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ISLAMIC FINANCIAL COOPERATIVES


“A credit union is a particular form of cooperative bank. Specifically, a credit union is a not-for-profit cooperative financial institution that is owned and controlled by its members and operated for the purpose of promoting thrift, providing credit at reasonable rates, and providing other financial services to its members.” (Al-Muharrami and Hardy, 2013)


A credit union is, thus, a financial cooperative that may accept savings, deposits, provide credit and other financial services to its members.

 

Islamic financial cooperatives (IFCs) are very similar to non-Islamic cooperatives. The basic difference is that conventional cooperatives/credit unions use lending on interest as their major financing tool to suit the requirements of various clients while IFCs cannot use lending on interest as a financing device and they have to find out other Shari’ah compliant modes of financing. IFCs mobilize funds from its members/shareholders and supply these funds to them using the various financial instruments compatible with Shari’ah. Some of the financing techniques that can be used by IFCs are as follows: Murabahah (cost-plus-profit financing), Ijarah (leasing), Istisnah (construction finance), Salam (forward purchase of commodities), Mudarabah (passive partnership), Musharakah (joint venture) and Qard-ul-Hasanah (interest-free loan).


The following table summarizes how these IFCs combine Islamic and credit union principles:


Islamic Principles

Islamic Financial Cooperative Principles

Prohibition of interest-based transactions.

Emphasize a member's investment by offering an opportunity to purchase shares. Loans are made as financial contracts between borrowers and the cooperative.

Profit and loss sharing.

Establish member-ownership through the purchase of share savings. Share profits among members as dividends

Transactions must be backed by assets rather than financial speculation. Financial contracts must detail the specific product/service being bought or sold.

Provide loans by purchasing a physical asset and either (i) leasing it to the member (ijarah), or (ii) transferring ownership to the member who pays a mark-up (murabahah).

Prohibition of financing activities considered harmful to society.

Lend only to Shari’ah-compliant businesses.

Source: WOCCU, cited in Al-Muharrami and Hardy, 2013

 

 

 

ISLAMIC FINANCIAL PRODUCTS


Al Barakah MCSL offers financing through the Islamic instruments of Murabahah and Istisna and Qard Hasan (Interest-free loan) is used for medical and educational purposes only.  We also engage in Mudarabah and Musharakah contracts (partnership) with our members. The Islamic financial instruments we use are explained below.

 

 

MURABAHAH


Murabahah is one of the most commonly used modes of financing by Islamic financial institutions. It is a particular type of sale between the Islamic financial institutions and its client for the sale of goods at a price which includes a profit margin agreed by both parties. Thus, Murabahah is not a loan given on interest but, it is a sale of a commodity for cash/deferred price.


Al Barakah, upon request of its members, purchases goods required by the members. The goods are then sold to the members with a profit margin and repayments are made in monthly instalments over a period of time pre-agreed by both parties.

 

 

ISTISNA’


Istisna is a contract of sale of specified assets or items to be manufactured or constructed before delivery is possible. In this contract, the seller delivers to the purchaser an asset or item as per the specifications given by the purchaser on an agreed future date with the permissibility that the seller may manufacture the asset by itself or by a third party. In Istisna’, the price must be fixed with consent of all parties involved and all necessary specifications of the commodity must be clearly established. It is an obligation on the manufacturer to deliver the goods on completion according to the buyer's specifications.


Under the Istisna’ financing facility, Al Barakah will finance members who wish to acquire assets which need to be manufactured from a supplier/(s) of their choice and who wish to defer payment for the asset by paying in installments. Al Barakah commonly adopts the Istisna’a instrument to provide financing for construction (renovation, expansion or new buildings), or manufacturing of household or office goods and furnishings. Al Barakah make payments to the supplier in phases commensurate with the progress in the manufacturing/construction schedule.

 

 

QARD


Qard is an interest-free loan extended on goodwill basis, mainly for welfare purposes. The borrower is only obligated to repay back the principal amount of the loan. Islam allows loan as a form of social service among the rich to help the poor and those who are in need of financial assistance. A debtor may voluntarily choose to pay an extra amount to the lender/creditor over the principal amount borrowed (without promising it) as a token of appreciation. Qard was the primary source of financing introduced by the Prophet (PBUH) after entering Medina and was used primarily for productive economic purposes, such as setting up qualified, but poor, people in trade and agriculture.


Al Barakah allocates 5% of its share capital to provide Qard to its members for medical and educational purposes only.

 

 

 

PARTNERSHIP CONTRACTS


MUDARABAH


It is a type of business partnership contract where one partner brings capital, in cash or assets, and the other partner provides his labour and personal efforts to undertake a business enterprise, as manager or entrepreneur. The fund provider is called “Rab-ul-Maal” and the entrepreneur is known as ‘Mudarib’. Both parties can appoint an agent (wakeel) to act on their behalf. The profits generated are shared between the partners in a predetermined ratio, while any loss is borne only by the investing partner(s) alone. For the Mudarib, the loss is the share of the expected income for the efforts put into the business activity.


As a financing mode, Al Barakah provides capital to a member/(s) for a business activity (which should be Shari’ah-compliant and feasible) while the member/(s) provides his expertise, labor and management. Profits are then shared between Al Barakah and the member/(s) according to a pre-agreed ratio. Financial losses are borne solely by Al Barakah unless the losses are due to the member’s misconduct, negligence or breach of the terms of the Agreement. Al Barakah, as capital provider, has the right to specify any such conditions which would ensure better management of the capital invested.


Glossary

Mudarib: Working Partner (provides labour)

Ras-ul-Maal: Investment

Rab-al-Maal: Investor (provides capital)

Wakeel: Agent

 

 

MUSHARAKAH


In Islamic jurisprudence, Musharakah is used to refer to a contract of partnership in which two or more partners provide capital and profits are shared according to a pre-determined ratio while losses are shared in proportion to the capital contributed (money invested by each partner). The contract of Musharakah is similar to Mudarabah; however, the difference is that in a Musharakah agreement, all the partners contribute to capital and share both profits and losses. Also, in a Musharakah arrangement, all partners have the right, but not the obligation to participate in management of the business.


Thus, in a Musharakah agreement, both Al Barakah and the member/(s) will contribute to raise capital required for the project and both are entitled to share in the resulting profit on a pre-agreed ratio and share losses in accordance with their capital contributions.

 

 


 

 

 
 

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O ye who believe! Fear Allah, and give up what remains of your demand for usury, if ye are indeed believers.

If ye do it not take notice of war from Allah and his Apostle: but if ye turn back ye shall have your capital sums; deal not unjustly and ye shall not be dealt with unjustly.

Quran [2:278-279]