Islamic Banking

Forms Of Financing In Islamic
Banking
1. Murabaha Sales Contract
A method of direct financing through which the clients asks the Bank to purchase a good or an
item, and the client pledges to purchase it from the Bank in case the Bank purchases it.
Thus, the Bank buys this item and it becomes its property, and then the item is sold to the client in
return for the first price and adding a known profit amount.
2. Lease to Own “Leasing”

It is a method of direct financing through which an asset owned by the Bank is leased to a client
who can benefit from the asset in return for a known leasing fee paid on a number of payment.
The Bank might not be the owner of the asset, in this case, the Bank will purchase this asset based
on the request of the client, who will rent it for the specified period, and the client will be
responsible for normal maintenance expenses (operational expenses), and the expenses necessary
for the use of the item is endured by the Lessor. The ownership of asset is transferred to the client
at the end of the contract term in return for a symbolic payment according to a sales or gift
contract. During the leasing period, the client pays the lease amount on a specified number of
installments, which are paid on specific dates. In case the client fails to fulfill his payments, the
contract will be terminated, and the paid amounts are considered lease fees. Any additional
amounts will be returned to the client.
Lease to Own
This arrangement is similar to the declining balance one described
above, except the financial institution puts up most, if not all, of the
money for the house and agrees to sell the house to the eventual
homeowner at the end of a fixed term. A portion of every payment goes
toward the lease and the balance toward the home's purchase price.
Leasing, or Ijarah, involves selling the right to use an object (usufruct)

for a specific time. One condition is that the lessor must own the leased
object for the duration of the lease. A variation on the lease, 'ijarah wa
'iqtina, provides for a lease to be written where the lessor agrees to sell
the leased object at the lease's end at a predetermined residual value.
This promise binds only the lessor. The lessee is not obligated to
purchase the item.
3. Istisna'a:
It is a method of direct financing through which the Bank produces a specific item or constructs a
building based on the request of the client. Istisna’a is a contract of exchange with deferred
delivery, applied to specified made-to-order items. It is a binding contract for both parties, taking
into consideration that it meets the specified requirements, such as defining the item, its type,
quantities, and description, in addition to specifying the price and the terms of payment. Istisna’a
is applied by considering the Bank as the manufacturer and the client as the requester of the asset
that needs to be manufactured for a named price, and then the Bank shall enter into contract with a
specialized manufacturer/contractor to produce the item in the agreed form, without making any
connections between the two contacts (which is known as parallel Istisna’a).
Islamic Forwards (Salam and Istisna)

These are rare forms of financing, used for certain types of business.
These are an exception to gharar. The price for the item is prepaid, and
the item is delivered at a definite point in the future. Because there is a
host of conditions to be met to render such contracts valid, the help of
an Islamic legal advisor is usually required.

4. Musharaka
It is a method of direct financing in which the Bank and the client jointly provide the capital
required for financing a particular project, and the Bank and the client share the profits according
to the agreed percentage, or in an a percentage of each party’s contribution in the capital.
According to the contract, profit is distributed as below:
 An agreed share for the partner in return for project management and administration
works, according to a separate contract.
 The amount of profit remaining after deducting the partner’s share is distributed according
to the agreed percentage, or according to the contribution of each party in the capital.
 In case of loss, the parties distribute the loss according to each party’s contribution in the
capital only. However, the partner loses his management efforts and is not liable for any
financial loss.
 The partners have the right to manage the project, and some have the right to waive their
right in management and to limit their role to financial contribution.

5. Mudaraba:
An agreement between two parties where one partner provides the money (the Bank) and the other
uses his efforts and work experience to manage the work (Mudarib), and the profits gained from
this project will be shared according to the agreed terms. In case of loss, the provider of the money
loses the money, and the other party loses his efforts, except in case of negligence from the later
party.
Mudaraba in divided into two types:

 Absolut Mudaraba: The money provider does not request the specification of any work
conditions or terms.
 Restricted Mudaraba: The money provider requests specific terms and restrictions, and this
is the type used in Islamic banks.
The Islamic bank pools investors' money and assumes a share of the
profits and losses. This process is agreed upon with the depositors.
What does the bank invest in? A group of mutual funds screened for
Sharia compliance has arisen. The filter parses company balance
sheets to determine whether any sources of income to the corporation
are prohibited. Companies holding too much debt or engaged in
forbidden lines of business are excluded. In addition to actively
managed mutual funds, passive funds exist as well. They are based on
such indexes as the Dow Jones Islamic Market Index and
the FTSE Global Islamic Index.
Declining Balance Shared Equity

Declining balance shared equity calls for the bank and the investor to
purchase the home jointly. It is commonly used to finance a home
purchase. The bank gradually transfers its equity in the house to the
individual homeowner, whose payments constitute the homeowner's
equity.

Islamic Banking

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Forms Of Financing In Islamic

2. Lease to Own “Leasing”

Leasing, or Ijarah, involves selling the right to use an object (usufruct)

Islamic Forwards (Salam and Istisna)

Mudaraba in divided into two types:

Declining Balance Shared Equity

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