Islamic banking Principles have the same purpose as conventional banking except that they operate in accordance with the rules of Sharia’a (Islamic rules on transactions).
Basic Islamic Banking Principles
The basic principle of Islamic banking are
- The sharing of profit and loss and
- The prohibition of riba (usury).
Products in Islamic Banking
Common terms used in Islamic banking include profit sharing (Mudaraba), safekeeping (Wadiah), joint venture (Musharaka), cost plus (Murabaha) and leasing (Ijara).
Mudaraba is venture capital funding of an entrepreneur who provides labor while financing is provided by the bank so that both profit and risk are shared. Such participatory arrangements between capital and labor reflect the Islamic view that the borrower must not bear all the risk/cost of a failure, resulting in a balanced distribution of income.
In an Islamic mortgage transaction, instead of loaning the buyer money to purchase the item, a bank might buy the item itself from the seller, and re-sell it to the buyer at a profit, while allowing the buyer to pay the bank in installments. In order to protect itself against default, the bank asks for collateral. The goods or land is registered to the name of the buyer from the start of the transaction. This arrangement is called Murabaha.
Islamic banking is restricted to Islamically acceptable transactions, which exclude those Involving alcohol, pork, gambling and so on. The aim of this is to engage in only ethical investing, and moral purchasing.