2. IJARAH & ISSUES RELATEED TO IJARAH – DM & ISSUES RELATED TO DM By: Abdul Samad AlHuda Centre of Islamic Banking & Economics (CIBE)

3. What is Ijarah? Transferring of usufruct of an asset to another person for an agreed period, at an agreed consideration.

4. Basic Rules of Ijarah Anything, which cannot be used without consuming, cannot be leased out. e.g. Money, wheat etc. Leasing is not originally a mode of financing but it is a sale transaction. So all basic elements of lawful sale transaction must be present. It is necessary for valid lease that the leased asset is fully identified by the parties.

5. Basic Rules of Ijarah 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.

6. Liabilities of Parties Lessor’s 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.

7. 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.

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

9. 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.

10. 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.

11. 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.

12. Insurance of the Assets Legally, it is required for all leasing companies to insure the leased asset. Presently IMFI insure its leased assets. However our BoK Ijara policy clearly stated that BoK will use Conventional Insurance as long as Takaful is not available.

13. Termination : contractual Lease is binding contract. It can 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. Ø With total destruction of the leased asset Upon the expiry of term. Two parties may terminate it before it begins to run.

14. Difference Between Murabaha and Ijarah

15. Procedure of IMFI Ijarah Undertaking to Ijarah  Agency Agreement Purchase Payment of Purchase Price  Lease Agreement

16. Expenses Related To Ownership Issue In certain transaction of Ijarah, all expenses related to the ownership is borne by the customer. Solution All expenses other than expense related to normal wear and tear of the Ijarah asset should be borne by the IMFI and may be included into the list price of Ijarah assets.

17. Recovery of Rental Issue The IMFI start recovering the rental as soon as he disburses the amount to the supplier and before actually receiving the Ijarah asset by the customer. Solution The IMFI should recover rentals only after the delivery of vehicle. It is an unanimous opinion of all the Sharaih Scholars that it is not allowed to recover rentals before delivery.

18. Increase in Price of Ijarah Asset Issue When the price increases before Ijarah Agreement, customer pays the short fall without getting joint ownership. Solution In all such cases, IMFI should give the proportionate owner in the Ijarah asset.

19. Covering Risks Under Takaful Issue In Ijarah risks of the leased assets should be covered under Takaful arrangement rather than under conventional insurance policies. Solution As an Islamic financial Institution, the IMFI should obtain Takaful for its leased assets under Ijarah.

20. Proportionate Takaful Issue Incase of combined ownership model, customer solely pays the cost of Takaful. Solution Takaful cost should be borne by the partners in proportionate to their interest in the asset and not be solely borne by the customer.

21. Sale and Lease Back Issue We have noted that IMFI enter into the sale and lease back transaction for just fulfilling the liquidity requirement of the client. Solution 1. For just liquidity requirement this transaction should not be allowed. 2. Therefore, IMFI should consult Shariah Advisor in every case. 3. This transaction should be allowed only for paying conventional debts.

22. Sale and Lease Back Issue The sale and lease back transaction without signing proper sale agreement with the customer before the execution of Ijarah agreement. Solution The IMFI should execute the proper sale agreement with the customer before entering into lease agreement. Otherwise the transaction becomes questionable in the eyes of Shariah.

23. Sale and Lease Back Issue The IMFI executes the sale agreement with the customer and makes payment to other conventional IMFI which makes Islamic finance doubtful in the eyes of public. Solution The IMFI should make a payment to the party with home it executes sale agreement.

24. Diminishing Musharakah

25. It is a form of partnership in which one of the partners promises to buy the equity share of the other partner gradually until the title to the equity is completed transferred to him. According to this concept a financer and his client participate either in a joint property or an equipment or in joint commercial enterprises.

26. 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.

27. Rules of Diminishing Musharakah in Shirkat-ul-Milk (Joint Ownership) 1. There will be an agreement of Shirkat ul Milk and it will be decided How much investment will be made by each partner? 2. Asset will be purchased and all partners will be owner of this asset as per ratio of his investment and all other rules of Shirkat-ul- Milk will be applicable.

28. Rules of Diminishing Musharakah in Shirkat-ul-Milk (Joint Ownership) 3. One Shareek can rent out his share to other partner or to a third party and Ijarah Agreement will be signed. 4. Within period of Ijarah, Shariah Ahkaam relating to Ijarah will be applicable.

29. Uses of Diminishing Musharakah in IMFI Diminishing Musharakah usually being used in House Financing for these purposes: Purchase of House Construction of House Renovation of House

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

31. Procedure of Sale and Lease Back D M Agreement (IMFI +Client)  Undertaking to Ijarah (from the client)  Sale Agreement (IMFI + client)  Payment of Purchase Price (to the client)  Lease Agreement (IMFI + client)

32. Value of Units at Face Value Value of Units at Face Value Issue In case of Diminishing Musharakah IMFI agrees to sell the units to the client at face value. Solution It is preferred that in all such transactions valuation should be done either on market value or any value agreed at the time of sale of unit.

33. Covering Risks Under Takaful Issue In DM risks of the leased assets should be covered under Takaful arrangement rather than under conventional insurance policies. Solution As an Islamic financial Institution, the MFI should obtain Takaful for its assets under DM.

34. Proportionate Takaful Issue Incase of combined ownership model, customer solely pays the cost of Takaful. Solution Takaful cost should be borne by the partners in proportionate to their interest in the asset and not be solely borne by the customer.

35. Repair & Maintenance Issue In certain cases repair and maintenance cost is borne by the customer. Solution The IMFI should pay the charges of maintenance as per his share in DM assts.

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