FINANCIAL TRANSACTIONS

The main types of transaction used in Islamic finance are partnershipbased profit-sharing agreements, sales-based agreements and lease agreements.

• Profit-sharing agreements traditionally occur between a lender and an entrepreneur.

In a joint partnership, or “musharakah”, the bank will help to finance a company through establishing a joint venture. The bank’s return on the loan for the venture is an agreed percentage of the company’s profits. This is similar to a conventional simple venture capital deal, where the financier that provides start-up capital becomes a joint shareholder.

• Another type of agreement is trust financing, or “mudarabah”, whereby one party provides expertise and managerial skills, and financing is fully provided by the other party. Profit is shared according to an agreed ratio, but the risk of loss lies with the provider of the capital. This can work for financing or for investing.

• A common sales-based transaction is “murabahah”. Instead of lending money for an item, the bank buys the item and sells it to the buyer at a higher price, allowing the buyer to pay it back in instalments. Ownership transfers on the conclusion of the sale.

In some cases, the item is registered in the buyer’s name from the start of the transaction; in others, registration in the buyer’s name is delayed until the last repayment has been made.

• In a lease-based agreement, known as “ijarah”, the bank buys the asset and leases it to the lessee for a fixed term. The rate at which the asset is leased may be fixed or it may fluctuate if linked to a defined benchmark. Depending on the agreement, the bank may retain ownership of the asset at the end of the term or transfer ownership to the lessee.