Islamic Banking and Finance

Chapter 3- Mudaraba

BY: L AY L A D O WA I S H A N
2022
Mudaraba
It is a form of partnership contract wherein one party invests
its funds , with another party which agrees to manage the
Mudaraba Capital for the benefit of both the parties.

The capital provider is called the (Rab al Maal )while the

entrepreneur who manages and runs the business called the
(Mudarib )

Rab al Maal does not interfere in the day-to-day running of

the business but may specify some conditions related to
management of the business.

Rab al Maal trust their capital with the Mudarib, hence the
name of ‘trust financing’.
Mudaraba
The capital injected into the venture by the Rab al Maal is called (Ras al
Maal).Rab al Maal has the right to information and to monitor activities

The two parties mutually agree to a profit-sharing ratio at the onset of

the contract

The loss though is borne entirely by the Rab al Maal , the Mudarib
would lose their time and effort in managing unless the losses were due
to misconduct

The Mudaraba contract can be terminated by either party unilaterally,

after providing a reasonable period of notice, or it can be mutually
terminated at any time
Types of mudaraba.
According to the
limitations provided by
the Rab al Maal there are
to types of mudharaba.

Mudaraba al Mudaraba al
Muqayyadah Mutlaqah
 Mudaraba al Mudaraba al
Muqayyadah Mutlaqah.
(restricted Mudaraba) (unrestricted Mudaraba)

Rab al maal provides There is no restrictions , the

certien restrictions within mudarib has complete
which they would prefer authority to choose any type
the Mudarib to invest of project provided its hala ,
their money shariah compliant and legal

on Islamic banks the restricted

Mudaraba is applied for On Islamic banks applied to
specific investment accounts unrestricted investment
where the depositors specify accounts, where the bank
in which project there prefer invests the fund according to
their funds to be invested the bank’s own judgement and
criteria.
Besides these main two classes of Mudaraba,the
following types of Mudaraba transactions are being used
in modern Islamic banks:
Bilateral or simple Two-tier Mudaraba or re-
Multilateral Mudaraba.
Mudaraba Mudaraba.
• there are only two parties, • there are several capital • there are three parties
the Rab al Maal and the providers (Rab al maal), involved in two Mudaraba
other is the Mudarib. whose funds are contracts, There is Rab al
collectively provided to Mal and Mudarib in the
one Mudarib first Mudaraba. The
Mudarib of the first
contract becomes the Rab
al Maal in the second
Mudaraba and provides
capital to a second
Mudarib.
Twe-tier Mudaraba
Islamic scholars promote using two-tier mudaraba model in two scenarios:

• The bank on its own doesn’t have the capacity to serve as the investor (the
rab al mal). This scenario may mean that the bank doesn’t have enough
liquidity to enter a mudaraba contract with an entrepreneur or fund manager.

• The bank lacks the expertise to serve as the fund manager (mudarib) for an
investment.
 Twe-tier Mudaraba

Depositors invest (BD 1 million) BD 1million

60:40 70:30
500,000*0.7= 350,000
Bank return 1 m to investors + profit
Investors receive= 350,000*0.6= 210,000
bank receives= 350,000*0.4=140,000
Shariah conditions

2. Profit
1. Capital 3. Financial loss
sharing.

4. Restrictions. 5. Guarantee. [Link].

 Shariah conditions
[Link]:
• the total amount must be known to both parties
• on settlemet of contract mudarib should returned the capital to Rab al maal
• capital should include tangible or intangible assets

[Link] sharing:
• based on a preagree ratio, but is never a lump sum
• If there is more than one rab al maal the profit will be distriubuted amonges
them in the proportion of their capital investment after deducting the Mudarib’s
portion.
Shariah conditions
[Link] loss

• Rab al maal is completely responsible for any losses

• Mudarib is liable to lose their time and effort

[Link]

• Rab al maal can limit the mudarib by invest the funds in

specific types , locations and within specific times of the
projects
• These limitation should not prevent the mudarib from
executing their business activities and earning a profit
Shariah conditions
[Link]

• Rab al maal cannot ask for any security from the mudarib unless
the losses occurred due to mismanagement of the mudarib
• Rab al maal cannot ask for a fixed profit amount

[Link]

• Murabaha contract can be terminated anytime unilaterally or

mutually
• Liquidated the non-cash assets
conditions are imposed on Mudaraba
contracts in most Islamic banks.

[Link] of the [Link] of the

[Link] 4. Mixing of funds
Rab al maal Mudarib

[Link] of the
[Link] and
[Link] of profit [Link] funds depositors and of
capital loosses
the Islamic bank
conditions are imposed on Mudaraba
contracts in most Islamic banks.
[Link] of the Rab al maal
• The capital provided can be cash or tangible or
intangible assets
• Its can be disbursed as lump sum or in installments

[Link] of the Mudarib

• Is limited to the labour , time and skills they applied to
the project
conditions are imposed on Mudaraba
contracts in most Islamic banks.

[Link]
• The mudarib cannot pass on their responsibility to another
mudarib without the permission of the Rab al maal

[Link] of finds
• The Mudarib cannot mix the investment funds in a specific
Mudaraba contract with their own funds or with other investment
funds without the consent of the original Rab al Maal.
conditions are imposed on Mudaraba
contracts in most Islamic banks.
[Link] of profits
• Islamic banks pool together the profit earned from various mudaraba
investments , after deducting all operational costs
• Then they share this profit in a pre-agreed ratio with the depositors.

[Link] funds
• Shariah boards (SB) and AAOIFI allow Islamic banks to build reserve
funds during years of high profit to compensate for low or no profits
in some years
 conditions are imposed on Mudaraba
contracts in most Islamic banks.
[Link] of the depositors and of the Islamic bank.
• If there’s any losses, then the depositors (Rab al maal) will loss in proportion to the
amount they deposited. The bank (muarib) will lose their time and effort unless
the losses was due to mismanagement

[Link] and capital losses

• Ordinary losses: is that which arises in the process of the business activity and can
be offset against prior-period undistributed profits, carried forward to the next
year or recovered from the previously distributed profits.
• Capital losses: is the loss of the mudaraba funds before the business venture
started and requires the Rab al Maal and Mudarib to renegotiate their financing
position and the profit-sharing ratio.
 • The most common application of the Mudaraba contract is
PRACTICAL in the financial intermediation process of Islamic banks,
mainly in their relationship with the investment account
APPLICATIONS holders, for both general and specific investment accounts.
OF MUDARABA •The Mudaraba structure also works well in the financing of
venture capital, project financing, formation of unit trusts as
well as real estate investment trusts.
What are the differences between mudaraba accounts in islamic bank and
loan account in usury – based banks ?
 Mudaraba account VS. Loan account
Features Islamic Banks Conventioal Banks
Status in sharia Sharia based Mudaraba Loan
Fees Charged something for opening Charged something for opening
and closing the account and for and closing the account and for
ordering a statement of ordering a statement of
account ..etc account ..etc

Investment Funds are invested in islamic Funds are invested in usurious

activites and project activities

Profit mechanism Profit is generated in a sharia Profit is achieved from the

compliant way difference between the credit and
debit interest in the transactions
 Mudaraba account VS. Loan account
Features Islamic Banks Conventioal Banks
Loss The depositors bear the loss , but Borne by the bank
it borne by the bank in case of
mismanagmment

Guarantee of the capital and profit No guranatee The bank guranatee both the
capital and profit

Comminigling of funds Depositors' investment and profit No separation is made between

are separated from the the depositors and shareholders
shareholders investment and profit account
, if funds are mixing this must be in
a separat ACC
What are the differences between Mudaraba contract and
Musharaka Contract ?
 Musharaka contract Vs. Mudaraba contracr
Features Musharaka Mudaraba
Source of financing All partners contribute capital to the Financing is provided solely by the Rab
project al Maal.

Partners’ right to participate in the • All partners have the right • It is the responsibility of the
management of the business to participate in the management mudarib only
• They may choose not to, or all • Rab al maal can only apply
partners may assign the conditions on the mudarba venture
management to a single partner.

Period of the venture long term. Short term.

 Cont’d Musharaka contract Vs. Mudaraba
contracr
Features Musharaka Mudaraba
Sharing profits and losses • All partners earn profit in ratios • Profits are shared as per a
agreed at the onset of the contract preagreed ratio
• losses are shared in accordance • loss is borne only by the Rab al-
with the capital contribution. Maal

Liability of the partners Usually unlimited, borne by all Rab al-Maal’s liability is limited to their
partners pro-rata. investment amount only.

Capital/ownership of assets All assets of the venture All assets are owned only
are jointly owned by by the Rab al-Maal,.
all partners.
Thank you …!