Modaraba Definition | Benefits and Conditions to Apply in Business

Modaraba Definition

The Modaraba is a contract of sale at cost price plus a known profit margin agreed between buyer and seller. The Modaraba can have two aspects: Direct transaction between a seller and a buyer, (The Tripartite transaction between a final buyer or a first seller and an intermediary seller (executing the purchase order). This latter formula was adopted in Islamic banking practices. The Bank intervenes as the first buyer vis-a-vis the supplier and the reseller in respect of the purchaser (client).

Benefits of Using Modaraba Financing

Modaraba is a form of financing that enables Islamic banks to finance, in accordance with their principles, both the operational needs of their customers (stocks, materials, intermediate products) and their investment.

Conditions to Apply Modaraba Financing in Business

The object of the Modaraba contract must comply with the requirements of the Shari a (no financing of products prohibited by Islam).

Pre-acquisition of goods by the Bank, Indeed, the basic principle of Murabaha is that the profit margin accruing to the Bank is justified only by the commercial and non-financial nature of the transaction (purchase and resale must be real non-fictitious). In this respect, it should be recalled that while the Modaraba, as practiced by Islamic banks, is a forward sale transaction, the credit transaction is merely incidental to the commercial transaction, Is the only justification for the remuneration received by the Bank even if the deferred payment is taken into account in the price difference.

The cost price, the Bank’s profit margin and the payment period (s) must be previously known and accepted by both parties.

In the event of a delay in the payment of the due dates, the Bank may apply to the defaulting customer penalties for delay which will be accommodated in a special “Liquidation” account. But at no time can it revise its profit margin in return for exceeding the deadline. In addition, in the event of bad faith on the part of the client, the Bank is entitled to claim damages in addition to the penalties. In such cases, the injury should be assessed against objective criteria specific to the Bank and any reference to interest rates should be avoided.

After completion of the Modaraba contract, the merchandise becomes the exclusive and final property of the final purchaser and will remain so regardless of the incidents that may occur subsequently. However, the Bank may pledge the goods sold as security for the payment of the sale prices and bring the pledge into play if necessary. Similarly, it may take into account client’s slump cases and grant the client a rescheduling of its schedule without this leading to a price increase.