Today I will finally explain to readers what happens if a property leased under the Ijarah agreement gets destroyed — partially or fully — irrespective of whether it was under the operating or financial lease.

I will not again go into the details of what happens in the conventional banking landscape when such destruction to the relevant asset takes place, either in terms of a home mortgage loan or under the conventional financial lease. It should suffice to say that there is no impact of asset destruction on the running mortgage-based term loan or the financial lease.

So far, it should be clear to readers that when an Islamic bank allows an Ijarah facility to a customer, it is actually leasing a fully-owned unencumbered asset (immovable or movable) or a real estate property (freehold or leasehold) to the customer in the capacity of owner or lessor.

So, let us move forward from this point. Assume the Ijarah financing extended by an Islamic bank to a customer for a real estate property is in the middle of its agreed tenure of 10 years. The property catches fire due to some reason and is partially damaged. The following is the Shariah position on how to deal with such a situation (read lessor as Islamic bank wherever appears):
a. If the partial damage to the property was not caused due to any negligence by the lessee, the lessor shall undertake the full repair of the damaged part of the leased property so as to restore it to the original working condition.
b. The report from the civil defense department of the area where the fire took place shall determine the cause of the fire based on which it will be easier to know if the lessee was negligent or not.
c. If the lessee was not negligent, it has the right to demand the cessation of the full lease rent during the repair period since it is unable to enjoy the whole property in the agreed full working condition. However, the lessee may continue to pay the rent in full or in part voluntarily during the repair period.
d. If such a demand is made by the lessee, the lessor may negotiate with the lessee over a partial relief to the extent that the lessee is deprived of enjoying the property fully. For example, if the property has four rooms, one of which has been gutted by the fire along with some areas facing the room, the lessor may offer to reduce the rent in proportion to the damage. As such, if the monthly rent is US$10,000 and the damage to the property is calculated at 25%, the lessor may provide relief to the lessee by US$2,500 in payment of the monthly rent during the course of the repair period.
e. However, if the civil defense report declares that the fire occurred due to the lessee’s negligence, the Shariah principles require that the lessee must foot the bill for the entire repair job toward restoring the leased property to its original working condition.
f. In addition, the lessor shall have the right to demand from the lessee to continue to pay the lease rent in full during the course of the repair period. However, the lessor may voluntarily reduce the rent altogether or in proportion to the damage.
g. In contemporary Ijarah financing, the scholars have permitted to mitigate the risk of damage through the purchase of Takaful cover. Therefore, if the lessor has claimed the amount from a Takaful company, it may reimburse the amount spent by the lessee in repairing the damage caused by the lessee either in part or in full. The lessee can also secure Takaful cover to protect its own interest so that in case of the lessee’s negligence, it can recover the cost of repair through the Takaful policy.

What happens in Islamic finance if the property is completely destroyed? The following is the Shariah guidance in absolute clarity:
1. The lease agreement to the property which got destroyed shall terminate forthwith. It means that the lessee shall not be liable to pay the lease rent to the lessor even for a single day from the date of destruction. The question arises as to why? The Shariah reasoning is simple and straightforward. The lessee was liable to pay the lease rent since it was enjoying the full use of the property. Now that the property is no more, no payment should be made by the lessee to the lessor on account of the lease rent.
2. The lessor shall lodge the Takaful claim and follow up for payment upon the receipt of which, it shall compare the paid amount with the outstanding investment amount related to the damaged property in its books. If the amount paid by the Takaful company is found to be less than the outstanding investment amount, the lessor shall claim the shortfall from the lessee subject to it being found that the property was damaged due to the lessee’s negligence.
3. If the lessee is not found to be responsible for the damage, the lessor shall bear the shortfall and nothing shall be claimed from the lessee.
4. However, if the Takaful payment is in excess of the book value of the destroyed asset, the lessor shall be fully entitled to retain the same since it held the title to the damaged property.

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 senior advisor with the Dubai Islamic Economy Development Centre. He can be contacted at [email protected]

Next week: The final few points on Ijarah to be explained from the next article.