Diminishing Musharakah

By
Mahmood Shafqat
Senior Joint Director -Islamic Banking
Department - SBP
The views expressed
At AlHuda: Centre of Islamic Banking & in this
Economic Workshop presentation are those of the author
and do not necessarily represent State
Sheraton Hotel – Karachi. Bank of Pakistan
 Presentation Outline

• Diminishing Musharakah - Introduction

• Basic Structure
• Shariah Principles
• Illustration
Diminishing Musharakah-Introduction
Musharakah

“Shirkah” means “Sharing” in the

terminology of Islamic Fiqh.

Musharakah is basically a kind of

partnership in which the partners join
together with their contributions for the
common objective of undertaking
business and trade in accordance with
the principles of Shari’ah.
 Types of Shirkat

It has been divided into two kinds:

 SHIRKAT-UL-MILK
It means joint ownership of two or more persons
in a particular property.

 SHIRKAT-UL-’AQD
Which means “a partnership effected by a
mutual contract”.
 Diminishing Musharakah

Based on Shirkat-ul-Milk
 Means joint ownership in a property

Three components
 Joint ownership of the Bank and customer
 Customer as a lessee uses the share of
the bank
 Redemption of the share of the Bank by the
customer
Mode of Fixed Asset Financing

Diminishing Musharakah is commonly

used for the purpose of financing of
fixed assets by various Islamic banks.

 House financing
 Car Financing
 Plant and machinery financing
 Factory/Building financing
 Agriculture land financing
 All other fixed Assets
Musha

Musha means undivided

ownership of the asset

Lease of Musha

It is allowed to lease Musha to

other joint owner.
Basic Transaction Structure
 Joint
BANK Ownersh
Rent
ip
CUSTOMER
Musharak
a
 The customer approaches the Bank with the request
for Project/Machinery/House financing

 The Bank enters into a Musharakah (Joint Ownership)

agreement with the customer and both of them pay their
respective shares to the seller of the asset.

 Customer pays rent for the use of banks share in the

property
 Joint
BANK Ownersh
Gradual Transfer of Ownership
ip
CUSTOMER
Musharak
 a
The customer approaches the Bank with the request for
Project/Machinery financing

 The Bank enters into a Musharakah (Joint Ownership)

agreement with the customer and both of them pay their
respective shares to the seller of the asset.

 Customer pays rent for the use of banks share in the

property
 Ownership of the asset is gradually transferred to the
customer upon payment of asset price.
 Joint
BANK Ownersh
Gradual Transfer of Ownership
ip
CUSTOMER
Musharak
a
 The value of Bank’s share in Musharakah property is divided
into units, which it sells to the customer. Units will be
worked out by dividing Bank’s financed amount by number
of months for which finance to be allowed.

 With each purchase of unit by the customer, the Bank’s

share in the Musharakah property starts diminishing,
whereas customer’s share starts increasing,
correspondingly.

 Finally, the customer becomes the sole owner of the

property after having purchased all units from the Bank,
along with the rentals thereon.
Shariah Principles
Shariah Principles

• To create joint ownership in property is called

Shirkat-ul-Milk and is expressly allowed by all
schools of Islamic Jurisprudence.
• All Muslim Jurists agree on the permissibility of
the Financier leasing his share in property to
client and charging him rent i.e. the permissibility
of leasing one’s share to his partner.
• There is difference of opinion among leasing
one’s share to a third part But there is no
difference on permissibility on leasing to a
partner.
Shariah Principles

• Promise of client to purchase units of

share of financier is also allowed.
• The Transactions cannot be combined in
a single arrangements and they have to be
executed independently. This is because it
is a well settled rule of Islamic
Jurisprudence that one transaction cannot
be made a condition for another.
• Instead of making the transactions a pre-
condition for one another there can be
one-sided promises from one party to
another
Diminishing Musharakah-Considerations

Consideratio Flexibility
n Available
Title Holder Joint Title

Profit Rate Fixed/Variable

Prepayment Allowed Yes

Refinance Available Yes

Asset Risk Joint

Late Payments Control able
Diminishing Musharakah can be used for financing
with the following conditions

• The agreements of joint purchase, Lease and selling

of units should not be tied-up together

• At the time of purchase, sale should be effected

through offer and acceptance

• Preferable to purchase each unit on market value,

but permissible to purchase at agreed price
 Legal Documentation
1. Diminishing Musharakah Agreement –
Islamic Housing Finance Agreement
Purpose: This is the main agreement that
establishes Bank’s share in the
Musharakah Property.
Components:
- Both parties share
- Musharakah Property detail
2. Monthly Payment Agreement (Rent
Agreement)
Purpose: This agreement is signed after
Main Musharakah Agreement. Bank gives
out its share to the customer via this
agreement.
Components:
- Rent Schedule
- Formula of calculation
 Legal Documentation

3.Undertaking to Purchase Musharakah

Units
Purpose: This is an undertaking by the
customer to purchase Bank’s Musharakah
units.
Components:
- Normal Sale Price
- Additional Unit Purchase Price
4. Undertaking to Sell Musharakah Units
Purpose: This is an undertaking by the Bank
to sell Bank’s Musharakah units from time to
time.
Components:
- Normal Sale Price
- Additional Unit Purchase Price
 Required Documents

Personal Information
• Completed and signed Application
Form
• Copy of CNIC
• Copy of Co-Applicant's CNIC /
Passport
• 2 Passport size photos of Applicant /
Co-Applicant's
• Copy of rental docs (if applicable)
• Copy of Paid Utility Bills
• Borrowers Basic Fact Sheet
• Copy of Recent Credit Card Bills
 Required Documents

Income Information
• Copy of recent Pay Slip / Employer Letter
• Employer Certificate for salaried employees
incl. tenor / designation / salary
• Last 6 months Bank Statement
• Copy of Management Accounts (if applicable)
• Bank Statement of Business

In Case of Co-Applicant the Income

Related documents will also be
required for the Co-Applicant as well.
 Required Documents
Business / Professional Information
• 3 Years Proof of Business (eg: Tax
Return/Bank Certificate)
• Professional Association Membership
Certificate / Practice License
• Professional Degree / Certificate

Property Documents
• Copy of all related Property Title Documents
• Approved Building Plan
 Security

• Equitable mortgage of the financed

property.

• Any additional security as may be

determined by Bank.
Such security may be required if the
standing of the borrower does not
meet the credit underwriting
requirements of Bank.
An Illustration
 Step by Step Guide
Step 1: Application Form
Submit the filled & signed application form &
cheque for Processing Fee & External Agency cost

Step 2: Required Documents

Attach all the required document

Step 3: Address Verification

Bank will verify the Applicant Residential & Office
Addresses and Addresses of the References
submitted
 Step by Step Guide
Step 4: Income Estimation
For Businessman / Self Employed Individuals
Bank's External Consultant may determine
customer’s monthly income.
For Salaried Individuals
Bank will verify the Income with customer’s
employer

Step 5: Legal opinion

A legal opinion will be obtained on the property
documents

Step 6: Property Valuation

Appointed Valuation Agency will evaluate the
property to determine its market value.
 Step by Step Guide
Step 7: Credit Approval & Sanction Letter
After customer have fulfilled all Credit requirement
satisfactorily, bank will give a conditional Sanction
letter

Step 8: Account Opening

Customer will be required to open an account in
bank by submitting a filled account opening form

Step 9: Signing of House Finance Agreement

Customer sign Islamic House Finance Agreement
and other legal documents.
For Building/Renovation/Replacement of house
Original Property documents will be handed over to
the bank at this stage.
 Step by Step Guide

Step 10: Transfer of Property & Disbursement

In Home Buyer Cases

Bank's Sales officer & authorized lawyer will
accompany customer & Seller of the property
to the Registrar office for Property Transfer.

Original Property documents will be handed

over to the Lawyer who, after verification of
the document, will handover the Pay Order to
the Seller and will complete the legal
formalities on Bank's behalf
 Common FAQs

What method of Islamic Financing is used in

House financing?

 What makes Islamic House financing Shariah

compliant and how does it differ from a
conventional mortgage?

 Why is the profit margin charged by Bank

correlated to the conventional mortgage market
trends?

 How much time do you take to approve the

case?

 Is this rent variable or fixed?

 Common FAQs

 For how many days can I delay my monthly

installment?

 What would be the Bank’s approach, if I fail to pay

my monthly installment?

 Do you have any alternative for Insurance?

 What is the process for early payment /

termination of property?
 Key FAQs

What is the difference between the profit

Bank charges and the interest charged in
conventional mortgages?

In conventional mortgages the interest charged

is a mark-up on the money lent. The profit
charged by Bank is the utilization payment for
the consumer’s use of bank’s share throughout
the life of the contract. The profit is
predetermined based on market trends.
 Ph: 021-9212509, Fax: 021-9212472
Email: [email protected]

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