Islamic Finance and Banking Essay
Islamic banking has similar purpose as the other convectional banking which exists in the world economy. The only major difference between the two banks is the use of Shariah rules in the Islamic banking. The basic principle that dominates Islamic banking is profit and loss sharing and the abolition of interest also known as riba. This paper will focus on the Islamic banking and financing. In addition it will analyze on how a member can obtain a free interest rate loan from the Islamic banking institutions.
In the Islamic banking, the common terms that dominates the banking activities include profit sharing, safe custody, cost plus also known as murabahah, leasing and joint venture. The banking systems follows to the later the Islamic laws which prohibits the wrongful gains extended to borrowed amounts, also termed as interest rates in the convectional banking. The ethical principles that dominate in their system are based upon the common attention which drives the banking services closer to their clients (Saeed, 1996 p.34-51). The system is also committed in building a knowledge driven business between their clients. As a result the Muslim faith individuals were relieved the burden of having to break their Sharia laws whenever they want to obtain a loan from a convectional banking institution.
The qualification for obtaining such a free interest rate loan from any Islamic banking institution in the world is mainly being a Muslim by faith. According to this financial institution, the loan does not accumulate any amount of interest instead the bank share in the profit a member derives from the amount borrowed. For instance, in case of a mortgage the bank will first seek to purchase the house from the owner or the seller and then sell it at a profit to its member. The bank does not extend any penalties due to late payments, instead strict collateral is asked for by the bank to prevent members from defaulting. The arrangement of requesting collaterals from the esteemed members is also known as murabaha in Islamic term.
Still in the Islamic banking and financing systems they allows floating rates to some home loans extended to their clients. The floating rates are issued in form of rentals which are used to facilitate the banking activities. Both the bank and the borrower are said to have formed a partnership when the loan transactions are made. In this form of partnership both parties are said to be capital contributors. As partners both the borrower and the bank will rent out the property and charge a rent on it. Since the two partners have mutually contributed to the property purchases, rent proceeds are therefore due to them depending on the equity share ratio between the partners. The borrower will also be allowed to buy the bank’s share of the property where the final transfer will be done when the final proportion of the bank share is recovered. The floating rate accorded to the amount account for the current market rate i.e. the base lending rate (BLR). In case of a default on the part of the borrower the two parties will automatically receive their proportionate share after the sale of the property (Kabir & Mervyn, 2007 p.124-177).
In case of loans extended to the companies the floating interest rate is pegged on the company’s individual rate of returns. The bank will therefore obtain a certain proportion of profits as it share for financially assisting the company. In this case the profit sharing arrangement is terminated once the principal amount is repaid. The joint venture with the bank is arrived at whenever a client lends some amount for entrepreneurship activities. In this case both the bank and the borrower will jointly share on the risks and the profits of the venture.
The Islamic banking system though only restricted to the Islamic believed customers needs to be universally adopted. In my own opinion the system offers excellent services to its clients and avoids oppression advanced through persistent rise of interest rates by the convectional banks. The clients enjoy profit and loss sharing with the banks which is not otherwise done in the convectional banking.