An Introduction to Islamic Finance: Theory and Practice

84 AN INTRODUCTION TO ISLAMIC FINANCE

and resells them to the client at the quoted cost plus a profi t to be agreed upon
mutually. At this stage, the bank would consider entering into a murabahah
contract, and would set the conditions and guarantees for the acceptance.

Client IslamicBank

Price Quote by Trader/Vendor

Promise to buy at Cost-Plus-Profit

Step 3: The bank purchases the product from the vendor by making
payment. In order to avoid getting involved with accepting the delivery and
making arrangements to store the product, often banks appoint the client
as their agent to accept the delivery on their (the bank’s) behalf.^3 Since the
bank is still the owner of the product, a murabahah contract is drawn up
between the client and the bank indicating the mark - up to be charged and
other relevant details. The contract is fi nalized by agreeing on the mode of
payment; that is, a lump sum or through installments. In addition to the con-
tract, the bank also accepts the goods or other assets as collateral against the
credit risk or the risk of default in payment by the client.

Client IslamicBank

Cost-plus Contract

Trader/

Vendor

Sale Item/

Commodity

Sale Item/

Commodity

Payment

Step 4: The client makes the payment to the bank at the designated time
and in the agreed manner. This payment includes the cost of the product to
the bank plus a profi t margin for the bank.

Client IslamicBank

Payments (Lump sum/Installments)

Features and Conditions
(i) Murabahah must be based on a sale and cannot be used for a pur-
pose other than purchasing a product. For a sale transaction to be valid
under the Shari’ah, the sale item is really purchased by the fi nancier, who
takes ownership and possession of it.
(ii) In the event of default by the end - user, the fi nancier only has recourse
to the items fi nanced and no further mark - up or penalty may be applied to
the outstanding liability. As opposed to conventional loans, there can be
no accrual of interest. It is common practice among Islamic banks to con-
sider the non - payment of two consecutive installments as default, at which
stage the bank is entitled to declare that all the other installments are due
immediately. In some cases, Shari’ah scholars allow the fi nancier to recover
additional amounts to offset any loss or damage arising from the default.
(iii) The fi nancier is allowed to ask for security to protect itself against
any non - payment in the future. Often an asset other than the item being