More than a couple of times on different occasions I have mentioned in this series that, unlike in conventional banking and finance, one size does not fit all in Islamic banking and finance.
This is the reason that, apart from the solitary practice of lending on interest, conventional banking cannot offer the variety of underlying structures that Islamic finance presents. That is, to match a given customer requirement with an appropriate Shariah structure. Hence, it will be correct to state that Islamic finance solutions go hand in hand with what the client needs, rather than imposing something which may be quite irrelevant or unrealistic to the client’s monetary requirement.
It took us 63 IFN articles to reach the stage where we are now discussing the fourth sales contract in Shariah such as Ijarah or leasing, and let us not forget that we have yet to cover the three investment contracts, viz. Mudarabah, Musharakah and Wakalah, followed by various hybrid structures, combining two or more sales and investment contracts. And then, there will be deep discussion on the risk profile of each contract and the mitigation techniques available from within the structure, instead of relying on outside elements for managing the risk. Does not all of this signifies the substance and profundity the Islamic financial system holds?
Moreover, the most important thing is that the underlying principles and mechanism of each contract has withstood the test of time several times over during the last 14 centuries, the latest during the global financial crisis of 2008/09.
What baffles me the most, in this age of information explosion and technological advancement turning the earth into a global village, is why with the readiness of the Islamic financial system, the monetarist gurus controlling the world’s financial centers continue to chase the mirage of conventional finance without paying any attention to the resilience of Islamic finance? Could it be a deliberate act or an innocent miss? I leave it for you to muse.
Well, pursuant to explaining the concept of leasing in the last article, I shall today dwell on the importance of a leasing contract in the present day and age compared to the olden days when the world’s population was small and the availability of land was vast and there were no land departments to register the land and property. In such a scenario, who would like to rent a house, farm or a shop when it was cheaper to build one’s own such premises at any place deemed appropriate?
History tells us that land registration actually started precisely 1½ centuries ago when in 1862 the first such office started functioning in London. At the time, it was felt there was a need to introduce a system by which matters concerning the ownership, possession or inheritance rights in land and property could be recorded with the government in order to protect the owners, facilitate sales and purchase transactions and avert unauthorized disposal. The UK refined the system through the Land Registration Act 1925 which is more or less still intact, albeit with minor changes to catch up with technology.
As the British Empire expanded far and wide, the other jurisdictions under its control were also brought in line with the land registry regulations. The benefits emanating from such controls, including the revenue from the registration fee, convinced the other non-British governments to also adopt the system and now every country in the world has some or other form of land registry department. The other responsibilities added to the land department were registration of mortgages and leases (tenancy contracts).
In this backdrop, the completeness of Islamic finance is evidenced from the fact that whereas the trading of goods, commodities and assets, which were the need of the hour in 7th century AD, was perfected by way of Murabahah, Salam and Istisnah, at the same time the do’s and don’ts on Ijarah or leasing were also finalized, albeit there was hardly any need for it at that time.
One wonders why? And the answer is, the Islamic financing principles are ‘cast in stone’ and equally relevant for all ages — until Doomsday. A renowned Shariah scholar quipped: “Markets change, principles don’t.” Can anyone imagine today’s world without the function of leasing?
So, how do Islamic banks carry out leasing transactions and earn a profit out of them for their depositors and shareholders? We briefly touched upon the subject in the last article but going forward will have a deeper look into it. An Ijarah contract is used by Islamic banks to develop an array of products. Take, for example, the function of home financing. Here, a retail customer submits an application to buy a certain property which may be readily available or under construction. In the case where the property is readily available, the Islamic bank shall purchase the property in its own name, of course pursuant to the bank’s satisfactory due diligence on the customer. Once the property is purchased, the Islamic bank shall lease it to the customer on the financial lease basis. This is in contrast to a conventional bank’s system which does not purchase the property in its own name but simply extends an interest-bearing loan to the customer who utilizes the loan proceeds to purchase the property in the customer’s name and mortgages it to the bank as security. What is financial lease? This will be discussed in the next article.
The views and opinions expressed in this article are those of the author and do not necessarily reflect the opinions of the Dubai Islamic Economy Development Centre, nor the official policy or position of the government of the UAE or any of its entities. The purpose of this article is not to hurt any religious sentiments either consciously or even unwittingly.
Sohail Zubairi is the projects advisor with the Dubai Islamic Economy Development Centre. He can be contacted at [email protected].
Next week: Discussion on financial lease and other aspects of Ijarah.