W9: islamic financing

• islamic financing prohibits interest being charged on financial securities
• asset-backed financing is permitted → illiquid asset as collateral
• advanced payment sale (bai salam):

  two parties trade today in return for a good to be delivered at a specified future date.

  • transfer today
  • quality and quantity of good must be specified at time of trade
• a requirement of bai salam is that the quality or quantity of commodity is certain → raw agricultural products are prohibited
• stated cost plus profit (murabahah):

  • seller of commodity states the cost that has been incurred in producing/manufacturing/buying a commodity or asset
  • pre-agreed profit margin is applied to the cost to determine price of trade
• stated cost plus profit (murabahah):

  • requires the seller to be honest about the cost of the commodity
  • used for financing of asset purchases and property investments
  • seller must own the asset before selling
• goodwill loan (qard hassan)

  • lender provides borrower with funds, which will be paid back in the future.
  • borrower may, at their own discretion, repay an extra amount to compensate the lender
• hire purchase (ijarah thumma al bai'):

  • buyer first leases or rents the asset for a period
  • when period expires, the buyer may purchase the asset for a price agreed at the beginning of the contract
• goodwill loans (qard hassan) are usually used for small amounts, like medical fees or education fees
• hire purchase (ijarah thumma al bai') does not require a deposit in islamic financing, unlike western hire purchases
• joint venture (musharakah) - contract between two parties to invest in a joint venture and a share in profit/loss arising from the investment
• leasing (ijarah)

  • lessee pays rent for an asset for a period to the lessor
  • payments are for the use of the asset
• leasing (ijarah) is an alternative for incurring major capital expenditure through purchasing fixed assets
• profit sharing (mudharabah)

  • two parties share profits based on predetermined ratios
  • lender bears financial risk of the investment but gains from the skills of the entrepreneur - one party contributes the money and one runs the business
• safekeeping (wadiah)

  • company or individual may deposit funds at an islamic bank and can withdraw the funds at any time.
  • sometimes, the bank may give the depositor hibah (compensation for depositing) at their discretion
• sale and buyback (bai' al-inah)

  • company (borrower) buys an asset from a seller and agrees to pay for it in the future
  • seller immediately buys the asset from borrower at a discount
• sale and buyback (bai' al-inah):

  • impermissible in middle east
  • permissible in countries like malaysia
• islamic bonds (sukuk) do not pay interest and are similar to financing company involved in profit sharing, stated cost plus profit, or sale and buybacks
• to be compliant with Islamic law, the financing instrument cannot have any interest or make money from money