Murabaha and Qard-El-Hasan Financing
This is the most popular technique of financing among the Islamic banks. It has been estimated that 60 to 70 percent of financial operations of some Islamic banks belong to this category. It works in the following way:
The client approaches the bank to get finance for the purchase of a specified commodity. The bank, either itself or through some agent collects all the required information about the commodity itself, such as price, nature and specification of the commodity, names of dealers, etc. The bank informs the client of these details as well as of the margin it would like to charge on the original price.
In case, these conditions are acceptable to the client, a contract of Murabaha transactions will be signed between the bank and the client. The bank will purchase the specified commodity from any seller of its choice paying the price of commodity in cash. Once the ownership of the commodity is transferred to the bank, it sells the commodity to the client on the basis of differed payment basis against an agreed price.
The new price at which the bank sells the commodity to the client includes the original price (which is cost to the bank) plus the mark-up the bank is charging (which is the profit margin). The client pays this price either in instalment or in lump sum at an agreed later date.
There are certain requirements for the Murabaha contract to be valid. It is necessary that profit margin (or the mark-up) the bank is charging must be determined by mutual agreement between the parties concerned. Similarly, the good in question should be in the physical possession of the bank before it is sold to the client. Then transaction between the bank and the seller should be separate from the transaction between the bank and the purchaser. There should be two distinct transactions. That is why certain Islamic banks effect a Murabaha transaction in two stages using two separate contract forms. The first form is a request to the bank through which the client informs the bank of his intention to carry out the Murabaha. In this contract, the client promises to buy the good from the bank. It should also be noted that a promise is not legally enforceable. Hence, the client has a right to change his mind and the bank runs the risk of losing the money it has invested in this particular Murabaha. The second contract deals with the sale of good by the bank to the client on deferred payment basis, the terms and conditions of which are clearly spelled out in the contract form.
The Murabaha form of financing is being widely used by the Islamic banks to satisfy various kinds of financing requirements. It is used to provide finance in various and diverse sectors, e.g. in consumer finance for purchase of consumer durables like cars and household appliances, in real estate to provide housing finance, in the production sector to finance the purchase of machinery, equipment, raw material, etc. However, probably the most common use of Murabaha techniques is in financing short-term trade. Murabaha contracts are also used to issue letter of credit and to finance import trade.
Murabaha Financing facilities, thus, include:
- Murabaha Term Financing
- Murabaha Motor vehicles, Machinery, Equipment and Furniture financing
- Murabaha Consumer Financing
- NGO’s employee Mortgage and Automobile financing
- External employee and Business owner financing
Qard refers to an interest free financing. In a Qard transaction the borrower repays the principal amount of the financing without mark-up or a share in the business for which the financing was used.