Murabaha & Its Application in Pakistan

Submitted To: Submission Date:

Zia-ul-Hassan

Department of Management and Sciences University of Balochistan.

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JALIL KHAN

A-30

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Dedicated to My beloved Parents who are always caring to me

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Table of ContentsSr. No. 1. 2. 3. 4. 5. 6. 7. 8. 9. Description Murabaha & Its Application in Pakistan Conditions of Murabaha. Expenses Relating To Murabaha Murabaha Transaction on Credit Murabaha Transaction with Installments: Modern Day Murabaha & Its Application Flow of Transaction in Murabaha Murabaha in Pakistan Murabaha Financing

10 Shariah Appraisal . 11 Letter of Credit by Dubai Islamic Bank . 12 Islamic Bank of Jordan Uses Murabaha in . following method 13 Importance of Murabaha & conventional . Banking 14 Difference between Riba & Murabaha . 15 Conclusion4

16 References .

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In the whole world every country has its own financial system. In Pakistan the financial system which is working now days is based on interest. Interest is strictly prohibited in Islam. Islam has its own financial system so in Pakistan and the entire whole Islamic world many scholars have worked for interest free financial system and introduced a system which is interest free. Murabha is also one element of Islamic financial system. The history of Murabha is that, During the second half of the 1st Hijrah a new business transaction was introduced by Imam Malik in his famous book Al-Mutta under the caption. Sale at a mutually agreed profit Margin He said Yahya told me that Malik said: There is unanimity of opinion in our place (al-madinah) regarding cloth purchased by a person in a town and then takes it to another town wherein he sells it at a mutually agreed profit margin. The money paid to a commission agent (the middle man.) will not be computed (in the sale price) nor the cost of packing and bundling. (More-over) the (personal) expenses incurred by the businessman will not be included nor the house rent. As far as it is concerned with the costs putted as a part of the basic price but no profit will be added to it unless the seller advises the bargainer about all of them after knowing about them, it is not objectionable. Murabaha is particular kind of sale. In literary terms bay Murabha means the sale on profit. It is technically a contract of sale in which the seller declares his cost and profit. Before going in details of the options of using a Murabha transaction as an alternate to conventional financing transaction, we should first consider the detail introduction of Murabaha. So Murabaha is a sale transaction where the seller expressly mentions the cost of the sold commodity he has incurred by sellers it to another person by adding some profit or markup thereon. Murabaha is a contract. In this contract there is a sale of goods at price converting price plus margin agreed6

upon between the contracting parties, In Murabaha the seller disclosed the cost of the sold commodities tells the purchaser that he has purchased commodity say for 100 rupees and that he will charge 10 rupees as profit over and above the original price. It is also permissible to fix the profit in percentage i.e. 5% or 10% of the cost. Murabaha is a contract which has following parties. Purchaser (Mushtari) Seller (Baay)

Conditions of Murabaha.There are some important and necessary conditions of Murabaha which are as follow. 1. Disclose of Original Price: It is necessary for the validity of the Murabha transaction that the purchaser or Murabaha purchaser should have knowledge of the original price. This means that s4ellers should disclose price of the commodity. If the price is not disclosed in the session of contract and contracting parties should leave the majlis the contract will be invalid. 2. Fixation of Profit: The profit should be fixed and add to the cost price and mention in the contract. e.g. A Purchases Books for Rs. 500 and include Rs. 50 as profit or markup is fixation of Profit. 3. Ascertainment of Price: Murabaha is valid only where the exact price is not known the commodity can not be sold on Murabaha. Instead it will be sold without reference to the cost this is applicable to coses where a person has purchased two or more things. According to Mufti Muhammad Taqi Usmani Murabaha is valid only where the exact cost of a commodity can be ascertained in lump sum by mutual consent. Example 1: A Purchased a Pair of Shoes for Rs. 100 he want to sale it on Murabaha with 10% Mark up the exact cost is known here so the Murabaha sale is valid. Example 2:

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A Purchased a ready made suit with a pair of shoes in a single transaction for a lump sum of Rs 500. A can sell the suit including shoes on Murabaha. But he can not sell it separately on Murabaha. Because the individual cost of shoes is unknown. If we want to sell shoes so he must sell it on lump sum without reference to the cost or the markup. 4. Validity of First Contract: The first contract should be a valid contract but if the first contract is fasid or irregular then the second sale is not permitted on the sasis of Murabha. Because the Murabaha is resale of a thing for similar to its 1st price with the addition of profit and the irregular sale is not allowed with the stated price it is allowed only with the legal value .i.e. the market price. 5. Ownership of subject: The subject of sale must be in the ownership of the seller at the time of sale. Thus what is not owned by the seller can not be sold if he sells before acquiring its ownership the sale is void. Example: A Sales to B a car which is presently owned by C. But A is hopeful that he will buy from B and Deliver to C. This sale is void because the car was not owned by A at the time of sale. 6. Custody of the Subject: The Subject of sale must be in the physical custody of the seller when he sales it to other person. Example: A has purchased car from B but B has not delivered to A or his agent A Can not sale it to any person until its delivery.

Expenses Relating To MurabahaWhen Seller Purchase commodity for the purpose of Murabaha agreement so he has to pay different types of expenses on this commodity e.g. Seller/Bank Purchase machinery for rupees 100,000 and he will also pay carriage and wages from producer of such machinery to his godan. So these8

are only carriage exp. And there are also some other exp. For example A purchases cloth for the purpose of producing or making readymade. He will also pay sewing exp. So we can say that there are following two types of exp. That is normally incurred. 1. Wages 2. Carriages 3. Converting Now we have to decide that such exp will be include in the price of the commodity or not Muslim jurist have different opinion in this regard which are as follow. 1. According to Imam Malik: Expenses that can be to the price are those that have affected the commodity such as the fare for the transporting or storing the commodities in a warehouse rented for this purpose can be add to the price but can not be considered for the purpose of calculating profit. 2. According to Hanafi School: All the expenses which are accepted normally by commercial practice can be added to the cost price weather such expenses have affected the commodity itself e.g. dyeing or tailoring or were incurred on account of such commodity e.g. transporting or paying commission.1 3. According to Hanbli and Shafii School: All Actual expenses incurred as regards the commodity can be added to capital provided that the Murabha purchaser is made aware of the amount of those expenses and their origin.2 From the above discussion we can understand that All the Islamic Jurists have accepted to enter the expenses into the price of commodity but Imam Malik has slide difference in opinion. Till now we have understand that Murabaha is a specific type of sale in which seller including the exp. of carriage and wages and also exp. of converting raw material into finished goods. Then he disclosed the cost price as follow1 2

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Price of commodity

+

Transporting Expenses

+

Converting Expenses.

=

]

Murabaha Transaction on Credit:Now the seller will include a markup on the above cost price and tells the buyer that he will take 5% or 10% of this cost. But now the major issue is that can we sell these commodities or a Murabha agreement on credit and also credit and then installments so according to Imam Malik, This is a sale transaction which is conducted and completed by exchanging goods and price including mutually agreed profit margin then and there is no credit involve. But Imam Shafii who is a very brilliant and disciple student of Imam Malik has expanded this concept to include credit transaction as well as goods whose specifications have been described by the buyer to the seller Imam Shafii stated that if a person shows another person a commodity telling him: purchases this for me and I shall give you such and such profit margin. This deal is lawful. The person who offered the profit margin enjoys the option of either completing the deal or leaving it incomplete. Similarity, if he tells: purchase for me a commodity which he specifies or any commodity you choose and I shall give you such and such profit margin, this is all the same and the first deal is lawful this is all the same and the first deal is lawful. He in what he gives from his free will shall enjoy option to complete the deal or not. It is same in the case whose specifications are stated if he says: purchase for me that and I shall purchase it in cash or on credit. The first deal shall be lawful. They shall enjoy option in (the completion or otherwise of the second deal, it shall be lawful. If they conclude the deal on the condition that both commit themselves to the first deal, it shall be null and void for two reasons. First because they concluded the deal before the seller obtained the ownership (of the goods in question).

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Secondly because he (the would-be seller) is exposed to risk (in view of your condition): if you purchase at such and such a price I shall let you have such and such a profit margin.

Murabaha Transaction with Installments:Now we can understand that imam Shafii allows to sales good in credit therefore on Muslim scholars Dr. sami hassan Ahmed Hammoud suggested a solution which entitles the expanded version of Imam Maliks concept of sale at a mutually agreed profit margin as envisaged by Shafii Moreover, he did his best to abide as for as possible to the limitations and condition imposed by him (Imam Shafii) we quote him. Therefore, when we look at a solution to this problem, we find that it opens door for the interest-free bank for assisting a person in obtaining the Commodity he is in need of on the basis of monthly installments or some similar arrangement: but the initiative must come form the consumer and not form the businessman. e.g. this consumer (a doctor who wishes to acquire some medical equipment for his new dispensary approaches the bank with a request to purchase the required equipment with the specifications stated by the Doctor and on the basis of his promise to purchase those equipment actually needed by him at a mutually agreed profit margin (say 2% or 3%) repayable by monthly installments as per dictation of his income.

Modern Day Murabaha & Its ApplicationIn the modern Islamic banking and financial system Murabaha has been adopted with certain modifications as an alternate to the conventional or interest-based financing. In this kind of Murabha transaction the factor that used for determination of profit of the seller is the last one i.e. the terms of payment. In this transaction one sells goods to another at the price on which the purchased the same plus a markup, on deferred payment basis (either in lump sum on a future date or as per agreed installments). As already discussed earlier the Murabha transaction is not a financial transaction in its very nature and instead it is a trading transaction. However, since this transaction is based on the fixed rate of mark-up which may easily

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by comparable with prevailing market interest rates, the same is commonly used by a large number of Islamic financial institutions as an easy way out from the interest based system as a financing technique, it involves a request by the client to the financier to purchase to certain item for him. The financier does that for a definite profit over the cost which is agreed and fixed in advance. Now days the Islamic Banks use this technique to finance projects. They buy commodities for cash and then sell them to a potent ional client on cost plus profit principal on deferred payment basis. In Islamic Banks Murabaha is practiced in the following way. i. The client approaches the ban with the request to purchase for him certain goods. He also provides the description of the required goods. ii. In case the bank agrees to his request it asks the client to give an undertaking to purchase the goods with a stated profit margin. The banks can enter into an actual sale agreement with the client if the commodity is owned by the bank. iii. After signing the undertaking for purchase the bank makes purchase of required goods. iv. After the bank has purchased goods and taken possession of them, it enters into a Murabaha contract with its client. The contract includes mark-up over the cost of goods and the schedule of payment. The bank hands over goods to the client in lieu of cheques bearing future dates according to the payment schedule. v. In order to secure the payment of price, the payment of price, the bank may ask the buyer to furnish a security in the form of a mortgage. vi. In case of defect in the commodity discovered later on, the buyer can return it to the bank and claim re-imbursement of what he has paid. In order to avoid any riba element, the bank provides that the agreement of the bank and the actual execution of buying do not contribute any legal obligation on the partner to buy. Hence the risk is still that of the bank. Until the partner fulfills his original promise of re-buying the commodity, the risk remains with the bank, which justifies the profit.

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FLOW OF TRANSACTION IN MURABAHA

SUPPLIER

CUSTOMER

Purchase against cash (say Rs. 1000) through agent on spot Basis

Sale against Deferred Payment on cost + Profit Basis (Say Rs. 1150)

AGENT

Appointment of Agent for Payment or Delivery or both

BANK

The above diagram shows the whole process or Murabaha in banking system.

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Murabaha in PakistanIn Pakistan Murabaha is used as credit vehicle. It enables a buyer to finance his purchase with deferred payment as against accepting a mark-up on the market price of the commodity. The Muslim Scholars look at Murabaha as practiced in Pakistan with suspicion. They see in it the element of riba since the bank does not purchase commodity for the client, it only provides finance for the purchase of needed commodity against pre-determined profit. It also does not bear any risk while according to Islamic law it is the element of risk, which makes the financial institution entitled to the profit. MURABAHA FINANCING: Purchase of goods by banks and their sale to client at appropriate mark-up in price on deferred payment basis. This technique of mark-up is applied for financing the requirements of trade, commerce and industry. Under the technique of mark-up, a sale transaction is arranged at price mutually agreed upon between the buyer and seller. The sale price consists of the cost of goods plus margin of profit and the same is payable by the buyer on deferred basis either in lump sum or in installments. While sanctioning the amount of finance, the bank takes into consideration the credit worthiness, dealings and cash flow of the customer. It also studies the marketability of the commodities or goods manufactured and securities offered to ensure that finances made available to him are properly utilized and finance is received back by the bank on due date as per stipulations of the sanction. SHARIAH APPRAISAL: The mode mentioned above is infact, combination of bay al-Murabaha and bay al-muajjal, because the bank charges an increase over the above the original price which is payable in future. It is Murabaha because the buyer relying on the words of seller gives increase over and above the cost to the seller. It is bay al-muajjal also because the payment is made on specified dates in future. It is permissible for seller in Shariah to charge increase in price over the spot market rate. Modern Murabha transaction normally takes place on the basis of order supply in which the order supplier is not required to disclose his purchase price.14

The Muslim scholars in Pakistan entertain some doubts about the validity and legitimacy of mark-up financing. The objections raised by the scholars are as follows. i. The bank does not purchase the commodity needed by the client. It only provides him finance for its purchase. This fact is confirmed by the state banks gazette of Jan. 1981, which states that: the bank will not provide the customer rice, but will give him its market price and it will be presumed that the bank has itself purchased required quantity of rice from the market and sold it with profit margin to the customers, after 90-days from the date of purchase. Besides, the banks use the words of amount of finance for purchase price in their agreements, which refer to loan provided by the bank to the client. All this confirms that it is not a sale; instead, it is mark-up financing. ii. The bank charges a predetermined increase over the amount of finance, which makes Murabha similar to charging increase over and above the amount of loan. iii. It does not bear any risk. iv. Unlike the Islamic Banks where to agreement are make with the client and where an actual sale contract is concluded only when the commodity is purchased by the bank and taken possession of, the Pakistani banks make one agreement which contains the provisions of amount of finance, i.e. purchase price, added profit margin, sale price and mode of payment thus, the bank is not concerned with the purchase of commodity. v. Murabaha financing represents sale of a thing, which is not owned by the seller and that, is prohibited in Islam.

Letter of Credit by Dubai Islamic Bank:A person goes to bank with request that he want to import goods /commodities. Bank demand some documents and evidences and then opens a letter of credit with his name and the bank also send one copy to exporter and one copy to exporters ban. In this contract importer signs a document for purchase. He also decides in this document price of the good and other details. When bank receive goods and documents from exporters and then they contract now Murabha when goods are in the custody of Bank.

Islamic Bank of Jordan Uses Murabaha in following method

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Islamic bank of Jordan provides finance for purchasing goods which can be pledge e.g. if a person wants to purchase car so he contacts with bank. The bank purchases car form dealer of car. The car registers with the name of Bank. Now bank and customer contracts Murabha on the basis that client/ customer will retain the car as pledge with the bank and also some other evidences.

Importance of Murabaha & conventional BankingMany interest based banks also attracts from Murabha and they also opens Islamic window of their banks BCCI (LOND) is also adopting and working on Murabha. Saudi Arabia: In Saudi Arabia the largest Islamic Bank or commercial bank National commercial Bank has created on international fund for this purpose. 3

Difference between Riba & MurabahaThere is a difference between Murabha & riba that in riba lender after a specified time gets a specified amount on the other hand principal amount retains in the ownership of lender. But in Murabha there is not Debt but one person sell a thing to an other person and the possession of the thing transfers to the second person but first person gets his reward in the shape of profit.

ConclusionMurabaha is a very important element of Islamic banking it have very vide knowledge so for the purpose of learning I read some Books(List is available at the last) and consult some persons after which I can able to write some words on Murabha. After this study I can understand that this is a specific type of trade in which seller discloses his profit. Now a day it is using in the shape of mode of financing with some changings which I have discussed above. But there is a slide change which changes the soul of Murabha and it seems like riba.3

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The cause of this is only and only unspecialized persons in the Islamic banking which make transaction which becomes near to haram. These persons come form conventional Banks and they dont know about Islamic banking. Thats why every person says that these Molvies have made sood (Riba) as Hillal but there is no difference between Islamic banking and conventional banking. Because a common person can not indifferent between conventional bank and Islamic bank. If we ask a common person about Islamic banking they says that If I go to national bank so they will take 10% interest and if I will go to Islamic bank they will charge me 17% profit only the difference is this. Now I will try to explain that how a transaction becomes haram with special reference to Islamic banks in Pakistan. When a person goes to bank so bank should treats as I have discuss under the heading of modern application of Murabha. But they do not do so. When client request to bank that he want to purchase machinery and bank accept his request and now he send this client as his agent to purchase machinery form producer. When he purchases machinery with the name of Bank then bank sales to him and then makes documents that we have sale to you which is unfair mean.

There are some important issues which are as follow, The bank should act as an agent not client should be an agent. Bank should purchase the goods from market. And then make sale under the conditions which we have discussed in the very beginning. If the bank hire the client as an agent and so bank should keep all types of risks with him. He should make contract of agency first and then contract of Murabha. But normally bank provides finance and when client purchases machinery then the bank shows in the document that he was our agent and now he has purchases this commodity from us on Murabha.

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Reference Books and links1. An introduction to Islamic Finance. By Muhammad Taqi Usmani.

2. List of banks in Pakistanhttp://en.wikipedia.org/wiki/List_of_banks_in_Pakistan 3. BankIslami Pakistan http://en.wikipedia.org/wiki/BankIslami_Pakistan_Limited4.

www.sbp.org.pk/press/Essentials/Essentials%20of%20Islamic.html murabaha.html

5. http://www.paklinks.com/gs/religion-scripture/120961-riba-vs-

6. http://en.wikipedia.org/wiki/Talk:Islamic_banking.

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