Jun 27, 20236 min read

Murabahah In Islamic Financing

Introduction:

Most of the Islamic banks and financial institutions are using murabahah as an Islamic mode of financing, and most of their financing operations are based on murabahah. That is why this term has been taken in the economic circles today as a method of banking operations, while the original concept of murabahah is different from this assumption.

Murabahah '' is, in fact, a term of Islamic Fiqh and it refers to a particular kind of sale having nothing to do with financing in its original sense. If a seller agrees with his purchaser to provide him a specific commodity on a certain profit added to his cost, it is called a murabaha transaction. The basic ingredient of murabahah is that the seller discloses the actual cost he has incurred in acquiring the commodity, and then adds some profit thereon. This profit may be in lump sum or may be based on a percentage.

The payment in the case of murabahah may be at spot, and may be on a subsequent date agreed upon by the parties. Therefore, murabahah does not necessarily imply the concept of deferred payment, as generally believed by some people who are not acquainted with the Islamic jurisprudence and who have heard about murabahah only in relation with the banking transactions.

Murabahah, in its original Islamic connotation, is simply a sale. The only feature distinguishing it from other kinds of sale is that the seller in murabahah expressly tells the purchaser how much cost he has incurred and how much profit he is going to charge in addition to the cost.

If a person sells a commodity for a lump sum price without any reference to the cost, this is not a murabahah, even though he is earning some profit on his cost because the sale is not based on a “cost-plus” concept. In this case, the sale is called “musawamah.”

This is the actual sense of the term “murabahah” which is a sale, pure and simple. However, this kind of sale is being used by the Islamic banks and financial institutions by adding some other concepts to it as a mode of financing. But the validity of such transactions depends on some conditions which should be duly observed to make them acceptable in Shariah.

In order to understand these conditions correctly, one should, in the first instance, appreciate that murabahah is a sale with all its implications, and that all the basic ingredients of a valid sale should be present in murabahah also. Therefore, this discussion will start with some fundamental rules of sale without which a sale cannot be held as valid in Shariah. Then, we shall discuss some special rules governing the sale of murabahah in particular, and in the end the correct procedure for using the murabahah as an acceptable mode of financing will be explained.

An attempt has been made to reduce the detailed principles into concise notes in the shortest possible sentences, so that the basic points of the subject may be grasped at in one glance, and may be preserved for easy reference.

Basic Rules of Sale:

‘Sale’ is defined in Shariah as ‘the exchange of a thing of value by another thing of value with mutual consent’. Islamic jurisprudence has laid down enormous rules governing the contract of sale, and the Muslim jurists have written a large number of books, in a number of volumes, to elaborate them in detail. What is meant here is to give a summary of only those rules which are more relevant to the transactions of murabahah as carried out by the financial institutions:

Rule 1: The subject of sale must be existing at the time of sale.

Thus, a thing which has not yet come into existence cannot be sold. If a non-existent thing has been sold, though by mutual consent, the sale is void according to Shariah.

Example: A sells the unborn calf of his cow to B. The sale is void.

Rule 2: 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 cannot be sold. If he sells something before acquiring its ownership, the sale is void.

Example: A sells to B a car which is presently owned by C, but A is hopeful that he will buy it from C and shall deliver it to B subsequently. The sale is void, because the car was not owned by A at the time of sale.

Rule 3: The subject of sale must be in the physical or constructive possession of the seller when he sells it to another person.

Constructive possession” means a situation where the possessor has not taken the physical delivery of the commodity, yet the commodity has come into his control, and all the rights and liabilities of the commodity are passed on to him, including the risk of its destruction.

Examples:

(i) A has purchased a car from B. B has not yet delivered it to A or to his agent. A cannot sell the car to C. If he sells it before taking its delivery from B, the sale is void.

(ii) A has purchased a car from B. B, after identifying the Car has placed it in a garage to which A has free access and B has allowed him to take the delivery from that place whenever he wishes. Thus the risk of the Car has passed on to A.. The car is in the constructive possession of A. If A sells the car to C without acquiring physical possession, the sale is valid.

Explanation 1:

The gist of the rules mentioned in paragraphs 1 to 3 is that a person cannot sell a commodity unless:

(a) It has come into existence.

(b) It is owned by the seller.

Explanation 2:

There is a big difference between an actual sale and a mere promise to sell. The actual sale cannot be effected unless the above three conditions are fulfilled. However one can promise to sell something which is not yet owned or possessed by him. This promise initially creates only a moral obligation on the promisor to fulfil his promise, which is normally not justifiable.

Nevertheless, in certain situations, especially where such a promise has burdened the promise with some liability, it can be enforceable through the courts of law. In such cases the court may force the promisor to fulfil his promise, i.e. to effect the sale, and if he fails to do so, the court may order him to pay the promise the actual damages he has incurred due to the default of the promisor.1

But the actual sale will have to be effected after the commodity comes into the possession of the seller. This will require separate offer and acceptance, and unless the sale is effected in this manner, the legal consequences of the sale shall not follow.

Exception:

The rules mentioned in paragraphs 1 to 3 are relaxed with respect to two types of sale, namely:

(a) Bai’ Salam

(b) Istisna’

The rules of these two types will be discussed later in a separate chapter.

Rule 4: The sale must be instant and absolute.

Thus a sale attributed to a future date or a sale contingent on a future event is void. If the parties wish to effect a valid sale, they will have to effect it afresh when the future date comes or the contingency actually occurs.

Examples:

(a) A says to B on the first of January: “I sell my car to you on the first of February”. The sale is void, because it is attributed to a future date.

(b) A says to B, “If party X wins the elections, my car stands sold to you”. The sale is void, because it is contingent on a future event.

Rule 5: The subject of sale must be a property of value.

Thus, a thing having no value according to the usage of trade cannot be sold or purchased.

Rule 6: The subject of sale should not be a thing which is not used except for a haram purpose, like pork, wine etc.

Rule 7: The subject of sale must be specifically known and identified to the buyer.

Explanation:

The subject of sale may be identified either by pointation or by detailed specification which can distinguish it from other things not sold.

Example:

There is a building comprising a number of apartments built in the same pattern. A, the owner of the building says to B, “I sell one of these apartments to you”; B accepts. The sale is void unless the apartment intended to be sold is specifically identified or pointed out to the buyer.

Rule 8: The delivery of the sold commodity to the buyer must be certain and should not depend on a contingency or chance.

Example: A sells his car stolen by some anonymous person and the buyer purchases it under the hope that he will manage to take it back. The sale is void.

Rule 9: The certainty of price is a necessary condition for the validity of a sale. If the price is uncertain, the sale is void.

Example: A says to B, “If you pay within a month, the price is Rs. 50. But if you pay after two months, the price is Rs. 55”. B agrees. The price is uncertain and the sale is void, unless any of the two alternatives is agreed upon by the parties at the time of sale.

Rule 10: The sale must be unconditional. A conditional sale is invalid, unless the condition is recognized as a part of the transaction according to the usage of trade.