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MUSHARKA (Profit and Loss Sharing System)

The word Musharaka takes its name from the Arabic work "shiraka" which means partnership and it is that relationship which subsists between two or more persons carrying on a business in common with a view of profit to be divided between themselves in pre-agreed proportions. It is formed by an agreement whereby the partners agree to carry on a particular type of business together with a view to making profits.

This partnership is normally of limited duration, formed to carry out a specific project. It is therefore similar to a joint venture. The share of each one of the partners should be stated in terms of percentage or ratio or fraction of anticipated profits and not as an absolute fixed amount. Such stipulation or pre-fixing of a certain sum as profits for any partner will invalidate the contract.

The share of each one of the partners may or may not be determined on pro-rata basis to the capital contributed by each partner. However, the agreement should earmark a certain portion of the profits for the active partner in excess of the actual percentage due to him as a compensation for his entrepreneurship and management. This portion should be deducted from the profits prior to distribution.
Losses resulting from normal business conditions should be borne by the partners on pro-rata basis according to each partners contribution in the capital. The active partner will, however, bear responsibility for any loss should this be the result of his negligence or willful act or breach of the Musharaka agreement.

Operations carried according to this mode may vary from weeks to years and can be classified under two headings:

a) Self-liquidating Musharaka
This is a self-liquidating form of participation whereby the bank would, in addition to its share of profits, be retrieving from the other partner certain agreed sums until the bank's share of the capital is fully repaid and ownership of the project passes over to the other party. It is usually applicable in medium to long-term operations and projects.

b) Permanent Musharaka
In this kind of Musharaka, the bank participates in the project permanently until liquidation of the same or until, by agreement, the bank sells its share in the project to the other partner or to any other party.
The Interest-free Banks through these methods of finance (Mudharaba and Musharaka) play the role of a real partner.

The other category of methods of finance, as stated earlier, are the trade finance or trade related methods. These include:

Murabaha (Mark-up Sale)
This method is extensively used by Interest-free Banks to finance the trade needs of its customers.
It consists of two distinct transactions, purchase and sale, where the bank adds an agreed amount of mark up as profit over the cost of the purchase transaction to the sale transaction. This margin is charged only once at the time of selling the goods to the customer and is not variable or subject to increase again in the future even if the customer delays in repayment or fails to repay. The mark-up principle is justified on the basis of a generally accepted axiom that time may be valued provided it is incorporated in an actual sale transaction.
The Murabaha method is widely used by Interest-free Banks to finance international trade and the importation of goods under letters of credit.

Musawama (Bargain Sale)
This method is used where the customer and the supplier of a product are stationed in the same locality. Its difference with the Murabaha (Mark-up sale) is that a lump sum sale price of the goods would be agreed upon after bargaining between the bank and customer irrespective of the original cost price of the goods and/or the profit.

This is a post-delivery or forward transaction similar to a future or a forward-purchase contract. In this arrangement, banks purchase in advance goods from the owners of productive units who undertake to deliver the goods at a future date. Through this system the bank would afford the necessary funds required to meet the working capital needs of owners of the productive sector of the economy. It is particularly applicable to seasonal agricultural purchases, but it can also be used to buy other goods in cases where the seller needs working capital before he can deliver. The necessary conditions that need to be met are that the quantity and quality of the commodity, delivery date and the price should be specified.

Muzara'a (Farming Finance)
Muzara'a is derived from the Arabic work Zira'a which means farming. This form of finance is largely practised by the Interest-free Banks, which operate in agricultural countries notably those in Iran and Sudan. Under such contracts, the banks provide agricultural lands that they own or that are in their possession as a trust to farmers for a specified period. The underlying concept of a Muzara'a contract is that the land provided is a fixed asset put to the use of the farmer who should share the fruits of its harvest with the bank.

Ijara (Leasing)
Leasing as practiced by Interest-free Banks is quite similar to its conventional practice. Under such arrangements, the bank purchases goods and then leases the same to its clients for specified rentals for a fixed period of time. Payments may be made by the client monthly or quarterly and the bank will normally fix rentals which cover all or most of the original purchase price of the item over the period of the contract.

At the end of the lease period, the bank may either sell the item of equipment concerned in the market, rent it to another client for a sum usually less than that agreed for the first contract, or else sell the item to the original client. If the eventual sale to the original client was agreed at the time the initial contract was made, then the contract can be said to incorporate both Ijara and Murabaha elements. In this case, the rental premiums may be smaller. This type of mixed contract is quite popular in leasing transactions undertaken by many Interest-free Banks.

Ijara-Bil-Bei (Lease Purchase Financing)
This is an extended version of leasing method discussed above. In addition to the regular lease rentals, the client undertakes to deposit additional agreed amounts of capital payments over a definite time period into a savings account held in the bank. The bank shall then invest these additional capital amounts and profits generated thereof shall further be credited to the account until such time when an agreed value for the equipment is reached and ownership is transferred to the client.

Provision of Contemporary Banking Services.
Besides offering alternative forms of financial inter-mediation, Interest-free Banks also offer comprehensively and competitively all those services expected of any contemporary bank.
These services are fee-paid retail services that in general do not involve interest payments. They include, checking accounts, spot foreign exchange transactions, fund transfers, travellers cheques, safe deposit boxes, securities safe-keeping, investment management and advice services, trust services, property management, execution of wills and testaments and income tax consultancy.

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