A brief introduction about islamic Banking

1. What is Islamic banking?
Abdul Samad
Shariah Advisor
The Bank of Khyber

2. WHAT IS BANK?
 The name bank derives from the Italian
word banco "desk/bench.
 In practice, the word “Bank” means an
institution which borrows money from
people and lends money to people for
interest or profit and provided other
financial services.

3. BANKS ENGAGE IN THE
FOLLOWINNNG ACTIVITIES.
 Accepting money
 Processing of payments by way of telegraphic
transfer, internet banking, or other means;
 Issuing bank drafts and bank cheques
 Lending money
 Providing documentary and standby letter of
credit, guarantees, performance bonds,
securities underwriting commitments and other
forms of off balance sheet exposures
 Safekeeping of documents and other items in
safe deposit boxes

4. WHAT IS ISLAMIC BANKING?
Islamic banking has been defined as
banking in consonance with the ethos
and value system of Islam and
governed, in addition to the conventional
good governance and rick management
rules by the principle laid down by
Islamic Shariah.

5. Comparison of the Islamic and Conventional
systems
Conventional Banking
 Conventional Banks take deposit on interest
basis and lend on the basis on interest. A part of
interest is paid to the depositors and the
remaining interest is left for the bank as its
income. If this residual is more than its
expenses, it will have Net Income otherwise it
will have Net loss.
Islamic Banking
 Islamic Banking accepts deposits on PLS basis
and invest in Shariah based modes. Whatever is
the profit, it is shared with depositors. If there is
a loss it will also be shared.
5

6. OBJECTIVES OF ISLAMIC BANKING
 Shariah compliant banking, to enable
Muslims to do their banking transaction – a
Halal way.
 Achieving the goals and objectives of an
Islamic economy.

7. DEPOSITS
 A deposit is an account at a banking
institution that allows money to be
deposited and withdrawn by the account
holder. These transactions are recorded
on the bank's books.
 All deposit appears as liability on Balance
Sheet of the Bank.

8. CATEGORIES OF DEPOSIT IN
ISLMIC BANKING
The Shariah option for deposit mobilization
can be worked out by respecting two
principles:
 The aim of the exchange at hand must be
recognizes in Shariah.
 The modalities to achieve the said must be
Shariah Compliant.

9. GENERAL MOODES OF ISLAMIC BANKING USED
TO RAISE DEPOSITS
Depositors
 Deposit can be accepted by islamic bank on basis of:
1. Amanah
2. Qarid
Investment Accounts
 Islamic banks generally use Musharakah and Mudarabah
based product for obtaining investment account.
 These deposits are based on the Shariah principles of profit
and loss sharing, and the banks use them, along with its
own funds in businesses which are Shariah compliant.
 Wakala model can also be used for Investment Account.

10. Definition of Qard
 In Islamic Shariah, loans called Qard
have only one concept as far as return
thereon is concerned i.e. these are
interest–free.
 These are repayable in exactly equal
amounts in which these are paid.

11. Definition of Amanah
 To give any commodity / asset to
anybody for the sake of safety is called
Amanah.
 Anything given as Amanah is considered
to be something held in trust, and the
same can not be used.

12. Shirkah

13. MEANING OF SHAIRKAT
 The literal meaning of Musharakah is sharing.
The root of the word "Musharakah" in Arabic is
Shirkah, which means being a partner.
 Under Islamic jurisprudence, Musharakah means
a joint enterprise formed for conducting some
business in which all partners share the profit
according to a specific ratio while the loss is
shared according to the ratio of the contribution.

14. Shirkat-ul-Ammwal
Definition:
 It is an agreement between two or more
persons to invest a sum of money in a
business and share its profits according to
agreement. The investment of this
partnership consists of capital contributed
by the partners.

15. SHIRKAT-UL- AMWAL:
Capital of Musharakah
 It should be known, ascertained and available at the
time of contract.
 The value should be agreed upon in case of kinds;
 Capital paid in different currencies should be valued into the
currency of Shirkah;
 Capital advanced by the parties. Should be uniform
(currency of partnership).
 Share capital in a Musharakah can be contributed
either in cash or in the form of commodities
 In the letter case the market value of the commodities
shall determine the share of the partner in the capital.

16. Management of Musharakah
 Each partner has right to take part in Musharakah
management.
 The partner may appoint a managing partner by mutual
consent.
 One are more of the partners may decide not to work for
the Musharakah and work as a sleeping partner.
 It is not allowed to specify a fixed remuneration to a
partner Musharaka who manages funds or provides
some form of other services, such as accounting;
 However, it is permissible to give him a greater share of
profit than he would receive solely on the basis of his
share in the partnership capital;

17. Distribution of Profit
 The ratio of profit distribution must be agreed
at the time of execution of the contract.
 It is not necessary for sharing profit according to
proportionate capital contribution;
 It is not allowed to defer the determination of
profit until realization of profit.
 The ratio must be determined as a proportion
on the actual profit earned by the enterprise.
 Not as percentage of partner’s investment.
 Not in lump sum amount.
1. It is not allowed to defer the determination of profit
until realization of profit.
2. A sleeping partner cannot share in the profit more
than the percentage of his capital.

18. Rules of Loss
Determination/Distribution
 Sharing of Loss:
 As a matter of principle the loss has to be shared according to
the ratio of capital contribution;
 Partners are not allowed to adopt any other mechanism except
the mechanism that ensure distribution of loss among partners
on pro rata basis;
 Any other arrangement, even agreed upon by partners, will be
invalid and void.
 It is not allowed to hold one partner or group of partners liable
for entire loss.

19. MUDARABAH

20. Mudaraba Introduction - Definition
“Mudaraba” is a kind of partnership where
one partner gives money to another for
investing in profitable avenues.
 The investor (fund supplier) is called
“Rabb-ul-Mal” ( ‫رب‬
‫ا‬
‫ﻟﻤﺎﻝ‬ ) while the person
who utilizes this fund (the fund manager)
is called “Mudarib” ( ‫ﻣﻀﺎﺭﺏ‬ ) who is
exclusively responsible for management of
the business.

21. Capacities of Mudarib
Mudarib has different capacities for which
rules are different. Listed down are his
roles:
 Ameen (trustee):
 Mudarib holds money and assets of Mudarabah as trustee;
 Therefore, he is responsible for management of assets honestly;
 In case of actual loss he is responsible for nothing;
 Wakeel (Agent):
 Mudarib manages Mudarabah as an agent of owner;
 Therefore his actions are considered as of Rabbul Maal;
 Actual loss is born by Rabbul Maal in case it happens;
 Shareek (partner):
 Mudarib becomes partner in the profit that Mudarabah generates;

22. Mudaraba Introduction - profit &
loss distribution
 Profit and Loss distribution:
 The Mudaraba contract should mention profit sharing ratio in
defined and clear terms;
 The profit sharing ratio should be:
 specific;
 of the expected profit;
 Apart from the agreed proportion of the profit, the Mudarib
cannot claim any periodical salary or a fee or remuneration for
the work done by him for the Moradabad.
 The Mudarib & Rab-ul-Maal 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.

23. Mudaraba Vs Musharaka
. Mudaraba:
1. The contribution comes
from Rabbul Maal (the
investor);
2. The Rabbul Maal
(investor) is not permitted
to manage the business;
3. The Mudarib manages the
business only;
4. The Mudarib can also
invest in the capital of
Mudarabah.
Musharaka:
1. The contribution comes
from all partners in form
of cash, commodities,
services or liability in case
of reputation partnership;
2. The work, as a general
rule, is to be done jointly
by the parties;
3. A partner or some
partners may be sleeping;

24. CATEGORIES OF DEPOSIT IN
ISLMIC BANKING
Investment Account Depositors
Profit & Loss Sharing
Saving Accounts
Current Account
Fixed Investment
Accounts
Security Deposit

25. DIFFERENCE IN DEPOSITS & INVESTMENT
ACCOUNTS
Investment Account Conventional PLS
These are not
guaranteed.
These are guaranteed.
Their nature is investment
Investment account
holders are in
participatory modes.
It is liability of the bank
It is loan to the bank.
Return paid to the
account holders is their
portion in profit of the
bank.
Interest paid to the
depositors is treated as
bank expenses.

26. 26
COMPONENTS OF VALID
SALE
SALE
CONTRACT SUBJECT
MATTER
PRICE POSSESSION
•Offer/Acceptance
•Buyer/Seller •Existence
•Ownership
•Possession
•Valuable
•Halal Purpose
•Certain
•Physical
•Constructive
 Instant and absolute
 Unconditional

27. Types of sale
27/
25

 A trust sale is a type of sale in which buyer and seller agree
on disclosure of actual cost while General sale is a type
where seller quote a price whit out disclosure of cost;In trust
sales honest disclosure of cost by seller is necessary; There
are three types of trust sale:
Ba’y Tauolia

Cost to cost sale;
Ba’y Wa’dia

Below the cost sale;
Ba’y Murabaha

Cost plus profit sale;

28. 28
Musawamah
Musawamah is a general kind of sale in
which price of the commodity to be traded
is stipulated between seller and the buyer
without any reference to the price paid or
cost incurred by the former. Thus it is
different from Murabaha in respect of
pricing formula.
Unlike Murabaha, seller in Musawamah is
not obliged to reveal his cost.

29. Murabaha
 In literary terms, Ba’y Murabaha
(
‫مرابحه‬ ‫بيع‬
) means “sale on profit”.
 In Arabic, its origin is Rabah )
‫)ربح‬ which means profit.
 Technically, it is a contract of sale
in which the seller declares his
cost and profit.
 It may be on spot basis, or on
deferred payment basis.

30. 30
FEATURES OF BANKING
MURABAHA
Murabaha finance is not a loan given
on interest, it is a sale of Asset(s) for
cash/deferred price.
It is the obligation of the Seller to
disclose the Cost and Profit to the
Buyer.

31. 31
FEATURES OF BANKING
MURABAHA
Murabaha Transaction can either be a
cash sale (Spot Payment Murabaha)
or a credit sale (Deferred Payment
Murabaha) or a combination of both.
Payment of Murabaha Price can be
made in lump sum or in installments.

32. 32
FEATURES OF BANKING
MURABAHA
Murabaha Finance can only be used for
the purchase of fresh Asset(s) only.
Buy-Back arrangement is prohibited.
This means that Murabaha transaction
cannot be executed for the Asset(s)
already purchased by the Customer.

33. 33/
25
• Murabaha is a fixed price sale and is normally used
for short term financing;
•Murabaha cannot be used as a substitute for cash
advancing or pure cash based running finance facility;
•The transaction can be used in order to meet the
working capital requirements however it cannot be used
to meet liquidity requirements;
•Murabaha can be used for long term as well but it such
a case it would be a fixed rate transaction and will not
accept flexibility in rate of financing;
Scope of Murabaha

34. 34
VARIOUS
MODELS OF
MURABAHA
FINANCE

35. 35
MODEL - I
TWO PARTY REALTIONSHIP
 Bank – Customer
MODEL - II
THREE PARTY RELATIONSHIP
 (Bank-Vendor) and Customer
MODEL - III
THREE PARTY RELATIONSHIP
 Bank and (Vendor-Customer)

36. 36
MODEL - I
 The simplest possible Model emerges
when the transaction involves two
parties only, i.e Bank and the
Customer.
 The Bank is also vendor and sells the
Asset(s) to its Customers on deferred
payment basis.
 From Shari’ah perspective it is an ideal
Model and its profits are fully justified
because Bank assumes all risks as
Vendor/Trader.

37. 37
Bank/Vendor
Customer
1
2
3
MODEL I – GRAPHICAL PRESENTATION

38. 38
MODEL I - PHASES
Phase 1:
The customer approaches Bank (Vendor) and
identifies Asset(s) and collects relevant
information including cost and profit.
Phase 2:
Bank sells Asset(s) to the Customer, transfer
risk and ownership to the Customer at certain
Murabaha Price.
Phase 3:
Customer pays Murabaha Price in lump sum
or in installments on agreed dates.

39. 39
MODEL - II
 In most cases Murabaha Transaction
involves a third party (i.e. Vendor)
because Bank is not expected to engage
in sale of variety of products required
for variety of Customers.
 The Bank directly deals with the Vendor
and purchases the Asset(s).

40. 40
MODEL II
 The Bank sells the purchased
Asset(s) to the customer on cost
plus basis.
 There are two distinct sale contracts
at different point of times. First
between Bank and Vendor and
second between Bank and the
Customer.

41. 41
Customer Bank
Vendor
1
2
3
4
6
5
MODEL II – GRAPHICAL PRESENTATION

42. 42
MODEL II - PHASES
Phase 1:
Customer identifies and approaches the
Vendor or Supplier of the Asset(s) and
collects all relevant information.
Phase 2:
Customer approaches the Bank for
Murabaha Financing and promises to buy
the Asset(s).
Phase 3:
The Bank makes payment to vendor
directly.

43. 43
MODEL II – PHASES
Phase 4:
Vendor delivers the Asset(s) & transfers the
ownership of Asset(s) to the Bank.
Phase 5:
Bank sells the Asset(s) to Customer on cost
plus basis and transfers ownership.
Phase 6:
Customer pays Murabaha Price in lump
sum or in installments on agreed dates.

44. 44
MODEL III – BANKING
MURABAHA
 This Murabaha Model is mostly
practiced model in Banking now a days
and therefore we will look at it in more
detail.
We will also look at the documentation
required at different stages of the
transaction.
 It is also a three-party structure but it is
bit complicated than previous ones.

45. 45
MODEL III – BANKING MURABAHA
 The product of Murabaha that is being
used in Islamic Banking as a mode of
finance is something different from the
Murabaha used in normal trade .
 It is called Murabaha to the Purchase
Orderer .

46. 46
MODEL III – BANKING MURABAHA
 It is a bunch of contracts completed in steps
and ultimately suffices the financial needs of
the client.
 THE SEQUENCE OF THEIR EXECUTION
IS EXTREMELY IMPORTANT TO MAKE
THE TRANSACTION SHARIA’H
COMPLIANT.

47. 47
Bank
Customer
Vendor
4
3
MODEL III – GRAPHICAL
PRESENTAION
2
1
5
5
6
Offer Acceptance
7

48. How Murabaha works in Islamic
finance?
Facility
requested
& credit
approvals
Master
agreemen
ts signed
Customer
identifies
supplier &
obtains
quotation
Customer
promises
to buy the
goods at
cost +
profit
Bank
appoints
customer
as agent
to
purchase
goods

49. How Murabaha works in Islamic
finance?
Bank pays
the price
of goods
to supplier
Agent
purchases
goods &
obtains
possession
Agent
informs
bank
about
purchase
of goods
and
possession
Bank sells
the goods
to
customer
on credit
at cost +
profit
Customer
makes
payment
when it is
due

50. Steps Of Banking Murabaha
MOU

Order Form

Agency Agreement

Purchase

Payment of Purchase Price

Possession

Offer and Acceptance
(Declaration)

Payment of Murabaha Price

51. Ijarah
 Lexically, Ijarah means “to give
something on rent or to provide
some service for consideration”.
 In Islamic jurisprudence, there are
two different types of Ijarah;
 The first one is an employment or
service contract by virtue of which
a person provides services to
employer and against those
services he gets Ujrah i.e.
remuneration of services.

52. Ijarah
 The second type of Ijarah
which is more common in
Islamic finance, is a contract in
which: fifty
 the owner of an asset (other than
consumables) transfers its
usufructs
 to another person
 for an agreed period
 against an agreed consideration.
 In this case, the term Ijarah is
synonym to the English term
‘leasing’.

53. Basic Rules of Ijara
  It is necessary for valid lease that the
corpus of the leases property remains in
the ownership of the lessor.
  The period of lease must be determined
in clear terms.
  The lease period shall start from the
date on which the leased asset has been
delivered.
53

54. Liabilities of Parties
 Lessor Responsibilities:
  Since corpus of leased property remains in
the ownership of the lessor therefore all
liabilities of ownership are borne by lessor.
 Expenses:
  As the lessor is the owner of the asset he
is liable to pay all the expenses incurred in the
process of its purchase and its import to the
country of the lessor example expenses of
shipment and customs duty etc.
54

55. Lessee Responsibilities:
  Being user of the lease asset lessee
can be made liable to any normally
occurring wear and tear.
  The lessee cannot use the leased
asset for any purpose other then the
purpose specified in the lease agreement.
  If no such purpose is not specified
in the agreement, the lessee can use it
for whatever purpose it is use in normal
course.
55

56. Lessee as Ameen:
  The lessee is liable to compensate the
lessor for every harm caused to the leased
asset by his misuse or negligence.
56

57. Rental
  The rental must be determined at
the time of contract for the whole
period of lease.
  It is permissible that different
amount of rent are fixed for different
phases provided that the amount of
rent for each phase is specifically
agreed upon at the time of affecting
a lease.
  The lessor cannot increase the rent
unilaterally and any agreement to
this effect is vied. 57

58. Rental
  A lease contract can have a condition that
the rent shall be increased according to a
specified proportion (e.g. 5%) after a specified
period (like one year).
  The rent or any part thereof may be payable
in advance before the delivery of the asset to
the lessee, but that amount so collected by the
lessor shall remain with him as Amana and shall
be adjusted towards the rent after its being due.
58

59. In Case of Late Payment
  The lessor cannot charge an additional
amount in case the lessee delays payment
of the rent.
  Penalty of late payment is given to
charity by lessee.
59

60. Termination: contractual
  Lease is binding contract.
  It cane be terminated by mutual
consent.
  The lessor may terminate it when the
lessee doesn’t pay the rent or fails to pay
it on time or because of violation of any
other term and condition of the
agreement.
60

61. Termination: contractual
  With total destruction of the leased
asset
  Upon the expiry of term.
  Two parties may terminate it before it
begins to run.
61

62. Procedure of Banking Ijarah
Undertaking to Ijarah

Agency Agreement

Purchase

Payment of Purchase Price

Lease Agreement

63. Finance Lease (Ijarah)
Manufacturer /
Supplier
Customer
Bank
1. Customer
buys the
property as
Bank’s agent.
Cost: $100
2. Execution of
Ijara Agreement
3.
Disbursement
of the Facility.
Facility
Amount: $100
4. Bank
appoints the
Customer as its
agent to buy the
property.
5. Under the Ijara Agreement the Bank will lease the
property immediately.
Lease
Features:
• Floating rate financing
possible
•Can be used for refinancing
Uses:
• Financing Capital
Expenditure
•Financing Big Ticket items
like Aircraft, VLCCs, LNG
Carriers, etc.
Tenor:
•5-7 years
Risks:
•Credit Risk
•Performance Risk
•Cost Overruns
•Ownership Risk

64. Diminishing Musharakah
Diminishing Musharakah
(DM is a type of Shirkah where one
partner purchases the other partner’s
share gradually

65. FEATURES OF DIMINISHING
MUSHARAKAH
IN SHIRKAT-UL-MILK (JOINT OWNERSHIP)
Two partners purchase any asset
(machinery/property) and their intention
is that one or both partners will use
this asset or they rent out their share
and one Shareek undertakes to purchase
the share of other gradually.

66. Diminishing Musharakah in Shirkat
ul Milk – with Ijarah
 A and B invest their capital and
purchase a joint asset e.g. a
house.
 A separate Musharaka agreement
is executed.
 B promises to sell his shares to A
gradually or A promises to buy
B’s shares in the jointly owned
property.
 A and B enjoy their rights as
partners as they share the risks
and rewards in the ratio of their
joint investment.

67. Diminishing Musharakah in Shirkat
ul Milk – with Ijarah
 A uses the asset while he pays
rent to B in proportion of B’s
ownership in the joint property
according to the pre-agreed
benchmark.
 Expenses incidental to ownership
are shared in proportion of
ownership, while expenses
relating to use are borne by A
who uses the property.
 A will keep buying B’s shares
until he acquires the complete
ownership.

68. Diminishing Musharaka
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Customer Bank
----------Time------->
Ownership Transfer

69. Diminishing Musharaka
Monthly Rentals
----------Time------->
Rs

70. Procedure of DM
D M Agreement (Bank +Client)

Undertaking to Ijarah (from the client)

Sale Agreement (Client + owner of the house)

Payment of Purchase Price (to the owner of the house)

Lease Agreement (Bank + client)

71. Diminishing Musharakah
 Bank enters into a participation (Shirkat-ul-Milk) arrangement with the
Customer
 Bank provides the larger share of the purchase price of the vehicle
 Bank rents out its share of the vehicle to the customer
 The customer makes regular scheduled investments to increase its
equity in the property over the life of the transaction
 The monthly/ periodic payments are structured to reflect a portion of
rent and a portion of purchase price i.e. EMI = Rent + Purchase of
Share
 Once the customer has purchased all of the Bank’s share the
ownership will transfer to the customer with free and clear title to the
vehicle

72. Salam & Istisna
72

73. Basic Conditions About the Subject
Matter
There are three basic conditions about the subject
matter for the validity of a sale in Shariah.
 The purchased commodity must be existing
 The seller should have acquired the ownership
of that commodity,
 The commodity must be in the physical or
constructive possession of the seller.
There is one exception to this principle in Shariah
 Salam
 Istisna
73

74. 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 of an
advanced price fully paid at
spot.
 Here the price is cash, but the supply of the
purchased goods is deferred.
 The buyer is called “rabb-us-salam”, the seller
“muslam ilaih”,
 the cash priceis “ra’s-ul-mal” and the purchased
commodity is termed as “muslam fih”,
74

75. FROM WHERE SALAM STARTED
 Before prohibition of interest farmers used to
get interest based loans for growing crops and
harvesting. After prohibition of interest, they
were allowed to do Salam transactions. This
helped them to get money in advance for their
needs.
 During the days of our prophet (SAAWS), the
merchants going with caravans used to get
interest based loans for purchasing the
commodities. After prohibition of interest, they
were allowed to do Salam.
75

76. Benefits of the Salam
 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 the price in spot sales.
76

77. BASIC RULES
77

78. CAPITAL OF SALAM
 The capital of Salam
should be known to all
the parties. Generally it
should be fixed in terms
of cash.
 Purchase price in Salam
must be fully advanced
to the seller at the
commencement of the
contract.
78

79. SPECIFICATION OF COMMODITY
 The commodity (Al-Muslam
fihi) should be known. It
must be monitored by
specifications to the
maximum possible degree,
only negligible variation is
tolerated.
 It must also be ensured
that the commodity is
possible to be delivered
when it is due. 79

80. SPECIFICATION OF COMMODITY
 Only those goods can be sold
through Salam contract in which
the quality and quantity can be
exactly specified. In other words it
can be done only in such items
which can be weighed, measured or
counted.
 Salam can only be carried out in the
items in which variations in
numbers make no difference.
 Salam is not allowed in Sarf transactions
i.e. in gold, silver and currencies.
80

81. DELIVERY CONDITIONS
 Due date of delivery must be
agreed at the commencement of
the contract.
 The place of delivery should also
be known. If it is not known, the
place where the contract took
place shall be considered to be the
place of delivery, unless it is
impracticable. In such a case, the
place of delivery shall be decided
according to customary practices.
81

82. DELIVERY CONDITIONS
 Before delivery, goods will
remain at the risk of seller.
 After delivery, risk will be
transferred to the purchaser.
 Possession of goods can be
physical or constructive.
 Transferring of risk and
authority of use and utilization
/ consumption are the basic
ingredients of constructive
possession. 82

83. PARALLEL SALAM
 The Bank being the purchaser of Salam commodity
can further sell on Parallel Salam in a similar
manner as it has previously purchased on first
Salam without making one contract dependent on
the other.
 There must be two separate and independent
contracts, one where the Bank acts as buyer and
other in which it is a seller.
 The two contracts cannot be tied up and
performance of one should not be contingent on
other.
83

84. AGENCY CONTRACT
 If the bank has no expertise to sell the
commodities received under Salam contract,
then the bank can appoint the customer as its
agent to sell the commodity in the market /
third party, subject to Salam agreement and
Agency agreement are separate from each
other.
 A price must be determined in agency
agreement on which the agent will sell the
commodity but if the price is increased, the
benefit can be given to the agent.
84

85. SECURITY IN SALAM
 Delivery of the commodity can be
secured through a pledge or a
guarantee or any other means of
securing payment.
85

86. Farmer BANK Sold
Commodity for Rs. 110 M
Rs.100 Million
Amount –Spot
Commodity - Deferred
1. Parallel Salam
2. Agency with Farmer/3rd person
3. Prior promise to purchase
4. Murabaha
86

87. Istisna

88. Definition
 Istisna is a sale transaction
where a commodity is
transacted before it is
manufactured.
 It is an order to a manufacturer
to manufacture a specific
commodity for a purchaser.
 The manufacturer uses his own
material to manufacture the
required goods. In Istisna price
must be fixed with consent of all
parties involved.

89. Istisna based financial products
 Financing high technology
industries such as aircraft
industry, locomotive and
ship building industries.
 Working capital and
export financing.
 To finance construction
industry such as
apartment buildings,
hospitals, schools and
universities.
 Housing finance schemes.

90. Difference between Istisna & Salam
ISTISNA
 The subject of Istisna is
always a thing which
needs manufacturing.
 The price in Istisna does
not necessarily need to
be paid in full in advance.
SALAM
 The subject can be any
thing that can be
weighed, counted or
measured except for
heterogeneous things and
those goods whose
exchange may give rise
to Riba al Fadl.
 The price has to be paid
in full in advance.

91. Difference between Istisna & Ijarah
(Ujrah)
Istisna
 The manufacturer uses
his own materials and the
sales price is fixed.
Ijarah / Ujrah
 The manufacturer uses
the material provided by
the buyer and he is paid
the agreed wages.

92. Separate contracts for parallel
Istisna
 A clear Istisna contract
shall be entered into
between the Bank and the
customer, whereby on the
other hand the Bank may
enter into a Parallel Istisna
with the third party
(Contractor), but this
contract shall not be tied
up with the first contract.

93. CONTRACTOR
Istisna of 7.5M
Rs.
7
M
(ISTISNA)
BANK
CUSTOMER
Agency Agreement
To Arrange Contractor
To Monitor the project
Payment to
Constructor as per
schedule
Payment to the bank as per schedule
93

94. BUILDER BANK CONTRACTOR
Rs 100 M
Rs.120 M
Sale of Building
(Flats or Offices)
for Rs.120 M
Plus Profit
Deferred Spot
Receivables assigned
to Bank
94

95. ISLAMIC BANKING MODEL
Current
Deposit
SBP
Operational Expenses
Income/
Loss from
Investment
Income from
non fund
business
POOL OF
FUNDS
PLS
Depositors
Bank
Equity
Reserves
Distributable
Income
Equity
Depositors
PLS
Idle fund
Investment
Current
Deposit

96. Comparison of the Islamic and Conventional
systems
Conventional Banking
 Equation of Banks Failure
Admn Exp + Interest Exp > Total Income + Reserves
 Equation of Banking System Failure
Admn Exp + Interest Exp > Total Income + Reserves + Equity
Islamic Banking
 Equation of Banks Failure
Operational Losses > Reserves + PLS Deposits
 Equation of Banking System Failure
Operational Losses > Reserves + PLS Deposits + Equity
 Operational Losses
Operational Losses = Income (Losses) from Invest ± Admn Exp

97. Contents
 Evolution of Islamic banking in Pakistan
 Quaid-e-Azam – State Bank’s opening ceremony speech on
1 July 1948
 Objectives resolution
 The Constitution of Pakistan
 History of efforts for elimination of Riba from the economy
 First phase of Islamization of financial system
(ZH regime)
 Council of Islamic Ideology report 1980
 SBP Measures – 1980s “interest-free” banking system
 FSC Judgment
 Commissions for Islamization of economy
 Shariah Appellate Bench of Supreme Court (SAB SC)
Judgment December 1999

98. Contents
 The judgment (December 1999)
 High level commission
 Commission for Transformation of Financial System (CTFS)
– First Report October 2000
 CTFS Second Report – May 2001
 New judgment of SAB SC
 Post judgment scenario
 Basic principles
 Post judgment – 2nd phase 2001
 Legal and regulatory framework
 Legal and regulatory framework
 Legal and regulatory framework for Islamic banks
 Governing and enabling laws
 SBP circulars – Islamic banking department

99. Contents
 Shariah compliance mechanism
 SBP Shariah board
 SBP Shariah board’s role and responsibilities
 Report of Shariah Advisor
 Conflict Resolution in Shariah Rulings
 Shariah compliant modes of banking and finance – essentials
 Essentials of Islamic modes of financing
 Use of charity fund
 Introduction of new products and services
 Shariah inspections
 Shariah compliance framework
 Shariah compliance
 Internal Shariah audit
 Policy for profit distribution with PLS depositors