Murabaha is one of the Islamic Finance modes and it is very popular worldwide nowadays. Murabaha; sometimes referred to as “Murabahah” is also known as “corporate asset support”. The concept of murabaha can be summed up as; “Bank finances the needed purchase, buys it, and resells it with a mark – up”. murabaha financing means, “cost plus financing”.
Murabaha is an Islamic finance instrument which of course does not include interest (usury – riba) in it. The philosophy laying in the roots of murabaha financing is to supply a needed service, good or commercial right. Bank; Islamic bank in this situation, buys that needed property or service in advance with cash money than resells it to the client with an added profit as deferred payment base.
At first glance, murabaha transaction appears like just another term for conventional interest loans; however, it is not. It has a different philosophy, different rules and application. It would be important to note that murabaha transactions are also approved to be halal by many Muslim scholars.
– Features of Murabaha –
1-) What makes murabaha transactions halal is that the bank or whatever the finance instutition obtains the real ownership of good or service and it undertakes a certain amount of risk during the process between purchase and sale. “Real ownership” and “existence of risk” are keywords here; they are what makes any transaction legitimate in Islam, halal.
2-) In murabaha transactions, banks must be financing a real economic activity, in other words, financial sources must be transferred to a real production process or commercial process.
3-) Before the customer starts paying for that good or service, Islamic bank must be holding 100 percent ownership of that good or service. At this point, Islamic bank also holds all the responsibility for that good or service too. After all the payments are done; the ownership and responsibility passes the customer.
4-) Before the transaction takes place, all the features of good, property or service that is the subject of murabaha transaction must be specified by both parties; the quality, quantity, amount, price, cost, how much the bank will pay for and for much it resells, payment period etc. So that, there will be no conflicts in future and everything would be clear for both parties.
5-) If you go to a conventional bank, they will simply lend you an amount of money to buy a good or service and they are not interested in how and where the loan is used; they are just interested in securing the return of loan. For example, you can get a loan to buy a house and you can spend it to buy illegal goods because there are not enough control mechanisms. When it comes to murabaha, Islamic bank handles all the process by own, carries out all the responsibilities, secures everything and gets the job done.
– An Example of Murabaha Application –
Suppose that Ahmad Rashid lives in Kuala Lumpur, Malaysia. He is working for an engineering company and makes 5,000 USD a month. He wants to buy a house which has a market value of 100,000 USD but He doesn’t have enough money, so He has to wait. Instead, He goes to an Islamic bank and asks them to buy that house for him.
Bank makes consultation and tell him that they can sell that house to him for 110,000 USD; payment period is 50 months, 2000 USD per month. He agrees; they sign a contract.
Islamic bank buys that house for 100,000 USD from the initial owner and buys it for cash; customer starts to live in that house and starts making payments; each month he got 2% of ownership. First month; banks has 98%, customer has 2%; second month bank has 96%, customer has 4%; and it goes on.
After all payments are done; the customer gets 100 percent of ownership. That house is all of him.
So, He has the advantage of earlier use of that house and Islamic bank makes money. It seems like a legit win-win situation for both parties.
In this matter, Murabaha is not much different from a company that buys a good from a wholesale retailer for 100 USD and resells it for 120 USD; it is the same cost-plus financing.