Why Islamic Finance?

1. 2 Days Specialized Training Workshop on Islamic Micro Finance6th Global Islamic Microfinance - Kenya

2. Why Islamic Finance? • The body which is promoted by Hiram sources is bound to hellfire. • On the Day of Judgment, a person will not be moved from the place where he stand until he is asked about the sources of his income and they way he spent it. • Purifying of the needs of life (food, drink, clothes house etc) is one of the most important reason for the acceptance of prayers by Allah.

3. Rulings In Islam • These 5 primary objectives follow by Shariah can be observed though the Al Ahkam(rulings) upon which Fiqh (Islamic Jurisprudence) rotate around. The rulings are categorized as follows: • a. Wajib (obligatory) • e. Haram (unlawful) • b. Mustahab (recommended) (Sunnat) • c. Mubah (permissible) • d. Makruh (disliked)

4. Rulings • Wajib- An obligatory action or something that shall be performed. Anyone who leave it is liable to gain the punishment of Allah s.w.t. in the Here after as well as a legal punishment in this world. • Haram- An unlawful action or the one that shall not be performed and is strictly prohibited. Anyone who engages in it is liable to gain the punishment of Allah s.w.t. in the Here after as well as a legal punishment in this world. • Mustahab- A recommended action or something that should be performed. • Mubah- A permissible action or something that is neither encouraged nor discouraged. • Makruh- A disliked action or something which is abominable and should be avoided but not in strictly prohibitory terms.

5. Islam and Shariah

6. Human Financial Needs

7. External (Equity & Debt) Financing

8. Most Important Islamic Teaching Related To Business • Elimination of Interest (Raba) • The prohibition of uncertainty (Gharar) • The prohibition of Gambling (Qimar) • The precipitation of games of chance (Maser) • Honesty and Fair Trade (Ghishshand Khilabah) • Spending in the Good Cause • Buy Back • Two Mutually Conditional Contract • Entitlement to profit depends on liability for risk

9. WHAT IS ISLAMIC BANKING?

10. WHAT IS BANK? • The name bank derives from the Italian word banco "desk/bench. • In practice, the word “Bank” means an institution which borrows money from people and lends money to people for interest or profit and provided other financial services.

11. BANKS ENGAGE IN THE FOLLOWINNNG ACTIVITIES. • Accepting money • Processing of payments by way oftelegraphic transfer, internet banking, or other means; • Issuingbank draftsand bank cheques • Lending money • Providing documentary and standbyletter of credit, guarantees, performance bonds, securities underwriting commitments and other forms of off balance sheet exposures • Safekeeping of documents and other items insafe deposit boxes

12. WHAT IS ISLAMIC BANKING? Islamic banking has been defined as banking in consonancewith the ethos and value system of Islam and governed, in addition to the conventional good governance and rick management rules by the principle laid down by Islamic Shariah.

13. Comparison of the Islamic and Conventional systems Conventional Banking • Conventional Banks take deposit on interest basis and lend on the basis on interest. A part of interest is paid to the depositors and the remaining interest is left for the bank as its income. If this residual is more than its expenses, it will have Net Income otherwise it will have Net loss. Islamic Banking • Islamic Banking accepts deposits on PLS basis and invest in Shariah based modes. Whatever is the profit, it is shared with depositors. If there is a loss it will also be shared.

14. OBJECTIVES OF ISLAMIC BANKING • Shariah compliant banking, to enableMuslimsto do theirbanking transaction– a Halal way. • Achieving the goals and objectives of an Islamic economy.

15. DEPOSITS • A deposit is an account at a bankinginstitution that allows moneyto be deposited and withdrawn by the account holder. These transactions are recorded on the bank's books. • All deposit appears as liability on Balance Sheet of the Bank.

16. CATEGORIES OF DEPOSIT IN ISLMIC BANKING The Shariah option for deposit mobilization can be worked out by respecting two principles: • The aim of the exchange at hand must be recognizes in Shariah. • The modalities to achieve the said must be Shariah Compliant.

17. GENERAL MOODES OF ISLAMIC BANKING USED TO RAISE DEPOSITS Depositors • Deposit can be accepted by islamic bank on basis of: • Amanah • Qarid Investment Accounts • Islamic banks generally use Musharakah and Mudarabah based product for obtaining investment account. • These deposits are based on the Shariah principles of profit and loss sharing, and the banks use them, along with its own funds in businesses which are Shariah compliant. • Wakala model can also be used for Investment Account.

18. Definition of Qard • In Islamic Shariah, loans called Qard have only one concept as far as return thereon is concerned i.e. these are interest–free. • These are repayable in exactly equal amounts in which these are paid.

19. Definition of Amanah • To give any commodity / asset to anybody for the sake of safety is called Amanah. • Anything given as Amanah is considered to be something held in trust, and the same can not be used.

20. Shirkah

21. MEANING OF SHAIRKAT • The literal meaning of Musharakah is sharing. The root of the word "Musharakah" in Arabic is Shirkah, which means being a partner. • Under Islamic jurisprudence, Musharakah means a joint enterprise formed for conducting some business in which all partners share the profit according to a specific ratio while the loss is shared according to the ratio of the contribution.

22. Shirkat-ul-Ammwal Definition: • It is an agreement between two or more persons to invest a sum of money in a business and share its profits according to agreement. The investment of this partnership consists of capital contributed by the partners.

23. SHIRKAT-UL- AMWAL: Capital of Musharakah • It should be known, ascertained and available at the time of contract. • The value should be agreed upon in case of kinds; • Capital paid in different currencies should be valued into the currency of Shirkah; • Capital advanced by the parties. Should be uniform (currency of partnership). • Share capital in a Musharakah can be contributed either in cash or in the form of commodities • In the letter case the market value of the commodities shall determine the share of the partner in the capital.

24. Management of Musharakah • Each partner has right to take part in Musharakah management. • The partner may appoint a managing partner by mutual consent. • One are more of the partners may decide not to work for the Musharakah and work as a sleeping partner. • It is not allowed to specify a fixed remuneration to a partner Musharaka who manages funds or provides some form of other services, such as accounting; • However, it is permissible to give him a greater share of profit than he would receive solely on the basis of his share in the partnership capital;

25. Distribution of Profit • The ratio of profit distribution must be agreed at the time of execution of the contract. • It is not necessary for sharing profit according to proportionate capital contribution; • It is not allowed to defer the determination of profit until realization of profit. • The ratio must be determined as a proportion on the actual profit earned by the enterprise. • Not as percentage of partner’s investment. • Not in lump sum amount. • It is not allowed to defer the determination of profit until realization of profit. • A sleeping partner cannot share in the profit more than the percentage of his capital.

26. Rules of Loss Determination/Distribution • Sharing of Loss: • As a matter of principle the loss has to be shared according to the ratio of capital contribution; • Partners are not allowed to adopt any other mechanism except the mechanism that ensure distribution of loss among partners on pro rata basis; • Any other arrangement, even agreed upon by partners, will be invalid and void. • It is not allowed to hold one partner or group of partners liable for entire loss.

27. MUDARABAH

28. Mudaraba Introduction - Definition “Mudaraba” is a kind of partnership where one partner gives money to another for investing in profitable avenues. • The investor (fund supplier) is called “Rabb-ul-Mal” ( رب اﻟﻤﺎﻝ ) while the person who utilizes this fund (the fund manager) is called “Mudarib” (ﻣﻀﺎﺭﺏ) who is exclusively responsible for management of the business.

29. Capacities of Mudarib Mudarib has different capacities for which rules are different. Listed down are his roles: • Ameen (trustee): • Mudarib holds money and assets of Mudarabah as trustee; • Therefore, he is responsible for management of assets honestly; • In case of actual loss he is responsible for nothing; • Wakeel (Agent): • Mudarib manages Mudarabah as an agent of owner; • Therefore his actions are considered as of RabbulMaal; • Actual loss is born by RabbulMaal in case it happens; • Shareek (partner): • Mudarib becomes partner in the profit that Mudarabah generates;

30. Mudaraba Introduction - profit & loss distribution • Profit and Loss distribution: • The Mudaraba contract should mention profit sharing ratio in defined and clear terms; • The profit sharing ratio should be: • specific; • of the expected profit; • Apart from the agreed proportion of the profit, the Mudarib cannot claim any periodical salary or a fee or remuneration for the work done by him for the Moradabad. •  The Mudarib & Rab-ul-Maal cannot allocate a lump sum amount of profit for any party nor can they determine the share of any party at a specific rate tied up with the capital.

31. Mudaraba Vs Musharaka

32. CATEGORIES OF DEPOSIT IN ISLMIC BANKING

33. DIFFERENCE IN DEPOSITS & INVESTMENT ACCOUNTS

34. COMPONENTS OF VALID SALE SALE CONTRACT SUBJECT MATTER PRICE POSSESSION • Offer/Acceptance • Buyer/Seller • Certain • Physical • Constructive • Existence • Ownership • Possession • Valuable • Halal Purpose • Instant and absolute • Unconditional

35. Types of sale  • A trust sale is a type of sale in which buyer and seller agree on disclosure of actual cost while General sale is a type where seller quote a price whit out disclosure of cost;In trust sales honest disclosure of cost by seller is necessary; There are three types of trust sale: Ba’yTauolia  Cost to cost sale; Ba’yWa’dia  Below the cost sale; Ba’y Murabaha Cost plus profit sale; 

36. Musawamah Musawamah is a general kind of sale in which price of the commodity to be traded is stipulated between seller and the buyer without any reference to the price paid or cost incurred by the former. Thus it is different from Murabaha in respect of pricing formula. Unlike Murabaha, seller in Musawamah is not obliged to reveal his cost.

37. Murabaha • In literary terms, Ba’y Murabaha (بيع مرابحه) means “sale on profit”. • In Arabic, its origin is Rabah)ربح) which means profit. • Technically, it is a contract of sale in which the seller declares his cost and profit. • It may be on spot basis, or on deferred payment basis.

38. FEATURES OF BANKING MURABAHA Murabaha finance is not a loan given on interest, it is a sale of Asset(s) for cash/deferred price. It is the obligation of the Seller to disclose the Cost and Profit to the Buyer.

39. FEATURES OF BANKING MURABAHA Murabaha Transaction can either be a cash sale (Spot Payment Murabaha) or a credit sale (Deferred Payment Murabaha) or a combination of both. Payment of Murabaha Price can be made in lump sum or in installments.

40. FEATURES OF BANKING MURABAHA Murabaha Finance can only be used for the purchase of fresh Asset(s) only. Buy-Back arrangement is prohibited. This means that Murabaha transaction cannot be executed for the Asset(s) already purchased by the Customer.

41. Scope of Murabaha • Murabaha is a fixed price sale and is normally used for short term financing; • Murabaha cannot be used as a substitute for cash advancing or pure cash based running finance facility; • The transaction can be used in order to meet the working capital requirements however it cannot be used to meet liquidity requirements; • Murabaha can be used for long term as well but it such a case it would be a fixed rate transaction and will not accept flexibility in rate of financing;

42. VARIOUS MODELS OF MURABAHA FINANCE

43. MODEL - I TWO PARTY REALTIONSHIP • Bank – Customer MODEL - II THREE PARTY RELATIONSHIP • (Bank-Vendor) and Customer MODEL - III THREE PARTY RELATIONSHIP • Bank and (Vendor-Customer)

44. MODEL - I • The simplest possible Model emerges when the transaction involves two parties only, i.e Bank and the Customer. • The Bank is also vendor and sells the Asset(s) to its Customers on deferred payment basis. • From Shari’ah perspective it is an ideal Model and its profits are fully justified because Bank assumes all risks as Vendor/Trader.

45. MODEL I – GRAPHICAL PRESENTATION 2 Customer Bank/Vendor 1 3

46. MODEL I - PHASES Phase 1: The customer approaches Bank (Vendor) and identifies Asset(s) and collects relevant information including cost and profit. Phase 2: Bank sells Asset(s) to the Customer, transfer risk and ownership to the Customer at certain Murabaha Price. Phase 3: Customer pays Murabaha Price in lump sum or in installments on agreed dates.

47. MODEL - II • In most cases Murabaha Transaction involves a third party (i.e. Vendor) because Bank is not expected to engage in sale of variety of products required for variety of Customers. • The Bank directly deals with the Vendor and purchases the Asset(s).

48. MODEL II • The Bank sells the purchased Asset(s) to the customer on cost plus basis. • There are two distinct sale contracts at different point of times. First between Bank and Vendor and second between Bank and the Customer.

49. MODEL II – GRAPHICAL PRESENTATION Vendor 3 1 4 Customer Bank 5 2 6

50. MODEL II - PHASES Phase 1: Customer identifies and approaches the Vendor or Supplier of the Asset(s) and collects all relevant information. Phase 2: Customer approaches the Bank for Murabaha Financing and promises to buy the Asset(s). Phase 3: The Bank makes payment to vendor directly.