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Ijara is considered one of the most important financing methods in Islamic Banking. It is an effective formula in Islamic banks because it enables the islamic bank and its customers to achieve advantages and benefits commensurate with each other’s objectives, especially with the current developments in the world. Ijarah is one of the methods developed in Islamic banks that has been legitimately adapted to finance operations in these banks. It is not only a financing method but also a commercial activity of the Islamic Bank.

Definition Of Ijarah (Islamic Lease):

The term Ijarah means leasing of property pursuant to a contract under which a specified permissible benefit in the form of a usufruct is obtained for a specified period in return for a specified permissible consideration.

Types of Ijarah

1) Normal Lease:

In this form of lease, the lessor leases an asset for a specific period against the periodic lease rentals to lessee. The lessee utilizes the usufruct of the asset and returns the asset to the lessor at the end of the lease period.

2. Lease to own (Ijarah Muntahia Bitttamleek):

In Ijarah Muntahia Bitttamleek (الإجارة المنتهية بالتمليك) is a mode of finance adopted by Islamic Financial Institutions. It is one of the forms of Ijarah which is commonly used in Home financing. In this form of leasing contract, the ownership of the leased property is transferred to the lessee at the end of the lease term or at any time during the lease term when the Lessee (Customer) wishes to purchase the leased asset.

Depending upon the scenarios, the islamic bank may purchase the property either from the same Customer who seeks the Home Financing through Ijarah Muntahia Bittamleek or can make it available by purchasing from the market. If the property is ready and in usable form then Ijarah Muntahia Bittamleek contract is signed while in case of under construction property Ijarah Mowsufa Fi Al Dhimmah contract is executed.

It is worth mentioning that the Islamic Bank takes all the due diligence to ensure that the property subject of lease is intended to be utilized only for the Shariah-compliant activities.

3. Forward Ijarah (ijarah mawsufa fi al-dhimmah) :

Forward ijarah (الإجارة الموصوفة في الذمة) is a type of ijarah which involves the sale of a clearly specified underlying asset, which is currently being produced or constructed, for a future delivery. With ijarah mawsufa fi al-dhimmah, a financier (islamic bank) undertakes payment during the construction period, whilst customer’s payments will start within a specific period after completion. Although forward sales are impermissible under shari’a law, forward contracting through ijarah is permissible provided that the rent amount will be paid only after delivery of the underlying asset.

Legitimacy of Ijarah Ijarah

legitimate according to the Qur’an, Sunnah and unanimity. In the Holly Quran Allah says:

O my father! Hire him! Verily, the best of men for you to hire is the strong, the trustworthy.(Al Quran 28:26).

…If you had wished, surely, you could have taken wages for it! (Al Quran 18:77).

In the Sunnah we have the saying of the Prophet Muhammad (Peace be upon Him) that, whoever hired a worker must inform him of his wages; And his saying:

give a worker his wages before his sweat is dried.

Principles Of Ijarah

Unlike a sale contract, Ijarah contract may be executed for an asset currently not owned by the lessor. Any asset which is not permissible under Shariah to utilize cannot be leased. On the other hand, even the permissible asset cannot be leased if the purpose of lease is to perform or carry out non-Shariah compliant activities. During the entire lease period the lessor is assumed to hold the ownership risk of the leased asset.

1. Ijarah Contracting Parties:

The contracting parties involved in Ijarah are :

  1. The Lessor (المؤجر): He is the one who owns the asset.
  2. The Lessee (المستأجر) : He is the one to whom the asset is given on lease.

Both parties must be of legal capacity and of sound mind and judgement.

2. Subject matter of Ijarah:

1) Usufruct or benefit:

The leased asset must be capable of being used or preserved or benefited from. The usufruct and the benefit from it must be lawful in Shariah. The lessee must use the leased asset in a suitable manner and comply with common practices.

Maintenance of the leased asset is the responsibility of the lessor throughout the duration of the Ijarah contract, unless the lessee commits misconduct or negligence. If the benefit from the leased asset is impaired wholly or partially as a result of the lessee’s misconduct, the lessee is obliged to restore or repair.

The lessor must accept responsibility for any defects of the leased asset which impair the intended use of the asset.

2) Lease rent:

The rent is what the lessee is committed to paying as consideration for the benefit enjoyed by him. The lease rental may be in cash or in kind (goods) or benefit (services), but must be specific.
The total lease term can be divided into different lease periods to have different rentals for each rental period.

The rentals can be fixed or floating and in the case where it is floating, it is necessary to have the minimum and maximum ceiling for the rent. It is then permissible that the rentals for the periods subsequent to the first period be determined according to certain benchmarks.
The parties may agree to amend the rentals of the future by way of renewal of the Ijarah contract, but change in previous rentals which are due is not permissible.

In case of forward Ijarah, any amount paid by the lessee before the Ijarah commencement shall be considered as advance rental.

3. Concluding an Ijarah contract:

Ijarah is a binding contract and is concluded through offer and acceptance. The duration of an Ijarah contract must be specified at the time of the contract. It is necessary that the asset must be delivered at the time of the contract, however, if it is delivered at a later date, then no rent is due for the period between the contract date and the actual delivery of the asset.

Ijarah contracts may be executed in respect of the same asset for different periods for several lessees (successive leases). A lessee may invite a co-lessee to share with him the usufruct which he has a right to.

4. Guarantee and treatment:

The lessor can ask for security to secure rental payments. No increase in the rental due may be stipulated by the lessor in case of delay in payment by the lessee. It may be provided in the contract of Ijarah that a lessee who delays payment for no good reason undertake to donate a certain amount to a charity. In case of foreclosure of the security provided by the lessee, the lessor may deduct from such amounts only what is due.

5. Termination of Ijarah contract:

The Ijarah contract may be terminated in the following cases :

  • The lessor sells the leased asset to a lessee.
  • The mutual consent of both parties.It is not permissible for one party to terminate it except in case there is a defect in the leased asset.
  • In case of partial destruction of the leased asset in a manner that impairs the benefits expected from the asset, then the lessee may terminate the contract or may agree with the lessor to amend the rental or to replace the asset.
  • The lessor may stipulate that the Ijarah contract be terminated if the lessee does not pay the rent on time.
  • An Ijarah contract expires with the total destruction of the leased asset or if the asset is not in a usable form.
  • Either party may terminate the Ijarah contract before it commences.
  • The lease expires upon the expiry of its term except in good cause.

If the lessee stops using the asset or returns it to the owner without the owner’s consent, then the rental will continue to be due.

An Ijarah contract does not terminate with the death of either party; however, the heirs of the deceased have the option to either continue or terminate the Ijarah contract. If the asset is sold to a third party then the title and rights and obligations under Ijarah contract are transferred to the new owner. The leased asset in the possession of the lessee is held on behalf of the lessor, therefore, the lessee will not be liable for any damage.

An Ijarah can be renewed for another term and such a renewal may be made before the expiry of original term or automatically by adding a provision in the contract for such renewal when the new term starts, unless either party serves a notice on the other of its desire not to renew the contract.

6. Ijarah operational procedure :

  1. A Customer who is in need to acquire a house approaches the Islamic Bank and applies for finance through Ijarah Muntahia Bittamleek (Lease to own) transaction.
  2. As per Customer’s financing requirement Bank assesses the customer’s creditworthiness, analyses the real estate market condtion, evaluates the subject property and approves the request.
  3. The Islamic Bank seeks an undertaking from the Customer to lease the house from the Bank once latter purchases the same and takes the possession thereof. Along with other details the Bank’s Rental Rate is also stipulated in such undertaking.
  4. If the financing is not approved for the 100% value of the property the Bank asks the Customer to pay certain amount as Advance Rental which is adjusted under the first rental period’s rental amount when the Ijarah contract is executed. If the lease, however, has not commenced the Islamic Bank returns the Advance Rental received from the Customer.
  5. The Islamic Bank purchases the required property from the property owner, pays the full purchase price, takes the possession thereof and executes the Ijarah Contract with the Customer.
  6. The Islamic Bank delivers the property in habitable form to its Customer with full access to it in order to start the lease.
  7. Under a separate agency agreement the Islamic Bank appoints its customer (Lessee) as its agent to carry out the major maintenance and obtain the property insurance (Islamic Insurance) policy on its behalf. Along with a fixed fee for these services the Islamic Bank being the Muwakkil (Principal) pays all the costs and expenses incurred under this agency agreement to the Customer (Agent).
  8. The Islamic Bank may seek a purchase undertaking from the Customer (Lessee) to purchase the house during the lease term in case of any default or breach by the Customer to the Ijarah terms and conditions.
  9. In turn the Customer may also ask the Bank to give a sale undertaking to sell the leased property to the customer at the end of the Ijarah term or any time during the lease in order to secure his right to settle the finance early.
  10. The rental comprises of two main components, the fixed and variable representing the cost of the property and the Bank’s profit respectively which is paid in accordance with the agreed upon terms and conditions in the Ijarah contract.
  11. At the end of the lease term both the parties (Lessor and Lessee) execute a sale and purchase contract to transfer the ownership of the leased asset to the Lessee (Customer). Instead of taking a sale undertaking from the Bank, the parties may execute a Conditional Gift Contract in the beginning of the Ijarah for the transfer of the ownership of the leased asset.

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