o you who believe! fulfill your obligations (holy...

1 ISLAMIC LAW OF TRADE (Fiqh-Al-Muamlaat)

© Copyright Reserved 2010 www.islamitijara.com

O you who believe! Fulfill your

obligations (Holy Quraan)



INDEX

Sr. Particulars Page

1 FIQH OF TRADE 3

2 MUDARABAH AND MUSHARAKH 7

3 Mudarabah Financing 8

4 Basic Tenets of a Mudarabah Contract 8

5 Types of Mudarabah 9

6 Termination of Mudarabah Contract 10

7 Musharakah Financing 10

8 Permanent Musharakah 11

9 Diminishing Musharakah 11

10 Basic Tenets of a Musharakah Contract 11

11 Distribution of Profit in Musharakah 12

12 Sharing of Losses 12

13 Termination of Musharakah Contract 13

14 Benefits of Mudarabah/Musharakah on Society 14

15 BA’I SALAM AND ISTISNA 15

16 Meaning of Salam 15

17 Conditions of Salam 16

18 Salam as a Mode of Financing 19

19 ISTISNA 21

20 Difference between Istisna and Salam 21

21 Difference between Istisna and Ijarah 22

22 Time of Delivery 23

23 Istisna as a Mode of Financing 23



FIQH OF TRADE

INTRODUCTION

Most of the companions of the Holy Prophet (SAWS) were either traders or

manufacturers. The Prophet Mohammed (SAWS) was himself engaged in this

profession before he became a prophet.

Trade, in Islamic jurisprudence, is the exchange of commodities based upon the

mutual agreement of the two free, sane, adult owners who are capable of

handing over what they are trading. Following are the some of the conditions

that must be fulfilled for a valid transaction.

Islamic Jurists and Fuqaha has set up some necessary conditions that must be

fulfilled for a business transaction to be considered valid and binding in Islam.

There are two types of conditions; some related to the participants in the sale

while some are related to the goods being traded.

The first three conditions are regarding the participants in the sale:

1. Mutual Agreement

Both the buyer and the seller must willingly agree to all details of the

transaction. Thus, someone being forced to buy or sell property invalidates the

transaction.

The Holy Qur‟an said “Unless it be a trade with your mutual consent” (Surah Al

Nisa 4 Aayah 29)

The Prophet Mohammed SAWS said "Verily business transactions are only

(valid) by way of mutual agreement." (Ibn Maajah 2185)



2. Both participants are allowed to engage in transactions

Both the buyer and the seller must be people who are legitimately allowed to

engage in business transactions. They must both be free (not slaves), adults (not

children who have not reached puberty), sane, and rational.

So the buying and selling of a child or a fool is invalid. But if the child caretaker

gives permission, then it is valid according to the Hanafi School of thought.

However being Muslim is not necessary for the validity of transaction, hence

the buying and selling of a non-Muslim is valid. (Badaye Al-Sanaye, Vol 4)

3. Ownership of property being traded

Both parties in the transaction must own the property they are trading, due to

the statement of the prophet.

The Prophet said SAWS "Do not sell what you do not have." (Tirmithee, an-

Nasaa'ee, and Ibn Maajah)

However, a person may sell something on behalf of another with his permission.

Similarly transaction of Fudhuli (Third party who does not own) depends on

the permission of the owner.

However, a person may take money from someone to go and buy property for

him, as he is not selling anything himself in this case, he is merely a authorized

representative.

There are also some conditions that relate to the goods being traded:

1. Permissibility of the Goods

That which is being sold must be something that is halaal (permissible) in its

origin.

“He has only forbidden you: carrion, blood, the flesh of swine and that upon

which a name other than 'Allah' has been invoked” (Al-Baqarah, 173)

The prophet (PBUH) said "Verily Allaah has prohibited the sale of Maytah,

intoxicants, and idols." (Al-Bukhaaree 2236, Muslim 4024)

The dead animal is known in English as 'carrion' or carcass. In Islamic

terminology, it means an animal not slaughtered in accordance with the

requirements of the Shariah. Thus the eatable parts of the dead animal are



forbidden while the bones of the dead animal and the hair, the feathers, hoof,

which are not eatables, are clean and their use and buying and selling is

permissible. Since the skin or hide of an animal carries impurities such as blood

it is forbidden unless tanned. When tanned, it is permissible. The fat of the dead

animal and everything made with it is forbidden. There is no way they can be

used. Even buying and selling them are forbidden. The bone of pork and its hair

is impure and their buying and selling is not permissible because pork is

originally impure. Similarly buying and selling of human bone and hair is not

permissible due to dignity and respect of human being. (Badaye Al-Sanaye 4)

2. Dispensability

The goods must be things that can be handed over at the time of the sale. Thus,

it is not permissible to sell a bird flying in the sky, even if it is expected that the

bird will return (i.e. like a trained eagle). Similarly, it is not permissible to sell a

fish in the sea, unless it is in an enclosed area that it cannot escape from. The

point is that the buyer must be certain that he will be able to hand over the

goods when the sale is made.

3. The Absence of Anonymity

Both the goods and the price must be something clearly known to both

participants in a sale. Selling an unknown or unspecified item, like "one of the

sheep in the pen," or "one of the garments on display," without specifying the

actual item, is a kind of gharar referred to in the previously mentioned

prohibition.

There are basically four kinds of transactions that are allowed in the Islamic

Jurisprudence. Firstly, the exchange of item of value for another item of value is

called Baiul Al-Muqayadha. Secondly the exchange of money for an item of

value is called Al-Bai Al-Mutlaq. This is general type of transaction. Thirdly,

exchange of debt for item of value is called Bai Al-Salam. Fourthly, exchange

of money for money is called Bai Al-Sarf.

The Bai Al-Sarf, the exchange of money for money, is permissible according to

the basic principle of Hadith. The rules of bay al-sarf derive largely from the

well known hadith:"Gold is to be paid for by gold, silver by silver, wheat by

wheat, barley by barley, dates by dates, and salt by salt - like for like, equal for

equal, payment being made on the spot. If the species differ, sell as you wish

provided that payment is made on the spot". (Muslim)

The condition of the validity of this type of transaction is that both the buyer

and seller must possess good and price before they separate without any option



of annulling the contract and defer payment. This transaction has three forms;

gold for gold, silver for silver and one for other. The transaction of gold for gold

or silver for silver is allowed only when they should be equal for equal and like

for like and the payment would be made on the spot even one would be

different in quality because any addition will invalidate the contract because it is

the original form of Riba.

Today currency of a country comes in this form of transaction and thus any

addition in one side would be considered as Riba and thus not permissible.

However, the transaction of one for another i.e. gold for silver and silver for

silver, is permissible with differentiation in quantity because the species differ

but possession must be on the spot from both side.

The currencies of different countries can be exchange in unequal terms but

possession must be at spot. The Scholars have opined that the currencies of

different countries are of different species and the currencies of different

countries can be exchange in unequal terms but possession must be at spot.



MUDARABAH AND

MUSHARAKH

INTRODUCTION

The Financial markets and the financial industry are witnessing the growth of

Islamic banking and finance. Although an Islamic banking and finance is a

relatively new force in the world of banking but it surely is a force to reckon

with. Especially after the recent financial doom which slumped markets world-

wide and triggered the global financial crisis. Islamic financial institutions have

demonstrated significant resilience and have been less affected compared to the

conventional financial institutions because of the prohibitions on excessive

leverage. The growth, in both size and in diversity in the Islamic finance

industry has been especially robust over the past few years. It is today a USD 1

trillion industry and is growing at a phenomenal pace of 15 percent annually.

Apart from its traditional strong hold in the Middle Eastern countries, it has

spread its wings to Western countries as well. Islamic finance has a significant

presence in Europe and England is touted to be the Islamic finance hub of the

western world. Many leading and popular international banks have established

Islamic banking „units‟ or „windows‟ to provide financial services and products

that conform to Shariah.

There are various modes of financing in Islamic finance and Mudarabah and

Musharakah fall within this ambit. They are essential modes of financing and

are very widely used by Islamic banking and financial institutions. It goes

without saying that all the modes of financing adhere to Shariah principles. The

4 basic elements prohibited in Islamic mode of financing are Interest (Riba),

Forbidden or impermissible goods (Haram), Gambling (Maysir) and ambiguity

(Gharar).



Mudarabah Financing

The term refers to a form of business contract in which one party brings capital

and the other personal effort. The proportionate share in profit is determined by

mutual agreement. But the loss, if any, is borne only by the owner of the capital,

in which case the entrepreneur gets nothing for his labour. The financier is

known as „rab-al-maal‟ and the entrepreneur as „Mudarib‟. As a financing

technique adopted by Islamic banks, it is a contract in which all the capital is

provided by the Islamic bank while the business is managed by the other party.

The profit is shared in pre-agreed ratios, and loss, if any, unless caused by

negligence or violation of terms of the contract by the „mudarib‟, is borne by the

Islamic bank. The profits in a Mudarabah agreement may be shared in any

proportion agreed between the parties beforehand. However, the loss is to be

completely borne by the owner of the capital.

In case of loss, the capital owner shall bear the monetary loss and entrepreneur

shall loose the reward of his effort. Mudarabah could be individual effort or a

joint one. Islamic banks practice Mudarabah in both its forms. In case of

individual Mudarabah, an Islamic bank provides finance to a commercial

venture, run by a person or a company on the basis of profit sharing. The joint

Mudarabah may be between the investors and the bank on a continuing basis

whereby the investors keep their funds in a special fund and share the profits.

Many Islamic funds operate on the basis of joint Mudarabah.

Basic Tenets of a Mudarabah Contract

There are two contracting parties to a Mudarabah financing, i.e. the

provider of funds (rab-al-maal) and the entrepreneur (Mudarib). The

latter does not contribute any form of capital.

Profit is shared between the capital provider and the entrepreneur

according to a pre-determined profit-sharing ratio. The profit-sharing

ratio has to be mutually consented upon and explicitly stated at the time

of contracting (aqad or agreement) and has to be a proportion/percentage

of profits.

In principal any financial loss under Mudarabah financing must be borne

by the Islamic banking institution. However, if the loss is caused by

negligence, mis-management or breach of contracted terms by the

customer, then the customer is liable for the loss.



Types of Mudarabah

Mudarabah financing can be divided into two main types, i.e. Restricted

Mudarabah (Mudarabah al muqayyadah) and Unrestricted Mudarabah

(Mudarabah Mutlaqah). Under restricted Mudarabah, the Islamic banking

institution may specify certain terms and conditions, for example stipulate a

particular business or particular place for the customer to invest the capital. The

customer is bound by all these restrictions and any violation of these restrictions

may make the customer liable for the loss, if any. This type of Mudarabah

financing may be used for contract financing of a specific project awarded to the

customer. Under unrestricted Mudarabah, an Islamic banking institution does

not impose any limitation on the customer/ partner, for example, on the type of

business, place of business, methods of payment from the customers and period

of investment. In this case, the Islamic banking institution will not have any

recourse to the customer should the business incur losses due to the investment

policy as there would have been no such policy prescribed by the Islamic

banking institution in the first place. This type of Mudarabah, for example, may

be used towards financing a customer‟s working capital requirements.

The most important element of the Mudarabah contract is the distribution of

profit. At the inception of the Mudarabah contract the contracting parties should

agree on a definite proportion of the actual profit to which each of them is

entitled. No particular proportion has been prescribed by the shariah; rather, it

has been left to their mutual consent. They can share the profit in equal

proportions, and they can also allocate different proportions for the rab-al-maal

and the mudarib. However, they 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. To cite an example, let‟s say the rab-almal provides a

capital of Rs 800,000. On this capital they cannot agree on a condition that Rs

60,000 out of the profit, if any, shall be the share of the mudarib, nor can they

say that 15 percent or more of the capital shall be given to rab-al-maal.

However, what can be agreed upon according to shariah is the profit-sharing

ratio. Example, any profit arising out of the business, i.e. 40 percent of the

actual profit shall go to the mudarib and 60 percent to the rab-al-maal or vice

versa.

It is also allowed that different proportions of profit are agreed in different

situations. For example, the rab-al-maal may say to the mudarib at the

beginning of the aqad that if „you trade in gold, you will get 50 percent of the

profit and if you trade in silver, you will get 33 percent of the profit, the profit-

sharing ratio can be anything in these circumstances as agreed upon by the

contracting parties. Similarly there can be a case where the rab-al-maal can say

to the mudarib that if he does business in his city or town, he can be entitled to



30 percent of the profit, and if he does it in another town, his share can be 50

percent of the profit. It is important to cite, that apart from the agreed proportion

of the profit, as determined in the above manner, the mudarib cannot claim any

periodical salary or a fee or remuneration for the work done during the

Mudarabah contract. On the other hand, if the business has incurred loss in

some transactions and has gained profit in some others, the profit shall be used

to offset the loss at the first instance then theremainder, if any, shall be

distributed between the parties according to the agreed ratio.

Termination of Mudarabah Contract

The contract of the Mudarabah can be terminated at any time by either of the

two parties. The only condition is to give a notice to the other party. If all assets

are in cash form at the time of termination, and some profit has been earned on

the principle amount, it shall be distributed between the parties according to the

agreed ratio. However, if the assets are not in the cash form, the mudarib shall

be given an opportunity to sell or liquidate them, so that the actual profit may be

determined. There is a difference of opinion among the Muslim jurists about the

question whether the contract of Mudarabah can be in effect for a specified

period after which it terminates automatically. However, this difference of

opinion relates only to the maximum time limit of the Mudharabah. On the

question whether minimum time limit can be fixed by the parties before which

Mudarabah cannot be terminated? No express answer to this question is found

in the books of the Islamic Fiqh, but it appears from the general principles that

no such limit can be fixed, and each party is at liberty to terminate the contract

whenever he wishes.

Therefore, if the parties agree, when entering into the Mudarabah, that no party

shall terminate it during a specified period, except in specified circumstances it

does not seem to violate any principle of Shariah, particularly in the light of the

famous Hadeeth which says: “All the conditions agreed upon by the Muslims

are upheld, except a condition which allows what is prohibited or prohibits what

is lawful.”

Musharakah Financing

Musharakah is another popular technique of financing used by Islamic banks. It

could roughly be translated as partnership. In this technique two or more

financiers provide finance for a project. All partners are entitled to a share in the

profits resulting from the project in a ratio which is mutually agreed upon.

However, the losses, if any, are to be shared exactly in the proportion of capital

proportion. All partners have a right to participate in the management of the



project. However, the partners also have a right to waive the right of

participation in favour of any specific partner or person. This equity financing

arrangement is widely regarded as the purest form of Islamic financing. There

are two main forms of Musharakah: Permanent Musharakah and Diminishing

Musharakah.

Permanent Musharakah

In this form of Musharakah an Islamic bank participates in the equity of a

project and receives a share of profit on a pro-rata basis. The period of contract

is not specified. So it can continue so long as the parties concerned wish it to

continue. This technique is suitable for financing projects of a longer life where

funds are committed over a long period and gestation period of the project may

also be long.

Diminishing Musharakah

In this form of Musharakah equity participation and sharing of profit on a pro-

rata basis is allowed. It also includes a method by which the bank keeps on

reducing its equity in the project and ultimately transfers the ownership of the

asset to the participants. The contract provides for a payment over and above the

bank share in the profit for the equity of the project held by the bank. That is the

bank gets a dividend on its equity. At the same time the entrepreneur purchases

some of its equity. Thus, the equity held by the bank is progressively reduced.

After a certain time the equity held by the bank shall come to zero and it shall

cease to be a partner. Musharakah form of financing is being increasingly used

the Islamic banks to finance domestic trade, imports and to issue letters of

credit. It could also be applied in agriculture and industry.

Basic Tenets of a Musharakah Contract

Both parties contribute a portion of capital which may not necessarily be

equal. The contributed capital can be either in the form of cash or assets

with an ascribed value.

While both partners may undertake the management of the business, if a

partner chooses to withdraw from the management to become a sleeping

partner, such arrangement is allowed. The partner is also allowed to

appoint a third party to manage the business on behalf of the Musharakah

partnership.

The project or business must be permissible by shariah. The proportion of

profit to be distributed between the partners must be mutually pre-agreed

upon inception of the contract.



Any losses shall be distributed between the partners according to the

capital contribution ratio. However, if the loss is due to the negligence of

the managing partner or management team, such losses shall be borne by

the respective partner or the management team.

Distribution of Profit in Musharakah

The distribution of profit is a very crucial issue in a Musharakah contract. The

proportion of profit to be distributed between the partners must be agreed upon

at the time of inception of the contract. If there‟s no mention of the proportion

of profit then the contract is not valid according to shariah point of view. This is

because the ratio of profit for each of the partner must be determined in

proportion to the actual profit accrued to the business, and not in proportion to

the capital invested by him. Also, it is not allowed to fix a lump sum amount for

any one of the contracting partners, or any rate of profit tied up with his

investment. Let us take an example to explain the distribution of profit in light

of the Musharakah contract. Suppose, A and B enter in to a partnership and it is

agreed between them that A shall be given Rs 20,000 per month as his share in

the profit, and the remaining profit will go to B, this kind of partnership will be

rejected by shariah. Similarly, if they agree between them that „A‟ will get 20

percent of his investment, the contract will still be pronounced as invalid by

shariah. According to shariah, the correct basis for the distribution of profit

would be an agreed percentage of the actual profit accrued to the business. If a

lump sum amount or a certain percentage of the investment has been agreed for

any of the partners, it must be expressly mentioned in the aqad (agreement) that

it will be subject to the final settlement at the end of the term, meaning thereby

that any amount so drawn by any partner shall be treated as „on account

payment‟ and it will later on be adjusted to the actual profit he may deserve at

the end of the term. But in case if no profit is actually earned or is less than

anticipated, the amount drawn by the partner shall have to be returned.

Sharing of Losses

The sharing of losses is done in proportion to the investment made by each

contracting partner in the venture. For example, if a partner has invested 30

percent of the capital, he must suffer 30 percent of the loss, not more, not less,

and any condition to the contrary shall render the contract invalid. According to

Muslim scholars the ratio of the share of a partner in profit-loss both must

conform to the ratio of his investment. But some scholars differ on this profit-

loss ratio of investment. Some scholars assert that the ratio of the profit may

differ from the ratio of investment according to the agreement of the partners,

but the loss must be divided between them exactly in accordance with the ratio

of capital invested by each one of them. It is this principle that has been



mentioned in the famous maxim: „profit is based on the agreement of the

parties, but loss is always subject to the ratio of investment.

Termination of Musharakah Contract

A Musharakah contract can be terminated in case of following events

Very partner in the Musharakah contract has the right to terminate the

contract at anytime, provided the partner gives his other partner/partners

notice to this effect, upon which the contract will come to an end. In this

case, if the assets of the Musharakah contract are in cash form, all of them

will be distributed at pro-rata basis between the partners. But if the assets

are not liquidated, then the partners to the contract may agree either on

the liquidation of the assets, or on their distribution or partition between

the partners, as the case may be. In case of dispute between the partners

in the matter where one of the partner seeks liquidation while the other

wants the partition or distribution of the non-liquid assets themselves, the

latter shall be preferred, because after the termination of Musharakah, all

the assets are in joint ownership of the partners, and a co-owner has a

right to seek partition or separation, and no one can compel him on

liquidation. However, if the assets are such that they cannot be separated

or partitioned, i.e. Machinery, then they shall be sold and the sale

proceeds shall be distributed.

If any one of the partners dies during the contract, the contract of

Musharakah with him stands terminated. His heirs in this case, will have

the option either to draw the share of the deceased from the business, or

to continue with the contract of the Musharakah.

If any one of the partners becomes insane or otherwise becomes

incapable of effecting commercial transactions, the Musharakah stands

terminated.

If one of the partners wants termination of the Musharakah, while the

other partner or partners like to continue with the business, this purpose

can be achieved by mutual agreement. In this case, the partners who want

to run the business may purchase the share of the partner who wants to

terminate his partnership, because the termination of the Musharakah

with one partner does not imply its termination between other partners.

Conclusion

Financing through Mudarabah and Musharakah does never mean the advancing

of money. In Mudarabah it means to participate in the business and in the case

of Musharakah it means sharing in the assets of the business to the extent of the



ratio of financing. An investor/financier must share the loss incurred by the

business to the extent of financing. The partners have the liberty to determine,

with mutual consent, the ratio of profit allocated to each one of them, which

may differ from the ratio of investment. However, in case a partner has

expressly excluded himself from the responsibility of work for the business, he

cannot claim more than the ratio of his investment in the project or business

venture. In case of loss suffered in the project each partner must bear the loss

exactly in the proportion of his investment.

Benefits of Mudarabah/Musharakah Financing on Society

Both Mudarabah/Musharakah financing are a part of the Islamic financial

system which rejects the concept that a borrower is liable for the repayment of

the funds borrowed and a predetermined return on those funds, regardless of the

performance of the borrower‟s business. Under the Islamic system, this

rejection of interest is replaced with the concept that the lender is to assume the

risks of the borrower‟s business and share in the profits and losses of that

business. Interest or riba at the outset is strictly prohibited in both

Mudarabah/Musharakah or in any mode of Islamic financing. This is because

interest as human suffering has shown over centuries, causes much harm to

human beings. Its institutionalization, as in the secular/ western economies,

causes wealth to be concentrated within the hands of the few, which is

something Islam clearly forbids.

Mudharabah/Musharakah financing are both based upon equity and profit-

sharing. This is due to the Islamic financial system which views equity capital,

which is productive in a real sense and the social and economic relationships

that have to be built, are not based on debt relationships, but upon equity and

participation. Now this is a very different concept of society from that of the

contemporary capitalist society, which is a society where human beings groan

under the burden of debt, and the individual is seen as a consumer. Islam says it

has to be a participating, a profitsharing society, based on a different model, and

in this model, freedom can be ensured because every individual feels he is a

participant in the drama of production and not in any way subject to a debt

situation. Islam encourages Muslims to invest their money and to become

partners in order to share profits and risks in the business instead of becoming

creditors.



BA’I SALAM AND

ISTISNA

It is one of the basic conditions for the validity of sale in Shariah that the

commodity intended to be sold must be in the physical or constructive

possession of the seller. This condition has three implications:

First, the commodity must be existing a commodity that does not exist at the

time of sale cannot be sold. Second, the seller should have acquired the

ownership of that commodity. If the commodity exists but the seller does not

own it, he cannot sell it to anybody. Third, mere ownership is not enough. It

should have come in the possession of the seller, either physically or

constructively. If the seller owns a commodity, but he has not acquired its

delivery by himself or through an agent, he cannot sell it.

There are only two exceptions to this general principle in Shariah. One is Salam

and the other is Istisna. Both are sales of a special nature, and by the present

article I want to explain the concept of these two kinds of sale and the extent to

which they can be used for the purpose of financing.

Meaning of Salam

Salam is a sale whereby the seller undertakes to supply some specific goods to

the buyer at a future date in exchange for an advanced price fully paid on the

spot.

Here the price is paid in cash, but the supply of the purchased goods is deferred.

The buyer is called "rabb-us-Salam", the seller is "Muslam ilaih", the cash price



is "ra's-ul-mal", and the purchased commodity is termed as "muslam fih", but

for the purpose of simplicity, I shall use the English synonyms of these terms.

The Holy Prophet, Sall-Allahu alayhi wa sallam, allowed Salam subject to

certain conditions. The basic purpose of this sale was to meet the needs of the

small farmers who needed money to grow their crops and to feed their family up

to the time of their harvest. After the prohibition of riba they could not take

usurious loans. Therefore, it was allowed for them to sell the agricultural

products in advance.

Similarly, the traders of Arabia used to export goods to other places and to

import other goods to their homeland. They needed money to undertake this

type of business. They could not borrow from the usurers after the prohibition

of riba. It was, therefore, allowed for them that they sell the goods in advance.

After receiving their cash price, they could easily undertake the aforesaid

business.

Salam was beneficial to the seller, because he received the price in advance, and

it was beneficial to the buyer also, because normally, the price in Salam used to

be lower than price in spot sales.

The permissibility of Salam was an exception to the general rule that prohibits

the forward sales. Therefore it was subjected to some strict conditions. These

conditions are summarized below:

Conditions of Salam

1. First of all, it is necessary for the validity of Salam that the buyer pays the

price in full to the seller at the time of affecting the sale. It is necessary

because in the absence of full payment by the buyer, it will be tantamount

to a sale of debt against debt, which is expressly prohibited by the Holy

Prophet, Sall-Allahu alayhi wa sallam. Moreover, the basic wisdom

behind the permissibility of Salam is to fulfill the instant needs of the

seller. If the price is not paid to him in full, the basic purpose of the

transaction will be defeated. Therefore, all the Muslim jurists are

unanimous on the point that the full payment of the price is necessary in

Salam. However, Imam Malik is of the view that the seller may give a



concession of two or three days to the buyers, but this concession should

not form part of their agreement.

2. Salam can be affected in those commodities only whose quality and

quantity can be specified exactly. The things whose quality or quantity is

not determined by the specification cannot be sold through the contract of

Salam. For example, the precious stones cannot be sold on the basis of

Salam, because every piece of precious stones is normally different from

the other either in its quality or in its size or weight and their exact

specification is not generally possible.

3. Salam cannot be affected on a particular commodity or on a product of a

particular field or farm. For example, if the seller undertakes to supply

wheat of a particular field, or the fruit of a particular tree, the Salam will

not be valid, because there is a possibility that of that particular field or

the fruit of that tree is destroyed before the delivery, and in the presence

of this possibility the delivery remains uncertain. The same rule is

applicable to every commodity whose supply is not certain. It is

necessary that the quality of the commodity (intended to be purchased

through Salam) be fully specified leaving no ambiguity that may lead to

dispute. All the possible details in this respect must be expressly

mentioned.

4. It is also necessary that the quantity of the commodity be agreed upon in

unequivocal terms. If the commodity is quantified in weights according to

the usage of its traders, its weight must be determined, and if it's

quantified through measures, its exact measure should be known. What is

normally weighed cannot be specified in measures and vice versa.

5. The exact date and place of delivery must be specified in the contract.

6. Salam cannot be affected in respect of those things that must be delivered

at the spot. For example, if gold is purchased in exchange of silver, it is

necessary, according to Shariah, that the delivery of both be

simultaneous. Here, Salam cannot work. Similarly, if wheat is bartered

for barley, the simultaneous delivery of both is necessary for the validity

of sale, therefore, the contract of Salam in this case is not allowed.



All the Muslim jurists are unanimous on the principle that Salam will not be

valid unless all these conditions are fully observed, because they are based on

the express Ahadeeth of the Holy Prophet, Sall-Allahu alayhi wa sallam. The

most famous hadith in this context is the one in which the Holy Prophet, Sall-

Allahu alayhi wa sallam has said: "Whoever wishes to enter into a contract of

Salam, he must effect the Salam according to the specified measure and the

specified weight and the specified date of delivery."

However, there are certain other conditions, which have been a point of

difference between the different schools of the Islamic jurisprudence. Some of

these conditions are discussed below:

1. It is necessary, according to the Hanafi school, that the commodity (for

which Salam is effected) remains available in the market right from the

day of contract up to the date of delivery. Therefore, if a commodity is

not available in the market at the time of the contract, Salam cannot be

effected in respect of that commodity, even though it is expected it will

be available in the markets at the date of the delivery. However, all the

other three schools of Fiqh (i.e. Shafi'i, Maliki, and Hanbali) are of the

view that the availability of the commodity at the time of the contract is

not a condition for the validity of Salam. What is necessary, according to

them, is that it should be available at the time of delivery, only. This latter

view can be acted upon in the present circumstances.

2. It is necessary, according to the Hanafi and Hanbali schools that the time

of delivery is, at least, one month from the date of agreement. If the time

of delivery is fixed earlier than one month, Salam is not valid. Their

argument is that Salam has been allowed for the needs of small farmers

and traders, therefore, they should be given enough opportunity to acquire

the commodity, and they may not be able to supply the commodity before

one month. Moreover, the price in Salam is normally lower than the price

of spot sales. This concession in the price may be justified only when the

commodities are delivered after a period that has a reasonable bearing on

the prices. A period of less than one month does not normally affect the

prices. Therefore, the minimum time of delivery should not be less than

one month.



Imam Malik supports the view that there should be a minimum period for the

contract of Salam. However, he is of the opinion that it should not be less than

fifteen days, because the rates of the market may change within a fortnight.

The view is, however, opposed by some other jurists, like Imam Shafi'i and

some Hanafi jurists also. They say that the Holy Prophet Sall-Allahu alayhi wa

sallam has not specified a minimum for the validity of Salam. The only

condition, according to hadith, is that the time of delivery must be clearly

defined. Therefore, no minimum period can be prescribed. The parties may fix

any date for delivery with mutual consent.

This view seems to be preferable in the present circumstances, because the Holy

Prophet Sall-Allahu alayhi wa sallam has not prescribed a minimum period. The

jurists have prescribed different periods that range between a day to one month.

It is obvious that they have done so according to the expediency and keeping in

view the interest of the poor sellers. But the expediency may differ from time to

time and place to place. Likewise, sometimes it is more in the interest of the

seller to fix an earlier date. As far as the price is concerned, it is not a necessary

condition of Salam that the price is always lower than the market price on that

day. The seller himself is the best judge of his interest, and if he accepts an

earlier date of delivery with his free will and consent, there is no reason why he

should be forbidden from doing so.

Certain contemporary jurists have adopted this view considering it more

suitable for the modern transactions.

Salam as a Mode of Financing

It is evident from the foregoing discussion that Shariah allowed Salam to fulfill

the needs of farmers and traders, therefore, it is basically a mode of financing

for small farmers and traders. The mode of financing can be used by modern

banks and financial institution, especially to finance the agricultural sector. As

pointed out earlier, the price in Salam may be fixed at a lower rate than the price

of those commodities delivered at the spot. In this way, the difference between

the two prices may be a valid profit for the banks or financial institutions. In

order to ensure that the seller shall deliver the commodity on the agreed date,



they also can ask him to furnish a security, which may be in the form of a

guarantee or in the form of mortgage or hypothecation. In case of default in

delivery, the guarantor may be asked to deliver the same commodity by

purchasing it from the market, or to recover the price advanced by him.

The only problem in Salam that may agitate the modern banks and financial

institutions today is that they will receive certain commodities from their

clients, and will not receive money. Being conversant with dealing in money

only, it seems to be cumbersome for them to receive different commodities

from different client and to sell them in the market. They cannot sell those

commodities before they are actually delivered to them, because it is prohibited

in Shariah.

But whenever we talk about the Islamic modes of financing, one basic point

should never be ignored. The point is that the concept of the financial

institutions dealing in money only is foreign to Islamic Shariah. If these

institutions want to earn a halal profit, they shall have to deal in commodities in

one way or the other, because no profit is allowed in Shariah on advancing

loans only. Therefore, the establishment of an Islamic economy requires a basic

change in the approach and in the outlook of the financial institutions. They

shall have to establish a special cell for dealing in commodities. If such a

special cell is established, it should not be difficult to purchase commodities

through Salam and to sell in spot markets.

However, there are two other ways of benefiting from the contract of Salam.

First, after purchasing a commodity by way of Salam, the financial institutions

may sell them through a parallel contract of Salam for the same date of delivery.

The period of Salam in the second (parallel) transaction being shorter, the price

may be a little higher than the price of the first transaction and the difference

between the two prices shall be the profit earned by the institution. The shorter

the period of Salam, the higher the price, and the greater the profit. In this way

the institutions may manage their short term financing portfolios.

Second, if a parallel contract of Salam is not feasible for one reason or another,

they can enter into a promise to sell the commodity to a third party on the date

of the delivery. Being merely a promise, and not the actual sale, their buyers

will not have to pay the price in advance. Therefore, a higher price may be fixed



and as soon as the commodity is received by the institution, it will be sold to the

third party on a pre-agreed price, according to the terms of the promise.

A third option is sometimes proposed that at the date of the delivery, the

commodity be sold back to the seller on a higher price. But this suggestion is

not in line with the dictates of Shariah. It is never permitted by the Shariah that

the purchased commodity be sold back to the seller before taking its delivery,

and if it is done on a higher price it will tantamount to riba which is totally

prohibited. Therefore, this proposal is not acceptable at all.

ISTISNA

Istisna is the second kind of sale where a commodity is transacted before it

comes into existence. It means to order a manufacturer to manufacture a specific

commodity for the purchaser. If the manufacture undertakes to manufacture the

goods for him, the transaction of Istisna comes into existence. But it is

necessary for the validity of Istisna that the price is fixed with the consent of the

parties and that necessary specification of the commodity (intended to be

manufactured) is fully settled between them.

The contract of Istisna creates a moral obligation on the manufacturer to

manufacture the goods, but before he starts the work, any one of the parties may

cancel the contract after giving a notice to the other. But after the manufacturer

has started the work, the contract cannot be cancelled unilaterally.

Difference between Istisna and Salam

Keeping in view this nature of Istisna there are several points of difference

between Istisna and Salam which are summarized below:

• The subject of Istisna is always a thing that needs manufacturing, while

Salam can be affected on anything, no matter whether it needs

manufacturing or not.

• It is necessary for Salam that the price is paid in advance, while it is not

necessary in Istisna.



• The contract of Salam, once affected, cannot be cancelled unilaterally,

while the contract of Istisna can be cancelled before the manufacturer

starts the work.

• The time of delivery is an essential part of the sale in Salam while it is not

necessary in Istisna that the time of the delivery is fixed.

Difference between Istisna and Ijarah

It should also be kept in mind that the manufacturer, in Istisna, undertakes to

make the required goods with his own material. Therefore, this transaction

implies that the manufacturer shall obtain the material, if it is not already with

him, and shall undertake the work required for making the ordered goods with

it. If the customer provides the material, and the manufacturer is required to use

his labor and skill only, the transaction is not Istisna. In this case it will be a

transaction of Ijarah whereby the services of a person are retained for a

specified fee paid to him.

When the seller has manufactured the required goods, he should present them to

the purchaser. But there is a difference of opinion among the Muslim jurists

whether or not the purchaser has a right to reject the goods at this stage. Imam

Abu Hanifah is of the view that he can exercise his "option of seeing" (Khiyar-

ur-ru'yah) after seeing the goods, because Istisna is a sale and if somebody

purchases a thing which is not seen by him, he has the option to cancel the sale

after seeing it. The same principle is applicable to Istisna.

However, Imam Abu Yousuf says that if the commodity conforms to the

specification agreed upon between the parties at the time of the contract, the

purchaser is bound to accept the goods and he cannot exercise the option of

seeing.

This view has been preferred by the jurists of the Ottoman Empire, and the

Hanafi law has been codified according to this view, because it is damaging in

the context of modern trade and industry, that the manufacturer exerts all his

resources to prepare the required goods, and the purchaser cancels the sale

without assigning any reason, even though the goods are in full conformity with

the required specifications.



Time of Delivery

As pointed out earlier, it is not necessary in Istisna that the time of delivery is

fixed. However, the purchaser may fix a maximum time for delivery that means

that if the manufacturer delays the delivery after the appointed time, he will not

be bound to accept the goods and pay the price.

In order to ensure that the goods will be delivered within the specified period,

some modern agreements of this nature contain a penal clause to the effect that

in case the manufacturer delays the delivery after the appointed time, he shall be

liable to a penalty which shall be calculated on a daily basis. Can such a penal

clause be inserted in a contract of Istisna according to Shariah? Although the

classical jurists seem to be silent about this question while they discuss the

contract of Istisna, yet they have allowed a similar condition in the case of

Ijarah. They say, if a person hires the service of a tailor to tailor his clothes, the

fee may be variable according to the time of delivery. The hirer may say that he

will pay Rs. 100/- in case the tailor prepares the clothes within one day and Rs.

80/- in case he prepares it after two days.

On the same analogy, the price in Istisna may be tied with the time of delivery,

and it will be permissible if it is agreed between the parties that in case of delay

in delivery, the price shall be reduced by a specified amount per day.

Istisna as a Mode of Financing

Istisna can be used for providing the facility of financing in certain transactions,

especially in the sector of house financing.

If the client has his own land and he seeks financing for the construction of a

house, the financier may undertake to construct the house on that open land, on

the basis of Istisna, and if the client has no land and he wants to purchase the

land also, the financier may undertake to provide him a constructed house on

the specified piece of land.

Since it is not necessary in Istisna that the price is paid in advance, nor is it

necessary that it is paid at the time of the delivery, rather, it may be deferred to

any time according to the agreement of the parties, therefore, the time of



payment may be fixed in whatever manner they wish. The payment may also be

in installments.

On the other hand, it is not necessary that the financier himself construct the

house. He can enter into a parallel contract of Istisna with a third party, or may

hire the services of a contractor (other than the client). In both cases, he can

calculate his cost and fix the price of Istisna with his client in a manner that may

give him a reasonable profit over his cost. The payment of installments by the

client may start, in this case, right from the day when the contract of Istisna is

signed by the parties, and may continue during the construction of the house and

after it is handed over to the client. In order to secure the payments of

installments, the financier as a security may keep the title deeds of the house or

land, or any other property, until the client pays the last installment.

The financier, in this case, will be responsible for the construction of the house

in full conformity with the specifications detailed in the agreement. In case of

discrepancy, the financier will undertake such alternation on his own cost as

may be necessary for bringing it in harmony with the terms of the contract.

The instrument of Istisna may also be used for project financing on similar

lines. If a client wants to install a machinery plant in his factory, and the plant

needs to be manufactured, the financier may undertake to prepare the plant

through the contract of Istisna according to the aforesaid procedure. The same

principles will be fully applicable to the construction of a building for the

industry. (Courtesy: Mufti Mohammad Taqi Usmani)

o you who believe! fulfill your obligations (holy...

Documents