University utara malaysia

Forward sales: Salam and Istisna`a

BWFS 3093 SEMINAR IN ISLAMIC FINANCE AND BANKING

MUHD NURFIRWAN BIN ISMAIL (205439)

MOHD SYAHMIE SYAWAL BAKRI (205657)

AHMAD MUSTAQIM MAHASAN (207192)

GROUP MEMBER

Bai’ Salam/Salaf

INTRODUCTION

This contract is crucial during the time of prophet hood and at the time where agricultural sector become outstanding and supreme.

The wisdom of making salam permissible lies in the fact that salam facilitates a types of financing for people in need of it.

Literally Salam means giving (ita ), advance (taslif) and leaving

Technically: Sale contract over prescribed commodity sold as a deferred liability on one party, in exchange for a price that is received during the contract session

Maliki defined it as a sale in which capital sum (price) is paid in advance and the object of sale is deferred to a specified term.

AAOIFI defined salam as the purchase of commodity

for deferred delivery in exchange for immediate payment.

DEFINITION

Bay’ as-Salam or Salam means a contract in which advance cash payment is made for goods to be delivered later on.

The seller undertakes to supply some specific goods to the buyer at a future date in exchange of an advance price fully paid at the time of contract.

DEFINITION

PILLARS OF AL-SALAM

Rabb as-salam/ Musallim The Buyer

Muslam Ilaihi The Seller

Ra’s al-Mal The Price

Al-Musallim Fih The Product

Sighah Ijab (Offer) Qabul (Acceptance)

FLOWS OF BAY’ AL-SALAM

Ra’s al-Mal (Price)

Muslam Ilaihi (Seller)

Musalllim Fih

(Product)

Rabb as-salam/ Musallim

(Buyer)

1) Ijab (Offer)

2) Qabul (Acceptance)

3)

4)

Provide the financing for small and medium enterprises

The economic reality underlying the contract of Salam, the ordering of goods to be delivered later for a price paid in advance, was the financing of the business of a small trader or artisan by his customers.

Benefits the trader or producer

Provides Islamically accepted financing alternative and avoids any involvement in riba

The seller gets in advance the money he needs in exchange of obligation to deliver the commodity later. Thus, he benefits from the Salam sale by covering his cash/liquidity needs in respect of personal expenses or for productive or trading activity

THE OBJECTIVES OF BAY’ AL-SALAM

CONT..

Benefits the purchaser

Provides goods and products at a discounted price in return for the willingness of the purchaser to help the financing of the business venture.

The purchaser gets the commodity he has planned to trade at the time he decides. He will also benefit from cheap prices, because usually the Salam price is cheaper than the cash market price. This way he will also be secured against fluctuations of price.

Conditions related to the price (ra’s al-mal)

The price must be clearly determined and paid in full by the buyer at the time of undertaking the sale to avoid later dispute

The seller must take possession of the price in full before departing one another; otherwise it will be similar to the sale of debt for a debt which is prohibited.

Maliki jurist allowed it to be paid within few days as long as it is not stipulated as conditions.

If the price is ribawi item, it is not allowed to be exchanged for another ribawi item to avoid riba. Eg: wheat with barley.

Cash payment is not necessary in Salam; the price can be credited to the seller’s account.

Feature of a Valid Salam Contract

Conditions related to the purchased commodity (mussalam fih)

Salam can be effected on commodity whose quality and quantity can be clearly specified; commodities which quality and quantity cannot be specified cannot be sold through salam.

The commodity must be vastly available in the market at the time of contract until the time of delivery, to ensure the capability of the trader to deliver the product.

The quantity, weight and measure of the commodity must be agreed upon in equivocal terms.

Conditions related to the date and place of delivery

The exact date and place of delivery must be specified in the contract

Scholars differ on the shortest duration of time of delivery either 3 days, more than half a day thirty days or up to the contracting parties to decide.

Cont..

Khiyar (option) in salam

After taking delivery, the purchaser has the “option of defect” (Khiyar-e-Aib). Not “option of seeing” (Khiyar-e-ruyat)

Revoking the Salam contract

After execution of Salam agreement, it cannot be revoked unilaterally without mutual consent of both parties.

Penalty for non performance

Seller can undertake in the Salam agreement that in case of late delivery of Salam goods, he shall pay to the charity account maintained by the bank a sum calculated on the basis of….% per annum for each day of default, bank will spend this amount in charity purpose on behalf of the client.

This undertaking is infact a sort of self-imposed penalty to keep oneself away from default.

Cont..

Salam in currencies

The majority of jurists do not allow Salam in gold, silver, currencies or monetary units, although a few jurists have allowed it and, as such, a few Islamic banks have been using Salam in currencies as an alternative to bill discounting.

Gold, silver and other metallic money like Fulus of copper or other metals can be used for some purposes other than for making payments; hence, they can be traded keeping in mind the Sharıah principles. However, paper money can be used only in payment of a price, it cannot serve as a commodity to be sold

Cont..

Security

A security in the form of a guarantee, mortgage or hypothecation may be required for a Salam in order to ensure that the seller shall deliver the commodity on the agreed date. In the case of default in delivery, the guarantor may be asked to deliver the same commodity and if there is a mortgage, the buyer can sell the mortgaged property and the sale proceeds can be used either to realize the required commodity by purchasing it from the market or to recover the price advanced by him.

Pledge

the bank, in the event of the seller’s default, has the right to sell out the pledge and purchase the stipulated goods from the market in collaboration with the customer or take away his advance payment out of the sale proceeds and return the balance to the owner. If the bank gets its money back, it cannot be more than the price paid in advance, as the advance price is like a debt outstanding on the seller.

Security, Pledge and Liability of the Sureties

First, the Salam buyer cannot sell the commodity onward before taking its delivery.

The seller cannot resell an item, even at cost, cannot contract its transference and cannot make it partnership capital.

It seems logical to take into consideration the opinion of those who uphold the legality of reselling Salam before taking possession, since there is no genuine text to prohibit that and as a result the ideas of parallel Salam and Sukuk, or certificates based on Salam.

To be on the safer side, we may not allow actual or constructive delivery of the Salam goods before taking possession.

DISPOSING OF THE GOODS PURCHASED ON SALAM

The options available to Islamic banks are:

i. Enter into a Parallel Salam contract.

ii. an agency contract with any third party or with the customer (seller); and/or

iii. sale in the open market by the bank itself by entering into a promise with any third party or direct selling upon taking delivery.

Alternatives for Marketing Salam Goods

Salam Financing Working Capital

Parallel salam

Supply of Goods as Per Contract.

Failure in Supply of Goods.

1. To wait until the commodity is available;

2. To cancel the contract and recover the paid price;

3. To agree to a replacement with mutual consent and subject to the relevant rules.

Supply of Inferior Goods.

SALAM – POST EXECUTION SCENARIOS

Salam certificates representing a sort of forward contract can be issued against the future delivery of a commodity, product/ service.

For example, a country that produces oil may want to expand its refining facilities.

The Salam purchaser can choose to hold onto the Salam contract and receive the shipment on the designated date,

Or he may elect to sell the goods involved in the contract through parallel Salam before the date of delivery, at whatever possible market price, to another investor.

SALAM-BASED SECURITIZATION – SALAM CERTIFICATES/SUKUK

SUMMARY OF SALAM RULES

The Difference between Salam and Murabaha

SALAM AS A FINANCING TECHNIQUE BY BANKS

Salam Murabaha

In Salam, delivery of the purchasedgoods is deferred; the price is paid onthe spot.

In Murabaha, the purchased goods aredelivered on the spot; the price maybe either on the spot or deferred.

In Salam, the price has to be paid infull in advance.

In Murabaha, the price may be on thespot or deferred.

Salam is not executed in the particularcommodity but the commodity isspecified by specifications.

Murabaha is executed in particularcommodities.

Salam cannot be executed in respectof things which must be delivered onthe spot, e.g. Salam between wheatand barley.

Murabaha can be executed in thosethings

Risks in Salam and their Management

Cont..

Istisna`a

DEFINITION

EVIDENCE

PILLARS OF AL-ISTISNA’

TYPES OF AL-ISTISNA’

CONDITION OF AL-ISTISNA’

DIFFERENCES BETWEEN AL-ISTISNA’ AND BAY’

AL SALAM

MODERN APPLICATION

CONTENT

Literally:

The word istisna’ derived from the Arabic verb “istasna’a” which is mean to request someone to manufacture an asset.

Technically:

Bay’ al-istisna’ is defined as a contractual agreement with manufacturer to produce items with specified description at a determined price, and manufactured from his own materials with his own effort.

DEFINITION

According to jurist, the legality on an istisna’ contract is established from different legal sources such as the Sunnah, ijma’, qiyas and istihsan.

There is no differences of opinion on its permissibility. It clearly can be seen from hadith:

Indeed that the Prophet s.a.w booked the making of a golden ring

The istisna’ contract is legitimate on the basis of the people’s customary practice of this contract in all periods of time without any objection, which in turn constitutes a legal consensus.

EVIDENCE

Mustasni’

Customer

Sani’

Manufacturer

Ra’s al-Mal

The Price

Masnu’

The Product

Sighah

Ijab (Offer)

Qabul (Acceptance)

PILLARS OF ISTISNA’

Classical Istisna’

The normal istisna’contract that involves two transacting parties; the customer (mustasni’) and the manufacturer (sani’)

Parallel Istisna’

Contractual agreement consists of two series of separate istisna’ contracts whereby the first istisna’ contract is between the ultimate purchaser (customer) and the seller (bank), who is responsible for delivering the specified asset to the purchaser.

TYPES OF ISTISNA’ CONTRACT

Conditions of subject matters (product @ masnu’)

The object to be manufactured must be precisely determined in its type, kind, quantity and quality, considering that istisna’ contract is a form of sale of the non-existence.

The object of an istisna’ contract must be something that the people are familiar with to contract it on the basis of manufacture and construction process.

•If the subject matter does not conform to the contractual specifications at the time of delivery, the purchaser has the right to either refuse or accept it.

CONDITION OF ISTISNA’

Conditions of time of delivery

The best view to fix the delivery time to avoid dispute even though it is not a requirement.

The time of delivery of the manufactured object must be clearly specified to avoid uncertainty and ambiguity which may lead to a later dispute among the transacting parties.

The customer permitted to penalize the manufacturer if the latter fails to deliver the work on specified date.

Cont..

Conditions of price for istisna’

Price of istisna may be in the form of money, commodity and usufruct.

Price of istisna may be spot and differed therefore istisna is applicable where Salam is not applicable.

Price of istisna is can be paid in installments.

The installments may be tied up with different stages of projects.

Cont..

DIFFERENCES BETWEEN AL-ISTISNA’ AND SALAM

BAY AL-ISTISNA’ BAY’ AL-SALAM

The subject of istisna’ is always a thing which needs manufacturing.

The subject can be anything, whether needmanufacturing or not

Time of delivery of istisna’ product does not have to be fixed

Time of delivery is an essential part of the sale

The contract can be cancelled before the manufacturer starts working.

The contract cannot be cancelled unilaterally.

Any penalty for charged late delivery can reduce the price of an Istisna contract

The penalty amount is paid to charity (not taken as benefit for the buyer).

Total payment is paid in advanced. (It is necessary for Salam that the price is paid in full in advance, while it is not necessary in Istisna) (salam)

Total payment can be done upfront or at the end or by installment. (istisna)

Commodity-agricultural products, fungible or generic goods. E.g. Paddy rice, wheat, corn

Commodity-construction or manufacturing products i.e. it is unique goods. E.g. Buildings, set of table, car, gate etc.

DIFFERENCES BETWEEN AL-ISTISNA’ AND SALAM

ISTISNA

The manufacturer either uses his own material.

IJARAH

The material is provided by the customer and the manufacturer uses only his labor and skill.

Difference between Istisna’ & Ijarah

In contemporary Islamic finance, an istisna’ contract is applicable to various industrial productions which can be constructed or manufactured and supervised by specification.

Customers are able to apply for the istisna’ financing facility and other product offered by Islamic bank using istisna’ contract such as:

Parallel istisna’ (Istisna’ Mawazi)

Hybrid Istisna’

Sukuk istisna’

MODERN APPLICATIONS

PARALLEL ISTISNA’ (ISTISNA’ MAWAZI)

Bank

Original Seller/ Developer (Builder)

CustomerAlso as developer

2

4

1

3

Parallel salam takes effect through two separate contract.

In the first contract the IFI act in the capacity as manufacturer, builder or supplier and concludes a contract with the customer.

In the second contract the IFI act in the capacity of a purchaser and concludes another contract with a manufacturer, builder or supplier in order to fulfill its contractual obligations towards the customer in the first contract.

By this process a profit is realized through the difference in price between the two contracts and in most cases, one of the contract is concluded immediately and the second contract concluded later.

Cont..

Parallel Istisna and its applications

After the execution of Istisna agreement with one party, buyer

or seller executes another Istisna agreement with third party,

Conditions for Parallel Istisna :

(a) there must be two different and independent contracts, these two contracts cannot be tied up and performance of one should not be contingent on the other.

(b) Parallel Istisna is allowed with third party only.

Cont..

ISTISNA` MAWAZI BY AL – ‘INAH

Ccustomer/ contractor bank

1

2

3

Example of data transaction:

Asset : Manufacturing of Supermarket

Total financing : RM 300 000

Dateline : 1 Jan. 2013

Booker 1 : Customer and Bank as contractor

Booker 2 : Bank and Customer as contractor

Total Bank profit : RM 200 000

Payment Period : 8 years

Cont..

Thank u….