Investment Mode 1

a) Different modes of Investment under Islamic Shariah

Investment Mode 2

b) Concept, types & Characteristics of different modes of Investments

Sharing Mode of Investment:MUDARABAMUSHARAKA

Hire Purchase Under Shirkatul Melk(HPSM)

Buying and Selling Mode:

Bai- MurabahaBai-MuajjalBai-SalamIstishna

Investment Mode 3

MUDARABA

What is Mudraba?

Definition of Mudaraba:Mudaraba is a partnership in profit whereby one party provides capitaland the other party provides skill and labour. The provider of capitalis called “Shahib al-maal” while the provider of skill and labour iscalled “Mudarib”.

Types of Mudaraba:

Mudaraba Contracts are generally divided as under:

    a) Unrestricted Mudaraba and    b) Restricted Mudaraba

a) Unrestricted Mudaraba:

Unrestricted Mudaraba may be defined as a contract in which the Shahibal-maal permits the Mudarib to administer the Mudaraba fund withoutany restriction.

b) Restricted Mudaraba:

Restricted Mudaraba may be defined as a contract in which the Shahibal-maal restricts the actions of the Mudarib to a specified period orto a particular location or to a particular type of business.

Terms and elements of Mudaraba:

>> Contracting Parties:

There are two contracting parties in Mudaraba:        1.      The provider of the capital i.e. ‘Shahib al-maal’ and        2.      The Mudarib.

>> Capital/ Shahib al-maal’/Capital is the amount of money given by the provider of funds i.e.Shahib al-maal to the Mudarib with the purpose of investing it in theMudaraba business.

>> Profit & Loss:Profit should be for both Shahib al-maal and Mudarib as per agreedratio. Loss should be borne by the Shahib al-maal.

Investment Mode 4

>> The main features of Mudaraba:a)      There should be two parties: Shahib al-maal (financer/Investor) and businessman is Mudarib (Who provides skill and labour).b)      There should be written agreement/contract between the Bankand the businessman which includes nature of business, period/time,sharing of profit etc.c)      Bank will finance and the businessman will run the business byproviding his labour & skill.d)      The Bank will not interfere in the business.e)      The businessman will appoint employee(s) and he will run thebusiness independently.f)      The Shahib al-maal /Financier/Investor reserves the right tocheck/verify the accounts of the business at any time.

2.MUSHARAKAMUSHARAKA

>> Definition of Musharaka:Musharaka is a contract of partnership between two or more parties inwhich all the partners contribute capital, participate in the management, share the profit in proportion to their capital or as per pre-agreed ratio and bear the loss, if any, in proportion to their capital/equity ratio.

>> Types of Musharaka:In the context of Islamic Banking financing, Musharaka may be of two types:

Permanent MusharakaDiminishing Musharaka

1. Permanent Musharaka:Permanent Musharaka may be defined as contract of partnership businessbetween the Islamic Bank and its clients in which the Bank participates in the equity and share the profit at a pre-agreed ratio or bear the loss, if any, in proportion to the ratio of capital/equity where termination period of the contract is not specified. This is also called continued Musharaka.

2. Diminishing Musharaka:Diminishing Musharaka is a special form of partnership in which one ofthe partners promises to buy the share of the other partner graduallyuntil the title to the equity is completely transferred to him.

>> Contracting Parties:There are two or more contracting parties known as partners. It is a condition that all the partners should be competent to give or be given power of attorney.

Investment Mode 5

Capital:Capital contributed by the partners may be in the equal or unequal andin the form of cash or cash equivalent, goods & commodities, assets orproperties etc.

Distribution of Profit:Profit should be distributed among the partners as per their ratio ofcapital or as per agreement.

Distribution of Loss:The loss, if incurred in the business, shall be borne by the partnersexactly according to the ratio of their respective capital.

Some Important Features of Musharaka:

    1. Capital should be specific    2. Equal share is not a must    3. Nature of capital may be money or valuables    3. Active participation of partners    4. Ratio of profit prefixed    5. Variation in share of profit permissible    6. Participation and sharing profit & loss    7. Partners retains the ownership and right to management

Difference between Mudaraba and Musharaka:Mudaraba Musharaka

1. The capital in mudaraba is the sole responsibility of Shahib al-maal.

1. In Musharaka it comes from all the partners.

2. In Mudaraba, the Shaheb al-maal has no right to participate in themanagemant which is carried out by the Mudarib only.

2. In Musharaka, all the partners can participate in the management ofthe business and can work for it.

3. In Mudaraba the loss, if any is suffered by the Shahib al-maal only,because the Mudarib does not invest anything. His loss is his labour and skill.

3. In Musharaka, all the partners share the loss to the extent of theratio of their investment.

Investment Mode 6

Hire Purchase Musharaka Mutanaqasa (HPMM)/ Hire Purchase Shirkatul Melk (HPSM)

Hire Purchase Musharaka Mutanaqasa (HPMM)/ Hire Purchase Shirkatul Melk (HPSM) means purchasing and acquiring ownership of asset by sharing in equity and paying rents for the rest of the equity held by the Bank or other party.

It is a synthesis of three contracts:1. Musharaka Mutanaqasa or Shirkat or Shirkatul Melk.2. Ijarah3. Sale

Under this mode, the Bank and the customer on contract basis jointly purchase vehicles, machineries, building, apartment etc. The customer uses the portion of the assets owned by the bank on rental basis and acquires the ownership of the same assets by way of paying banks portion of the equity on the assets on installments together with its rents as agreed upon.

>> Key Features of HPSM:An agreement is executed between Hiree (Bank) and Hirer (Customer) stipulating the actual prices, monthly rents, price of the bank’s portion of the asset, payment schedule and installment amount and the nature of the security etc.Bank rents out its own portion of the asset to the customer under the terms & conditions of agreement and the customer.In Hire Purchase under Musharaka Mutanaqasa Agreement, the exact ownership of both the Hiree (Bank) and Hirer (Client) must be recognized. However, if the partners agree and wish that the asset purchased may be registered in the name of any one of them, jointly or in the name of any third party, clearly mentioning the same in the Hire Purchase Musharaka Mutanaqasa Agreement.The customer (Hirer) pays off bank’s portion of equity in installments as per the terms and conditions of the agreement.As the ownership of hired portion of the asset lies with the Hiree (Bank) and rent is paid by the Hirer (Customer) against the specific benefit, the rent is not considered as price or part of price of the asset. In the HPSM agreement Hiree does not sell or Hirer does not purchase the asset but they promise to sell and purchase the same part by part only.Ownership of asset transfer to sole owner from joint ownership.The customer acquires full ownership of the asset after payment of the entire dues of the bank.Bank will not share the loss of business as this is not the mode of sharing profit or loss.Even though if a loss is incurred due to Act of Allah, the loss may be shared as per agreed ratio.

>> Fixation of Rent:Rent will be fixed as per agreement between Bank and Customer.Rent on rent cannot be charged.Rent will be paid from the date only upon the asset is in usable condition.Any default of paying rent will increase the total rent.Charging of rent on grace period is highly objectionable as the asset is not generating income.

Investment Mode 7

Rent may be charged in gestation period if the asset is delivered in useable condition.Bank may recover the loss of gestation period by increasing the rate of rent for the remaining period or by revaluing the asset of the completion of the grace period.The amount of rent will be decreasing proportionately with the decrease of hirer’s ownership and increase of hirer’s ownership on asset as per Diminishing Balance Method.

Differences among Ijara, Hire Purchase and Hire Purchase Musharaka Mutanaqasa (HPMM)/ Hire Purchase Shirkatul Melk (HPSM)

HPMM is not only hire purchase but also it is the sharing of ownership. As HPMM/HPSM is sharing of ownership it differs with the conception of single

ownership of asset purchase like Ijara. HPMM/HPSM is the sharing of ownership on asset not sharing of profit or loss like

Musharaka. HPMM/HPSM is not diminishing Musharaka as the mentioned method implies the

sharing of ownership not sharing of profit. The question of sharing of loss will only arises out from ownership risk. This ownership of risk will arise out only under act of Allah.

Buying and Selling Mode:>> Bai Murabaha mode of investment:

The term “Bai-Murabaha” have been derive from Arabic words ‘Bai’ and ‘Ribhun’. The word ‘Bai’ means purchase and sale and the word ‘ribhun’ means an agreed upon profit. ‘Bai-Murabaha’ means sale on agreed upon profit.

Bai-Murabaha may be define as a contract between a Buyer and Seller Under which the seller sells certain specific goods permissible underIslamic shariah and the Law of land to the Buyer at a cost plus agreed profit payable in cash or on any fixed future date in lump sum or by installments.

Important Features of Bai-Murabaha:

> To offer an order by the client to the bank.> To make the promise binding upon the client to prophase from the bank and also to indemnity the damages caused by breaking the promise.> To take security in the form of cash/kind/collaterals. > To document the debts resulting from Bai-Murabaha. > Stock and availability of goods is a basic conditi9on. > Bank must bear the risk until delivery of goods to the client. > Bank may sell it at a higher price. > Price once fixed cannot be changed.

Bai-Muajjal mode of investment:

Investment Mode 8

The term ‘Bai’ and the ‘Muajjal’ have been derive from Arabic words ‘Bai’ and ‘Ajalu’. The word ‘Bai’ means purchase and sale and the word ‘Ajalu’ means a fixed time or fixed period. ‘Bai-muajjal’ means sale for which payment is made at a future fixed date or within a fixed period. In short, it is a sale on credit.

Bai Muajjal may be defined as a contract between a buyer and a seller under which the seller sells certain goods permissible under Islamic Shariah and the Law of the country to the buyer at an agreed fixed price payable at a certain fixed future date in lump sum or within a fixed period by fixed installment. The seller may also sell goods purchase by him as per order and specification of the buyer.

Important Features of Bai-Muajjal:

It is permissible for the client to offer an order to purchase by the Bank particular goods deciding its specification and committing himself to buy the same from the bank on Bai-muajjal i.e. deffered payment sale at fixed price.

It is permissible to make the promise binding upon the client to purchase from the Bank, that is, he is either satisfy the promise or to identify the damages caused by breaking the promise without excuse. It is permissible to take cash/collateral security to Guarantee the implementation of the promise or to identify the damages.It is also permissible to document the debt resulting from Bai-Muajjal bu a Guarantor, or a mortgage. Stocks and availability of goods is a basic condition for signing a Bai-Muajjal Agreement. Therefore, the Bank must purchase the goods as per specification of the Client of goods to acquire ownership of the same before signing the Bai-Muajjal Agreement with the client.After purchase of goods the Bank bust bear the risk of goods until those are actually delivered to the Client.The Bank must deliver the specified goods to the Client on specific date and at specific place of delivery as per Contract.The Bank may sell the goods at a higher price than the purchase price to earn profit. The price once fixed as per agreement and deferred cannot be further increased.The Bank may sell the goods at one agreed price which will include both the cost price and the profit. Unlike Bai-Murabaha, the Bank may not disclose the cost price and the profit mark-up separately to the Client.

Difference between Murabaha and Bai-Muazzal:

Murabaha Musharaka1. Bank sell it at a higher price an spot

payment or as any future date.1. Bank sell it at a higher price but payment

will be deffered.

2. Bank must bear the risk until delivery of goods to the client.

2. Client bear the risk of goods as the Possession of goods are in

Investment Mode 9

party control.3. Possession  of goods under bank’s control. 3. Possession  of goods under party’s

control.4. Cost of the goods sold and the amount of

profit should be mentioned in the Murabha Agreement.

n Bai-Muazzal mode any selling price of goods should be mentioned in the Bai-Muazzal agreement

5. Pledge of goods by the bank. 5. Goods to be hypothecated  by the bank.

Investment Mode 10

 INVESTMENT MODES: MUDARABA, MUDHARAKA, BAI-SALAM AND ISTISNA’AInvestment:Investment is the action of Deploying Funds with the intention andexpectation that they will earn a positive return for the owner.Funds may be invested in either real assets or financial assets. Whenresources are spent to purchase fixed and real assets. For example,the establishment of a factory or the purchase of raw materials andmachinery for production purposes.  On the other hand, the purchase ofa legal right to receive income in the form of capital gains ordividends would be indicative of financial investment. Specificexample of financial investment are, deposits of money in a bankaccount, the purchase of Mudaraba bonds.

There are different modes of investment under the Islamic Shari’ahwhich can be classified into three categories:1.        Trading or Bai(‡Kbv-‡ePv) mode (Bai-Muazzal, Bai-Murabaha,Bai-Salam, Istisna’a)2.       Partnership or Share(Askx`vix) mode (Mudaraba, Musharaka)3.       Leasing/Izara(fvov) mode (Hire purchase, Izara-Bil-Baia, Leasing)

Bai Murabaha mode of investment:The term “Bai-Murabaha” have been derive from Arabic words ‘Bai’ and‘Ribhun’. The word ‘Bai’ means purchase and sale and the word ‘ribhun’means an agreed upon profit. ‘Bai-Murabaha’ means sale on agreed uponprofit.Bai-Murabaha may be define as a contract between a Buyer and SellerUnder which the seller sells certain specific goods permissible underIslamic shariah and the Law of land to the Buyer at a cost plus agreedprofit payable in cash or on any fixed future date in limp sum or byinstallments.

Important Features of Bai-Murabaha:

    To offer an order by the client to the bank.    To make the promise binding upon the client to prophase from thebank and also to indemnity the damages caused by breaking the promise.    To take security in the form of cash/kind/collaterals.    To document the debts resulting from Bai-Murabaha.    Stock and availability of goods is a basic conditi9on.    Bank must bear the risk until delivery of goods to the client.

Investment Mode 11

    Bank may sell it at a higher price.    Price once fixed cannot be changed.

Bai-Muajjal mode of investment: the term ‘Bai’ and the ‘Muajjal’ havebeen derive from Arabic words ‘Bai’ and ‘Ajalu’. The word ‘Bai’ meanspurchase and sale and the word ‘Ajalu’ means a fixed time or fixedperiod. ‘Bai-muajjal’ means sale for which payment is made at a futurefixed date or within a fixed period. In short, it is a sale on credit.Bai Muajjal may be defined as a contract between a buyer and a sellerunder which the seller sells certain goods permissible under IslamicSharia and the Law of the country to the buyer at an agreed fixedprice payable at a certain fixed future date in lump sum or within afixed period by fixed installment. The seller may also sell goodspurchase by himas per order and specification of the buyer.

Important Features of Bai-Muajjal:

    It is permissible for the client to offer an order to purchase bythe Bank particula goods deciding its specification and committinghimself to buy the same from the bank on Bai-muajjal i.e. defferedpayment sale at fixed price.    It is permissible to make the promise binding upon the client topurchase from the Bank, that is, he is either satisfy the promise orto identify the damages caused by breaking the promise without excuse.    It is permissible to take cash/collateral security to Guaranteethe implementation of the promise or to identify the damages.    It is also permissible to document the debt resulting fromBai-Muajjal bu a Guarantor, or a mortgage.    Stocks and availability of goods is a basic condition for signinga Bai-Muajjal Agreement. Therefore, the Bank must purchase the goodsas per specification of the Client of goods to acquire ownership ofthe same before signing the Bai-Muajjal Agreement with the client.    After purchase of goods the Bank bust bear the risk of goods untilthose are actually delivered to the Client.    The Bank must deliver the specified goods to the Client onspecific date and at specific place of delivery as per Contract.    The Bank may sell the goods at a higher price than the purchaseprice to earn profit.    The price once fixed as per agreement and deferred cannot befurther increased.    The Bank may sell the goods at one agreed price which will includeboth the cost price and the profit. Unlike Bai-Murabaha, the Bank maynot disclose the cost price and the profit mark-up separately to theClient.

Investment Mode 12

Diference between Murabaha and Bai-Muazzal:

Murabaha

Bai-Muazzal1. Bank sell it at a higher price an spot payment or as any future date.

1. Bank sell it at a higher price but payment will be deffered.2. Bank must bear the risk until delivery of goods to the client.

2. Client bear the risk of goods as the Possession of goods are inparty control.3. Possession  of goods under bank’s control.

3. Possession  of goods under party’s control.4. Cost of the goods sold and the amount of profit should be mentionedin the Murabha Agreement.

4In Bai-Muazzal mode any selling price of goods should be mentioned inthe Bai-Muazzal agreement i,e.5. Pledge of goods by the bank.

5. Goods to be hypothecated  by the bank.

MUDARABA

Definition of Mudaraba:Mudaraba is a partnership in profit whereby one party provides capitaland the other party provides skill and labour. The provider of capitalis called “Shahib al-maal” while the provider of skill and labour iscalled “Mudarib”.

Types of Mudaraba:Mudaraba Contracts are generally divided as under:

    Unrestricted Mudaraba and    Restricted Mudaraba

Unrestricted Mudaraba:Unrestricted Mudaraba may be defined as a contract in which the Shahibal-maal permits the Mudarib to administer the Mudaraba fund without

Investment Mode 13

any restriction.

Restricted Mudaraba:Restricted Mudaraba may be defined as a contract in which the Shahibal-maal restricts the actions of the Mudarib to a specified period orto a particular location or to a particular type of business.

Terms and elements of Mudaraba:* Contracting PartiesThere are two contracting parties in Mudaraba:        1.      The provider of the capital i.e. ‘Shahib al-maal’ and        2.      The Mudarib.* CapitalCapital is the amount of money given by the provider of funds i.e.Shahib al-maal to the Mudarib with the purpose of investing it in theMudaraba business.

* Profit & Loss:Profit should be for both Shahib al-maal and Mudarib as per agreedratio. Loss should be borne by the Shahib al-maal.

The main features of Mudaraba:a)      There should be two parties: Shahib al-maal(financer/Investor) and businessman is Mudarib (Who provides skill andlabour).b)      There should be written agreement/contract between the Bankand the businessman which includes nature of business, period/time,sharing of profit etc.c)      Bank will finance and the businessman will run the business byproviding his labour & skill.d)      The Bank will not interfere in the business.e)      The businessman will appoint employee(s) and he will run thebusiness independently.f)      The Shahib al-maal /Financier/Investor reserves the right tocheck/verify the accounts of the business at any time.

MUSHARAKA

Definition of Musharaka:Musharaka is a contract of partnership between two or more parties inwhich all the partners contribute capital, participate in themanagement, share the profit in proportion to their capital or as perpre-agreed ratio and bear the loss, if any, in proportion to theircapital/equity ratio.

Investment Mode 14

Types of Musharaka:In the context of Islamic Banking financing, Musharaka may be of two types:

    Permanent Musharaka    Diminishing Musharaka

Permanent Musharaka:Permanent Musharaka may be defined as contract of partnership businessbetween the Islamic Bank and its clients in which the Bankparticipates in the equity and share the profit at a pre-agreed ratioor bear the loss, if any, in proportion to the ratio of capital/equitywhere termination period of the contract is not specified. This isalso called continued Musharaka.

Diminishing Musharaka:Diminishing Musharaka is a special form of partnership in which one ofthe partners promises to buy the share of the other partner graduallyuntil the title to the equity is completely transferred to him.

Contracting Parties:There are two or more contracting parties known as partners. It is acondition that all the partners should be competent to give or begiven power of attorney.

Capital:Capital contributed by the partners may be in the equal or unequal andin the form of cash or cash equivalent, goods & commodities, assets orproperties etc.

Distribution of Profit:Profit should be distributed among the partners as per their ratio ofcapital or as per agreement.

Distribution of Loss:The loss, if incurred in the business, shall be borne by the partnersexactly according to the ratio of their respective capital.

Some Important Features of Musharaka:

    Capital should be specific    Equal share is not a must    Nature of capital may be money or valuables    Active participation of partners    Ratio of profit prefixed    Variation in share of profit permissible

Investment Mode 15

    Participation and sharing profit & loss    Partners retains the ownership and right to management

Difference between Mudaraba and Musharaka:

Mudaraba

Musharaka1. The capital in mudaraba is the sole responsibility of Shahib al-maal.

1. In Musharaka it comes from all the partners.2. In Mudaraba, the Shaheb al-maal has no right to participate in themanagemant which is carried out by the Mudarib only.

2. In Musharaka, all the partners can participate in the management ofthe business and can work for it.In Mudaraba the loss, if any is suffered by the Shahib al-maal only,because the Mudarib does not invest anything. His loss is his labourand skill.

3. In Musharaka, all the partners share the loss to the extent of theratio of their investment.

BAI-SALAM

Meaning:Bai-Salam is a combination of two Arabic words Bai and Salam. Bairefers to Purchase and Sale while Salam means Advance. Payment ofBai-Salam transaction is made in advance. It is a form of sale ondelayed terms in which the money may be paid first and the goodsdelivered at a later date.

Definition:Bai-Salam is sale whereby the seller undertakes to supply somespecific goods to the buyer at a future date in exchange for anadvanced price fully paid on the spot.Bai-Salam may be defined as a contract between a Buyer and a Sellerunder which the Seller sells in advance the certain goods permissibleunder Islamic Shari’ah and the law of the land to the Buyer at anagreed price payable on execution of the said contract and the goodsis/are delivered as per specification, size, quality at a future timein a particular place.

The components of Bai-Salam:

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The components of Bai-Salam contract are:·                                 The contract parties i.e. Seller and Buyer·                                 The price and the merchandise·                                 The specifications of the contract.

Important features of Bai-Salam:a)      A commodity /product sold without having the same in existenceor possession of the seller. Commodity ready for sale, Bai-Salam isnot allowed in Shariah.b)      Generally to meet instant need of the seller so thatproduction is not hampered due to shortage of fund/cash and as such.Industrial and agricultural products are purchased/sold in advanceunder Bai-salam.c)      Permissible to obtain collateral security from the seller tosecure the investment from any hazards (non supply, partial supply,low quality).d)      Permissible to obtain mortgage / or personal guarantee from athird party before or at the time of signing the agreement.e)      Bai-Salam on a particular commodity/product or on a product ofa particular field or farm cannot be effected (Agri. Product only).f)      Bai-Salam is not permissible for any ready goods/products.g)      Unit price and total price of the goods must be fixed andmentioned in the contract.h)      The exact time and place of delivery must be specified.

ISTISNA’A

Meaning:The word Istisna’a has been derived from a Arabic word which meansIndustry. Istisna’a means to purchase specific product(s) by placingorder to a manufacturer or to sale specific product(s) after havingthe same manufactured against order of a buyer.Definition:Istisna’a is a contract between a manufacturer/seller and a buyerunder which the manufacturer/seller sells specific product(s) afterhaving manufactured, permissible under Islamic Shari’ah and Law of theCountry after having manufactured at an agreed price payable inadvance or by instalments within a fixed period or on/within a fixedfuture date on the basis of the order placed by the buyer.In short, it is a contract with a manufacturer to make something.Features of Bai-Istisna’a:a)      Istisna’a contract is another exceptional method where bycommodities are bought and sold without existence of it.b)      Delivery of goods is deferred and payment may also be delayed.

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Advance payment/ spot payment like Bai-Salam is not necessary. Howeverpayment may be made in advance or by installments.c)      Sometimes advance payment against the goods is being paid tomeet the production cost.d)      Buyer gets the opportunity to make payment within thestipulated date in future or by installments.e)      If the production of the commodity started or part payment ismade, none of them can revoke the contract.f)      If the product(s) are ready for sale, Istisna’a is not allowedin Shari’ah.g)      It gives the buyer opportunity to pay the price in some futuredates or by installments.h)      Istisna’a is specially practised in Manufacturing andIndustrial sectors. However, it can be practised in agricultural andconstructions sectors also.

Diference between Istisna’a and Bai-Salam:

Istisna’a

Bai-Salam1. The subject of istisna’a is always a thing which needs manufacturing.

1. Bai-Salam can be effected on anything, no matter whether it needsmanufaturing or not.2. It is not necessary in Istisna’a that the price is paid in full in advance.

2. It is necessary in Bai-Salam that the price is paid in full in advance.3. The contract of Istisna’a can be cancelled before the manufacturerstarts the work.

3. The contract of Bai-Salam, once effected, can not be cancelled unilaterally.4. It is not necessary in Istisna’a that the time of delivery is fixed.

4. The time of delivery is an essential part of the sale in Bai-Salam.