mudarib's role, the duration
of Mudarabahs and the forms of capital contribution by the
investor and in some cases even the Mudarib. We discuss
the Mudarabah's management and the rules for sharing
proﬁt and loss. We also look at some practical examples
showing how Islamic banks use Mudarabahs.

CIFE05, 06, 07: Understanding Mudarabah

A Mudarabah is a partnership between two or more parties usually to conduct
• Definition
business or trade. Typically, one of the parties supplies the capital for the business
and the other provides the investment management expertise.
• Types of Mudarabah
The financier or the Rabb al Maal provides all the investment capital for the
• Investment of Mudarabah capital business.
The investment manager or the Mudarib is entrusted with the Rabb al Maal’s
• Differences and similarities
capital, invests it in a Shariah-compliant project and takes full management
responsibility.
• Mudarabah and Musharakah
The Rabb al Maal and Mudarib share profit based on pre-agreed ratios.
• Mudarabah and Wakalah  
Types of Mudarabah
• Mudarabah duration
With respect to scope of business activity, Mudarabahs may be unrestricted or
• Mudarabah capital restricted.
Unrestricted Mudarabah
• Mudarabah management
The Mudarib is free to invest capital in any Shariah-compliant project of his choice.
• Mudarabah profit sharing Restricted Mudarabah

• Loss in a Mudarabah The Mudarib’s investment of capital is restricted to specific sectors and activities
and/or geographical regions only. Here too all investments must be Shariah-
• Mudarabah termination compliant.

• Mudarabah - At the bank

24

Investment of Mudarabah Capital 3. Rabb al Maal bears any loss to the business provided it is not
due to the Mudarib’s negligence however in a Musharakah all
1. More than one Rabb al Maal
partners bear loss pro-rata to their capital contributions.
2. Mudarib also contributes capital
4. Mudarabah costs that relate to tasks that pertain to the
3. Mudarib invests business capital in different project Mudarib’s domain are not billed to the Mudarabah business,
only running costs are whereas in a Musharakah, partners
 
bear all costs as they are subtracted from revenue prior to
More than one Rabb al Maal
profit distribution.
Multiple capital providers pool in their contributions to the same
5. The Mudarib may only receive amount of capital that he
project and hire an investment manager as Mudarib.
requires to invest in the business whereas in a Musharakah,
Mudarib also Contributes Capital when the business project concludes the partners retain the
right to receive Musharakah capital according to capital
The Mudarib is permitted to contribute capital to the Mudarabah
contribution ratios.
provided that the Rabb al Maal/Arbaab al Maal approve.
 
Mudarib invests business capital in different project
Similarity between Mudarabah and Musharakah
The Mudarib as business manager is responsible for investing
and managing the Rabb al Maal’s funds however the Shariah 1. The Mudarib is permitted to surrender all or part of his profit
permits him to use the capital for parallel investment, i.e. receive to the Rabb al Maal provided it is not pre-agreed. Similarly in
capital for Mudarabah and invest in a different venture. a Musharakah, a partner may give up his profit in favour of
another on the strict condition that it is not predetermined.
 
Differences Between Mudarabah and Musharakah  
Differences between Mudarabah and Wakalah
1. In a Mudarabah, the Mudarib is solely responsible for
managing the business whereas in a Musharakah all partners 1. The Mudarib in a Mudarabah receives a share in profit
have the right to participate in the business. whereas the Wakeel or agent in a Wakalah receives a fixed fee
for services.
2. The Rabb al Maal provides the business capital and only on
the condition that the Rabb al Maal agrees can the Mudarib 2. The Mudarib gets paid his profit share only if there is profit
contribute capital to the Mudarabah whereas in a Musharakah whereas the Wakeel receives a fee in any case. 
all partners must contribute capital.

25

Similarity between Mudarabah and Wakalah For the Arbaab al Maal, the ratios of capital contribution may help
them in developing their profit sharing ratios but in practice these
1. Both Mudarabah and Wakalah are principal-agent contracts
profit sharing ratios differ from capital contributions ratios.
and profit is not guaranteed in either case.
Example:
 
Mudarabah Duration A furniture business is set up between one Mudarib and one
Rabb al Maal.
Ongoing: Partnerships where there is no intention of concluding
the business venture at any known point however partners have The Rabb al Maal contributes $5,000 cash. There are no other
the option of exit provided they give prior notice to the other assets at this point.
partners. The annual profit sharing ratios are agreed at 60% for the Rabb al
Temporary: Partnerships created with the specific intention of Maal and 40% for the Mudarib.
terminating them at a given future point in time. When the time is The profit in the first year is $10,000 which is distributed as
over, the Mudarabah assets are sold and distributed with any $6,000 for the Rabb al Maal and $4,000 for the Mudarib.
remaining profit on a pro-rata basis.
 
 
Mudarabah Management
Mudarabah Capital
Only the Mudarib possesses the right to manage the business.
All Shariah-compliant items of material value may serve as
Mudarabah capital. The capital may be cash or in kind. In case it The Rabb al Maal/Arbaab al Maal serve in the capacity of silent
is kind it is important to ensure that the assets are valued at the partners.
time of Mudarabah execution. While restricted Mudarabahs are permitted, no conditions that
Partners’ capital investment must be established at Mudarabah may restrict or impede the Mudarib’s management of business
execution or at the latest before the business generates any are allowed.
profit. If partners are investing in different currencies it is As business manager, the Mudarib receives a profit share for his
important to agree upon one particular currency or numeraire to effort however he is not entitled to a fixed remuneration for his
serve as a standard value for the business. services.
Debt cannot serve as Mudarabah capital. If the manager wants to receive a fixed wage he must be
Partners may agree on individual profit shares. employed under a Wakalah contract as Wakeel, in which case he
does not receive a profit share.
If the Mudarib is permitted by the Rabb al Maal/ Arbaab a Maal to
invest in the business, then by means of a separate contract he
26

may make an investment contribution and become a Rabb al At termination, business assets in the form of cash are distributed
Maal. It is important to remember that his roles as Mudarib and based on capital contribution for cash and profit sharing ratio for
Rabb al Maal are independent of one another. profit. If the business capital is in illiquid form, it is realized in
cash. Next after calculating accrued profit, the cash and profit are
 
distributed as per capital contribution and profit sharing ratios.
Mudarabah Profit Sharing
 
The profit sharing mechanism and mutually agreed profit ratios
Mudarabah – Practical Applications at the Islamic Bank
must be clearly defined for all the partners at the Mudarabah’s
inception or before profit or loss is generated. Islamic banks collect money from their depositors on a
Mudarabah (or Musharakah) basis and then form a Mudarabah (or
Profit amount cannot be guaranteed or fixed in absolute terms for
Musharakah) pool.
any of the Mudarabah partners and neither can it be a percentage
of capital. The bank serves as Mudarib to manage the pool.
A partner may voluntarily surrender all or part of his profit share to Based on its contractual agreement with its account holding
another partner provided it is not pre-agreed at contract customers, the bank retains the right to invest in the Mudarabah
execution. (or Musharakah) pool if it wants to.
  The bank uses the capital to make a range of Shariah-compliant
Loss in a Mudarabah investments.
The Rabb al Maal/Arbaab al Maal bear(s) the entire loss based on Operationally there is one difference, where normally profit in
capital contribution ratios. partnership based ventures like Mudarabah are shared after costs
have been deducted from the revenue, since it is difficult for
Mudarib does not beat any loss except that caused by his proven Islamic banks to identify and allocate costs to different pools and
negligence. projects, they absorb the costs and instead share gross profit.
  Mudarabah accounts are usually offered through savings or term
Mudarabah Termination deposit accounts where normally a longer duration of deposit
A Mudarabah may be terminated by any party at any time corresponds to a higher expected profit rate.
provided the terminating party gives prior notice however a ‘lock- Such accounts have ‘expected’ profit rates attached with them.
in’ clause may be established for a certain period that the These are the rates the account holders can expect to receive.
Mudarabah must remain in operation unless unexpected
circumstances such as death or injury materialize. It is important to remember that the bank cannot guarantee its
rates of return.

27

CIFE08, 09

Understanding Ijarah – 
Islamic Leasing

What's an Islamic lease? This modules helps you ﬁnd out.
We introduce Ijarah, the Islamic lease, and look at pre-
requisites for their execution, legal title, possession,
maintenance, earnest money, default, and insurance. We
begin answering the question "How does an Ijarah work?"
with step-by-step practical explanations. You learn the rights
and obligations of the lessor and the lessee and focus on
defective assets, sub-leases, extensions and renewals,
transfer of ownership, and termination.

CIFE08, 09: Understanding Ijarah

Ijarah is the lease of a specific asset or service to a client for an agreed period of
• Definition
time in exchange for rent which at the end of the lease period may result in
transferring the subject matter’s ownership to the lessee.
• Types of Ijarah
 
• Ijarah classification Types of Ijarah

• Prerequisites • Ijarah tul Aamaal
• Ijarah tul Manafaay
• Subject matter
 
• Rent and remuneration Ijarah tul Aamaal:
A lease contract providing services in exchange for agreed rent.
• Default
For instance the services of a lawyer purchased by a client in return for a fee.
• Rights and obligations of Lessor and  
Lessee Ijarah tul Manafaay:
A lease contract executed to transfer the benefits of an asset in exchange for an
• Renewal
agreed price.
• Transfer of asset ownership For instance an apartment leased for a year in exchange for a monthly rent. A part
of the year’s rent may be paid in advance and the remainder be paid as monthly
• Negligence installments, mutually agreed upon between the lessor and lessee.
 
• Termination

31

Usufruct lease categorized as: Ijarah - Key Elements
• Specific Asset Lease: A particular asset. For instance a car Subject Matter
identified by the lessee, a red fully loaded, automatic sedan.
All Shariah-compliant assets or services may be used as Ijarah
• Lease of asset based on specifications: An asset not subject matter.
specifically identified by the lessee but one required to meet
Legal Title
certain conditions. For instance any sedan.
Generally the lessor owns the leased asset and it should be in his
 
name however for regulatory reasons the asset may be registered
Ijarah classification based on transfer of ownership to lessee
in the lessee’s name.
Standard Ijarah
Possession
A lease contract where the lessee benefits from the asset for a
Ijarah may only be executed for subject matter the lessor owns
specific time period but it does not result in the eventual transfer
and possesses.
of ownership of the asset to the lessee.
Maintenance
Ijarah wa Iqtina
Periodic Maintenance: The lessee is responsible for regular
A lease contract conducted solely to transfer ownership of the
maintenance of the leased asset.
leased asset to the lessee at the end of the lease period.
Major Maintenance: The lessor is responsible to meet all
 
requirements to ensure the leased asset continues to provide
Ijarah prerequisites intended use.
The client and lessor enter into a promise to execute an Ijarah for Earnest Money
the usufruct of a particular asset or service. The institution
undertakes to provide the asset or service and the client A sum of money the lessee deposits with the lessor. The lessor
undertakes to enter into a lease contract for it. maintains it as compensation for actual loss in case the client
goes back on his word about executing an Ijarah.
The asset or service must be owned by the lessor and made
available to the lessee before the Ijarah commences. The lease If the client fulfills his undertaking to lease and enters into an
period commences once the subject matter of the lease is made Ijarah contract, the lessor returns him the earnest money.
available to the lessee.
Insurance
The Ijarah asset can be insured by means of Shariah-compliant
Takaful insurance.

32

Ijarah Rent and Remuneration 2. Lessor takes care of major maintenance expenses and
insurance costs. The lessor may include insurance costs at
Rent
the time rentals are determined however once rentals are
1. Rent must be clearly deﬁned, it may in the form of cash or established, they may not be adjusted to accommodate a
kind or an asset’s usufruct. change in expenses. Lessor may appoint client as agent to
deal with the insurance company.
2. Different rentals may be established for different periods.
3. Lessor is obliged to deliver the asset and all associated
3. Rent for the initial Ijarah period must be established and leased items necessary to transfer usufruct to the lessee. The
received in advance from the lessee and rent for the remaining lessor must rectify any problem that prevents the lessee from
period may be linked to a well known benchmark. utilizing the usufruct.
4. Rent begins to accrue as soon as the subject matter of the  
lease is made available to the lessee. Lessor’s Rights
Remuneration 1. In case the lessee defaults on lease payments, the lessor is
Remuneration for a service is established in relation to time. within his rights to reclaim the leased asset or grant respite for
a time. He may also charge late payment fee which includes
  administrative charges that belong t the lessor and late
Default in Ijarah payment penalty that is given to a designated charity.
Default in an Ijarah is a failure on the lessee’s part to make a 2. In case of excessive damage to leased asset, the lessor may
rental payment. rescind the Ijarah.
If the lessee defaults on lease payments, the lessor may reclaim 3. Lessor may contract an Ijarah with more than one lessee for
the asset or grant him respite until his ﬁnancial condition the same asset for different time periods.
improves.
4. Lessor may rescind contract if he becomes aware of the
  lessee’s intent to use Ijarah asset for unlawful purposes.
Lessor’s Rights and Obligations
 
Lessor’s Obligations Lessee’s Rights and Obligations
1. Lessor bears all the risks associated with the leased asset Lessee’s Obligations
during the lease term.
1. Lessee must utilize the Ijarah asset according to customary
practice by which similar assets are used. He must take
necessary measures to preserve it from damage or defect and
33

beneﬁt from the usufruct as provided in the contract and not In this document the lessee undertakes to purchase the Ijarah
in any way beyond its scope. asset at the end of the Ijarah period for a mutually agreed amount
at the time of Ijarah contract execution.
2. The lessee is obliged to pay rentals once the Ijarah’s subject
matter is made accessible to him. If the Ijarah asset is The price may be the actual cost of the leased asset or any other
available to the lessee only for a part of the contract’s nominal value. Alternatively the lessor may gift the leased asset to
duration, the lessee in not obliged to pay rentals for the period the lessee at the end of the Ijarah period.
the usufruct is not at his disposal
In some cases, with the lessor’s consent, the lessee may even
  purchase the asset during the lease period by making complete
Lessee’s Rights payment of rentals due or paying for the market value of the asset
at the time.
1. The lessee is within his rights to rescind the Ijarah contract if
the lessor refuses to repair the Ijarah asset’s defects that The asset is sold to the client at the end of the lease period based
occur after the contract date or exist on the contract date on a separate sale contract that represents the transfer of
unbeknownst to the lessee. ownership.
   
Sublease Negligence in Ijarah
The lessee may sublease the Ijarah asset to third party with the Negligence is the loss that results from the violation of contract
lessor’s consent. conditions.
  If the Ijarah asset is damaged as a result of the lessee’s
Ijarah Renewal negligence, he must bear repair expenses. However the lessee is
not liable for rent for the period the asset remains out of use.
The Ijarah may be extended when it reaches maturity and the
lessee still wants to continue beneﬁtting from it. A new Ijarah is  
not required. Ijarah Termination
  The Ijarah is terminated:
Transfer of Ijarah Asset Ownership
• Based on contractual terms
In order to transfer the Ijarah asset’s ownership to the lessee at
• One of the party’s rescission
the end of the lease term, a separate document independent of
the original Ijarah contract is prepared. • Due to the theft or destruction of the Ijarah asset’s usufruct.

34

As a general rule, contracts cannot be terminated unilaterally but
only by mutual consent, however there are some conditions as a
result of which contracts are automatically terminated:
1. If the lessee fails to meet lease terms
2. If the lessee loses his sanity during the lease period
3. If case of the lessee’s death
 
Lessee can terminate Ijarah:
If the Ijarah asset contains or develops defects. He may return
asset to the lessor and demand compensation for the period of
defect.
The lessee may not rescind the contract if the defect does not
hinder usufruct utilization or the lessor ensures its immediate
replacement.
Remember that the lessee can exercise rights of rescission in an
Ijarah of a speciﬁc asset only.

35

CIFE10, 11, 12

Understanding Murabaha – 
Cost Plus Financing

Learn about the most widely used Islamic finance product:
buy an asset for the customer; sell the asset at a premium in
installments to the customer. That's a Murabaha. In these
modules we introduce Murabahas and walk you through the
first 5 of the 7 important steps necessary for a Murabaha's
valid execution. Wrap up the 7 steps to executing a
Murabaha: we cover steps 6 and 7 and go on to discuss
common mistakes bankers make when executing
Murabahas and how to avoid them. We also look at risk
management, default, early repayment, and profit calculation
in Murabahas. So how does it work in the real world? We
look at 6 practical examples of Murabahas based on
installment repayments, bullet repayments, advance
payments, and credit and import Murabaha.

CIFE10, 11, 12: Understanding Murabaha

A Murabaha is a sale in which the seller’s cost of acquiring the asset and the profit
• Definition
earned from it are disclosed to the client or buyer.
• Murabaha prerequisites Islamic banks offer the Murabaha to fulfill asset purchase requirements and not as
a liquidity financing facility.
• Subject matter  
Murabaha Prerequisites
• Price
Subject Matter
• Steps of Murabaha execution 1. Murabaha subject matter or the Murabaha asset must exist at the time of
contract execution. For instance a Murabaha can be executed for a car that
• Mitigating Murabaha risks exists not for one that is to be manufactured.
2. The bank must own the asset and have either physical or constructive
• Default in a Murabaha possession.
3. The subject matter must be an item of value and Shariah-compliant.
• Prohibitions in a Murabaha
4. The subject matter must be a tangible good, clearly identified and quantified.
• Calculating profit in a Murabaha  
For instance if the buyer wants to purchase rice, its exact quality and quantity in
terms of weight must be clearly specified in the Murabaha contract to avoid gharar
or uncertainty that leads to dispute between contracting parties.
 
Price
1. Murabaha asset cost must be declared to the client.
2. The cost refers to all expenses involved in the asset’s acquisition.

39

3. The asset’s price includes all direct expenses where the bank 3. The client’s unilateral promise to purchase the Murabaha
pays for all indirect expenses. goods and the financial institution’s acceptance of collateral
4. Parties to the contract establish a profit rate by mutual At this stage the bank in order to safeguard its rights in case
consent or in relation to a specific and known benchmark. the client backs out from entering into a Murabaha, requests
the client to furnish a security or earnest money called
5. The Murabaha price may be charged at spot or be deferred
Haamish Jiddiah.
and paid as a lump sum at the end of the contract or in
installments on fixed dates during the term. In case the client backs out from entering into a Murabaha,
the bank makes up for the actual loss from it and returns the
6. The Murabaha profit must be disclosed as a specific amount.
remainder to the client.
 
It is important to remember that Murabaha execution must adhere
to a certain sequence of procedures in order to ensure Shariah- 4. The agency agreement between the financial institution and
compliance. the client or a third party
  Since banks do not possess the expertise or manpower to
Steps of Murabaha Execution purchase the asset, they appoint the client as the agent to
procure the asset from the supplier on their behalf.
1. The client’s submission of a purchase requisition for
Murabaha goods Agency agreements are of two types:
Based on the requisition the bank approves the credit facility Specific Agency Agreement: Agent is restricted to  
before entering into an actual agreement.  purchase a specific asset from a specific supplier
Global Agency Agreement: Agent may purchase the asset
2. The master Murabaha facility agreement between the financial from any source of his choice. Such an agreement also lists
institution and the client a number of assets which the agent may procure on the  
bank’s behalf without executing a new agency agreement  
It includes:
each time. 
i. An approval of the client’s credit facility  
Key point to remember about the agency 
ii. The terms and conditions of the Murabaha contract
iii. Murabaha asset specification
• During the agency stage, the bank’s exposure to asset risk is
iv. Client’s undertaking to purchase the Murabaha asset highest and it is in the bank’s interest to shorten this period as
once the bank acquires it (if not included in the MMFA, it much as possible.
constitutes step 3)
• Bank may also minimize risk by ensuring the supplier receives
payment for the Murabaha asset.

40

• Bank must also ensure that the Murabaha asset to be Mitigating Murabaha Risks
purchased is not already in the client’s possession. To
maintain correct sequence, the bank must disburse the • Shariah validity of a Murabaha is strongly sensitive to
money to the agent before the agent purchases the goods. following the designated steps in the correct sequence.

• The agency agreement is not a prerequisite but motivated by • A deferred Murabaha may not be executed for mediums of
logistical ease. exchange, i.e. commodities such as gold, silver and
currencies, only a spot Murabaha may be executed for them.
• Banks can procure Murabaha goods directly or establish a
third party agency. • The bank must seek Shariah-compliant Takaful insurance for
Murabaha goods to cover transit period risk, i.e. the risk
posed to the bank once it purchases the goods from the
supplier and has their possession and before it sells them to
5. The possession of the Murabaha goods by the agent on
behalf of the financial institution the client. 

After the agency agreement the client completes the  
purchase order form. The bank disburses the money to the   Default in a Murabaha
client, who as agent pays it to the supplier and receives   There is no concept of a late payment penalty in a Murabaha
possession of Murabaha goods. contract however a charity clause is established at contract
execution to serve as a deterrent to default.
In case of a default in payment, based on the charity clause, the
6. The exchange of an offer and acceptance between the client
client is obliged to pay a predetermined amount to a designated
and the financial institution to implement the Murabaha sale
charity.
Either party can make the offer; the client may offer to buy  
 
the Murabaha goods or the bank may offer to sell them. The  
Murabaha Prohibitions
Murabaha sale is completed at the time of offer and  
acceptance. A roll-over is the provision of an extension in return for an
increase in the original payable amount and is impermissible in a
Murabaha.
7. The transfer of possession of Murabaha goods from the
It constitutes repricing and rescheduling:
financial institution to the client
Repricing is prohibited because the Shariah does not permit an
The client is the owner of goods and all the associated risk
increase in debt once it is fixed.
and rewards however his obligation does not conclude until
he makes complete payment of Murabaha price. Rescheduling is only permissible when the creditor provides an
  extension to ease the burden of a debtor, so a roll-over where the
bank increases the debt in return for an extension is

41

impermissible as the resulting amount of debt is analogous to riba In case the client as agent is unable to purchase the asset on the
or interest which is prohibited in Islam. 1st of June due to some unavoidable circumstances such as a
supply shortage and the Murabaha is terminated, the bank is
 
entitled to receive only the capital back and nothing more.
Calculating Murabaha Profit
This is the key difference between a loan on interest and a
From an accounting perspective, there are two stages in a Murabaha.
Murabaha:
1st stage: The investment stage: Begins after the bank and client
sign the agency agreement. It is the time period where the bank
has disbursed money for the purchase of the asset from the
supplier but has not yet acquired possession in order to sell it.
2nd stage: The financing stage: This stage begins when the bank
receives the good and goes ahead with the exchange of offer and
acceptance with the client. It ends once the bank receives the
Murabaha payment from the client. It is during this time that the
bank has the right to accrue profit.
 
Example
A bank extends an advance for Murabaha to the client on the 1st
of March, knowing that he will not purchase the asset until the 1st
of June.
The client purchases the asset on the 1st of June and the
Murabaha sale takes place between him and the bank on the
same day.
If the tenure of the Murabaha is 4 months, it will commence on
the 1st of June and last until the 1st of October.
The bank will begin calculating profit on the 1st of June and not
the 1st of March so that no income accrues to the bank between
1st of March and 1st of June.

42

CIFE13, 14, 15

Understanding Salam and Istisna – 
Forward Sale and Manufacturing
Contracts

What makes a forward contract Islamic? Learn here. In this
module on Salam, the Islamic forward sale, and Istisna, the
Islamic manufacturing contract, we begin with Salam. We
look at the goods for which a Salam may be executed, the
pre-requisites, and the use of a Parallel Salam. We discuss
security, replacement, and default before explaining how its
pricing is calculated. We then look at Istisna and discuss the
major differences between it and the Salam. We also discuss
delivery, default, and termination an Istisna. We conclude the
3 module series with a practical product structuring exercise
where you get to choose the appropriate ﬁnancing tools in a
given scenario.

CIFE13, 14, 15: Understanding Salam and Istisna

Salam is a sale where the price of the subject matter is paid in full at the time of
• Salam definition
the contract’s execution while the delivery of the subject matter is deferred to a
future date.
• Salam prerequisites and essentials
It is not necessary that the subject matter exist, and be owned and possessed by
• Salam term and termination the seller at the time of the Salam’s execution as is the customary requirement of a
standard sale, provided it meets the other criteria specific to it.
• Security in a Salam
Salam is a mode of finance that helps the seller generate and utilize liquidity and at
the same time allows the buyer to purchase commodities for a price lower than the
• Replacement of subject matter
spot market price.
• Delay in delivery and default in a Salam A Salam may be executed for homogeneous commodities but not for specific
commodities and mediums of exchange.
• Istisna definition
Homogeneous commodities, also termed fungible, are similar to one another and
are sold as units. The difference between them is negligible. Since they are
• Istisna essentials
homogeneous, in case of loss, one unit may be replaced by another.
• Istisna term  
Salam Prerequisites
• Parallel Istisna
1. The quantity and quality of Salam goods must be specified in order to avoid
any ambiguity that may lead to dispute between contracting parties.
• Delay in delivery and default in an Istisna
Salam goods must be readily available in the market so that at the time of  
• Rebate, Prohibition of buy-back delivery if they do not meet specifications the seller can procure them easily
and supply them to the buyer.
• Istisna termination

46

2. Salam price must be paid at spot. The price is fixed and Salam Essentials
cannot be increased due to an increase in the price of Salam
goods in the market during the contract’s term. Price

The seller must deliver the goods without demanding any   Most things established as the price for an ordinary sale may also
excess money as the Salam goods become the property of be established as Salam price, i.e. cash, goods and usufruct.
the purchaser once the contract is signed. It is important to remember that goods may serve as the Salam
3. The place of delivery of Salam goods must be specified and price provided they do not fall into the Amwaal e Ribawiya
they must be delivered in their entirety on a fixed future date category.
or in installments on predetermined dates. Usufruct refers to the benefits received from a particular asset.
4. Salam goods cannot be sold to a third party before receiving The buyer in a Salam may offer the seller an asset’s usufruct for a
possession however a parallel Salam may be executed for specific time period as the Salam price.
them. The Salam price is determined based on the number of days the
  bank’s funds remain invested in the Salam transaction.
Parallel Salam  
A transaction executed simultaneously with the original Salam. Subject Matter
The buyer of goods in the first Salam is the seller of goods in the 1. Salam subject matter must fall into the category of
second or parallel Salam. homogeneous goods and be easily available in the market
For instance, a buyer makes a payment for the subject matter to throughout the contract’s term or at the time of delivery.
be delivered at a date, three months in the future. 2. The Salam subject matter must be clearly specified in terms of
At the same time, as a seller, he executes another Salam for a quantity and quality.
higher price with a third party for the same goods to be received 3. The subject matter must not be a commodity for which value
by him in the future. This way the money disbursed to purchase cannot be established. For instance precious stones.
goods in the first Salam is retrieved as price payment and profit
from the parallel Salam. Once the goods of the original 4. The Khayar al Aib (option of defect) may be exercised for
transaction are delivered they are transferred to the buyer in the Salam subject matter however not the Khayar al Rooyat
parallel Salam. (option of refusal).

A parallel Salam is permitted with a third party only.

47

The Khayaar al Aib is an option that a buyer may exercise to Security in a Salam
return goods to the seller if they are found to be defective
Since Salam is based on advance payment, the buyer is within
according to the specifications at the time of delivery.  
his rights to obtain a form of security from the seller. In case of
 
default, the buyer liquidates the security and makes up for the
The Khayaar al Rooyat is an option of refusal based on which the
actual price paid for the subject matter.
buyer may decline from accepting the goods as a result of non-
conformity to specifications.   Alternatively at the time of contract execution, the buyer may
establish that in case of default, he will sell the security in the
market and purchase the goods that the seller was supposed to
Delivery of Salam goods
provide at their going rate. The seller will then make up for the
1. Date of delivery of subject matter must be clearly established price difference if any.
at the time of contract execution.
 
2. Place of delivery of Salam goods must also be clearly Replacement of Salam Subject Matter
specified.
Salam subject matter cannot be replaced before the delivery date
3. Delivery of subject matter implies the complete transfer of its however it may substituted for another commodity based on
ownership. mutual consent and the observance of some conditions.
   
Salam Termination Delay in delivery of Salam Subject Matter

Once executed, a Salam may not be revoked unilaterally by either In case the seller is unable to deliver the subject matter on time,
party. It is a sale contract binding on both parties and may be the buyer may not charge a penalty however a charity clause
terminated completely or partially by mutual consent by returning established at the time of contract execution serves as a
the actual or proportionate amount of the price paid. deterrent against a delay in delivery.
   
Salam Term
A Salam may be executed for any length of time mutually agreed
upon between the buyer and the seller.

48

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