Simplified Shariah Structures Guide: Murabaha

In this simplified guide, we will discuss the following:

1. What a Murabaha is
2. Key principles of a Murabaha structure
3. The typical process of a Murabaha
4. Applications of Murabaha

1. What is Murabaha

Murabaha is commonly translated as a cost-plus margin sale. The word Murabaha comes from the root word “Ribh” which means profit. And the term Murabaha literally means a sale with a determined profit rate.

Murabaha is a very common Islamic financing product whereby an asset is initially purchased by the financier and then sold to the end-customer on a deferred payment basis with a margin. This results in the end-customer receiving the asset they were seeking as well as the financier earning a margin through the sale of the asset.

The main distinctive feature of this sale is that the seller expressly mentions to the purchaser how much cost he has incurred and how much profit he is going to earn in this sale.

2. Key Principles of a Murabaha

Some of the key principles of a Murabaha transaction are:

1. All the rules of sales apply in a Murabaha.
2. The seller must gain ownership of the asset being sold on Murabaha basis.
3. The seller must take possession of the asset by assuming the risk of the asset.
4. The cost price must be disclosed to the buyer.
5. It’s necessary that an item which is sold through a Murabaha sale is acquired by lawful contract.

3. The typical process of a Murabaha

As a financing product, a Murabaha typically goes through the following steps:

1. The Bank appoints the Customer as its purchasing agent to purchase the asset from the Seller.
2. The Customer purchases the asset from the Seller on behalf of the Bank for £10,000.
3. The Bank sells the asset to the Customer on Murabahah basis for £12,000. The Customer pays the selling price to the Bank on a deferred payment basis with monthly instalment payments.
4. The Customer pledges the asset to the Bank as security/ collateral.

4. Applications of a Murabaha transaction

A number of products are structured using Murabaha such as home financing, vehicle financing, trade financing, project financing and goods financing etc.

In all such financing transactions, the Islamic financial institution purchases the underlying asset, generally through the agency of the customer, and thereafter sells the asset to the customer with profit on a deferred payment basis.