9.leasing or ijara

8/3/2019 9.Leasing or Ijara

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Essential forIslamic Finance

Ijara (Leasing)

By Yousuf Ibnul Hasan

Iqra University


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DefinitionLeasing is a contract in which asset is transfers to

user for an agreed period on an agreed consideration

Ijarah is a lease contract as well as a hirecontract.

Both the contract are similar to each


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In Islamic Finance Ijarah is alease contract under whichfinancial institution leases

equipment or a building to oneof its clients against agreed

rentals or installments equal tothe value of the assets.


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Lesser or Lessee

The equipment provider through

financing isLESSOR

Rab-Al-Maal

The equipment user is LESSEESarif


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Ijarah

Ijara basically facilitate the cost to be spreadfor large purchases into affordably

installments for payment.

In Ijara either the end of the transaction isthe ownership of assets that acquired

through lease financing or in another casethe equipment is returned to financier.


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Ijarah Financing is a contract in which a lessee

request for an equipment or a property and Lesserprovide through its financing the specified andrequested equipment or property.

The Lessee agree to pays a monthly, quarterly, semi-annual or annual rent to lesser for the right to useequipment a specific amount within agreed time oftime i.e. 12, 24, 36, 48, or 60 months OR what ever

time agreed.


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Historical PerspectiveAlthough leasing began in 2010 B.C. but modern

leasing began in the early fifties.

The creation of the Investment Tax Credit in 1962encourage growth through "tax-oriented" leasing.

New products were quickly developed to meet thegrowing demand.

Over the last 50 years, many leasing companiesdeveloped non-tax oriented products such as income

funds, operating leases, limited partnerships, vendorprograms, and end sharing in order to remaincompetitive.


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Equipment leasing

flourished over the last20 yrs

Banking industry started leasing by giving credibility

to a market place which had been previouslyregarded as a last-resort financing alternative.

Accounting profession produced a documents tohelp standardize lease reporting in financial

statements.

Internal Revenue Regulatory Service issuedguidelines to aid lesser and lessees in structuringleasing transactions.


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Why do Lease Business ? Cash flow - Monthly payments are generally

smaller for leases than for loans and they usuallyrequire a smaller or no down payment.

Use vs. ownership - Many businesses havediscovered they don't need to own the equipmentthey use.

In past renting and leasing were limited.

Today's psychology it more to economics rather thanmoralities of ownership


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The Modern Concept of

Ijarah Leasing is the modem technique which can be

compared with Islamic technique ofIjarah.

Leasing is based on fundamental concept ofIjarah,according to which one does not have to own an assetin order to enjoy benefits of it.

There are business examples which benefited from

their investment in fixed assets and made substantialcapital profits from the sale of assets or been able toimprove their balance sheets by the revaluation ofassets.


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Primarily profitability of a business lies in theeffective utilization of its resources. ThereforeUSE is important rather OWNERSHIP.

For example

Investment appraisal made on some newventure. The choice of purchasing or leasing ispartially a matter of arithmetic and partially aquestion of the availability of the capital.


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Comparison

A comparison between leasing and othersimilar forms of transactions, such asrental, will give a clearer picture.

"Rent a Car business is a contractaccording to which the objects are leased toindividuals or a number of users for a

much shorter period than their actualuseful life.


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In contract law, the "rental contract" specifies the lease andthe usage for an indefinite period.

To promote sales in an attempt to outstrip its competitors, withthe belief that it could control the progress of technologicalinnovation of computers.

Users of equipment leased on a rental system are major

enterprises with continuous usage of rented equipment in ashort-lived, but the lesser is charged with the responsibility formaintenance.

In the case of "rental" the lesser is moreover charged with theresponsibility for coping with the products obsolescence, so that

it may be termed as a service-oriented business.


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Economic Role of ljara

Lease financing due to its special features supplementexisting conventional forms of financing and furtherincrease speed investment in the private sector.

There is a large requirement of balancing and modernizing

for existing industry. Lease financing through balancing and modernization of

existing industry improve the capacity utilization, quality,production cost, profitability, internal generation of cash

for future investment and international competitivecapability to increase exports.


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Lease financing is most suited to the

programs of balancing, modernizationand replacement. It would involve a

small dosage of investment which would

carry relatively smaller investment risksbut would result in a quick value addedproduction. It would increase capacity

utilization and thus contribute to thegrowth of the economy.


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Leasing is the contractAsset transfer to another for use on an agreed

period with financial consideration.

The subject of lease must have a valuable use.

It is necessary for a lease contract that body ofleased property remains in the ownership of theseller and only its usage is transferred to thelessee.

Any thing that cannot be used cannot be leased. Lease cannot be affected in respect of money,

edibles, fuel and ammunition etc. due toconsuming nature of products.


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If anything of this nature is leased out, it would be

consider as a loan with all rules concerning thetransaction of loan that would accordingly beapplied.

Any rent charges on this invalid lease would be

treated as interest that is usually charged on aloan.

All the liabilities emerging from the ownershipshall be borne by the lesser, but the liabilities

referable to the use of the property shall be borneby the lessee.


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ExampleMr. Ahmed leased his House to Mr. Badar.

All taxes on the house shall be borne byMr. Ahmed as he is the owner.

All running expenses like water tax, electricbills and all expenses pertain to the use ofhouse shall be borne by Mr. Badar who is

the user and tenant of the lessee.

The terms and conditions of the agreement wouldremain as:


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Period of lease must be determined in clear terms.

Lessee cannot use leased asset for any purposeother than a purpose specified in the leaseagreement.

If purpose not specified in the agreement, lessee isallowed to use assets it for whatever purpose in thenormal course.

If Lessee use it for an abnormal purpose he cannot

do so unless the lesser allows him in specificterms.


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The lessee is liable to compensate lessee for anyharm caused to leased asset by any lapse orcarelessness from the part of the lessee.

Leased asset shall remain in the risk of lesserthroughout lease period.

Any harm or loss caused by the factors beyondthe control of the lessee shall be borne by thelesser.


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Asset jointly owned by two or more person can beleased out and rental shall be distributed between

joint owners according to the proportion of theirrespective shares in the property.

Lessee is not responsible for interfere with any kind

of share and distribution of share amount.

Lease in proportion share only allowed to the co-share only not to any other individual.

It is necessary for a valid lease that the leased asset isfully identified by the parties.


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ExampleA said to B I lease you out my cars

. Lease is void unless leased car is clearly identified.

Rental must be determined for whole period oflease at the time of contracting a lease.

It is permissible that different amounts of rent arefixed for different phases during the lease period,provided that the amount of rent for each phase isspecifically agreed upon at the time of lease

agreement. If the rent for a prior phase of the lease period has

not been determined or left at the option for thelesser, the lease will not be valid.


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Example 1Mr. Ahmed leases his house to

Mr. Bader for a period of 5 years.

The rent for the first period is fix at anamount on monthly basis and it is alsoagreed that the rent of every

subsequent year shall be 10% morethan the previous one.

The leases remains valid.

E l


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Example 2

Mr. Ahmed laid down a condition in theagreement that rent of an amount per month isfixed for the first year only.

Rent for subsequent year shall be fixed each yearat the option of the lesser.

This lease is void, because the rent would beuncertain after first year of use.

In the long-term lease agreement it is not in thebenefit of the lesser to fix one amount of rent forthe whole period due to the fact the marketconditions differ from time to time.


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In this case, the lesser has two options, either

(a) He can contract a lease with a condition that therent shall be increased at a specified proportion after aspecified period. Like six months or one year.

Or

(b) He can contract the lease for a shorter period afterwhich the parties of lease in fresh terms andconditions, but the renewal shall be affected bymutual consent with full liberty to each one of themto refuse the renewal.

In such case the lessee is bound to vacate the leasedassets and return it back to the lesser.

Lesser cannot raise rent one sided for that


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Lesser cannot raise rent one sided for thatreason any agreement to the contrary is nulland void.

Rent or part thereof payable upon completingthe first month use.

Arboon (Advance) before delivery of asset

have to be deposited with lesser as the risksharing on the assets and it is allowed toadjust towards the rent.

Lease period shall commence from the date on

which leased asset has been delivered tolessee, no matter whether the lessee hasstarted using it or not.


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If leased asset has totally lost the function forwhich it was leased for and no repair is possible

then lease shall terminate on the day on whichsuch loss has been caused.

However, if the loss caused by the misuse or by

the negligence of the lessee he will be liable tocompensate the lesser with the depreciated

value of the asset as it was immediately beforethe loss.

Like other modes of financing lease is not


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Like other modes of financing, lease is notoriginally treated as one.

It is simply a transaction meant to transfer the

use of an asset from one person to another foran agreed consideration.

Certain financial institutions have adopted

leasing as a mode of finance used in place ofinterest.

This kind of lease, generally known as thefinancial lease or Re- finance on the operating

assets that take the transaction to simplelending as assets should not be in the ownershipof lessee. It has to be provided by the lesser.


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On the other hand, they realized that leasing was a lawfultransaction according to Shariah and it could be used as aninterest free mode of finance.

Leasing has been adopted by the Islamic FinancialInstitutions, yet very few of them paid attention to the factthat the financial lease has a number of characteristics

more similar to interest as the actual lease transaction. They started using same model agreements for leasing as

were in vogue among the traditional financial institutionswithout any modification, while a number of their

provision was not in conformity with the Shariah.


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The primary advantage of Ijarah over the conventional

forms of borrowing to finance equipment is that theownership of the asset remains with the lesser.

The financing is largely unrelated to the size of assets

and the capital base of the lessee, depending principallyon the ability of cash flow to service payments of leaserentals.


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Conclusion Ijara is probably the most suitable mean to raise

investment funds especially for industries where rapidtechnological innovation is either underway or desired, top

class firms which are quickly expanding their business orsmall & medium enterprises and firms which havenormally insufficient assets and capital base to meetnormal collateral requirements of most other forms of longterm financing. The basic security under the Ijaraharrangement is the "ownership of the equipment". The titleof ownership to the equipment remains with the leasingcompany but in case of serious default, the equipment isrepossessed

9.leasing or ijara

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