Ijarah

IJARA

Ijarah

Overview

Meaning of Ijara

Important Terms

Important Points

Types of Ijara

Ijara vs conventional leasing

Meaning

The Arabic term ijara means “to give something on rent” Ijara simply mean leasing or hiring.

Ijara is an agreement between the two parties where one party provides goods or services on a lease or rental basis and gives the possession of asset for use to the other party for a mutually agreed period. The owner retains the ownership of the assets. Ijara contracts are used in Islamic Banking, Project finance and also in Sukuk.

Important Terms

  • Muajjir: A person who gives something for hire(lessor)
  • Musta’jir: A person who takes on hire(lessee)
  • Ma’jur: A thing given on rent
  • Al-Manfaah: the benefit from a thing(usufruct)

Important Points

1)   Subject Matter:

The subject matter or asset of the ijara contract must be sharia-compliant. The conditions of usage of the leased assets must be stated properly. There should be proper offer and acceptance between both parties.

2)   Lease Rent.

The rent, period and purpose of the lease must be clearly specified. The lease rents are paid on a periodic basis. The ijara can be based on fixed rental or on floating rental. When an ijara transaction has floating rate option then on every lease period the rent can be renewed.  But, when the lease rent is agreed for a period of time then it cannot be changed except future rental.

For example: In an ijara contract, an asset has been leased for 4 years and the parties agreed that at every 6 months, the rent would be renewed. At the time of the new rent, the future rental can be changed but the agreed rental cannot be changed. The lease rentals can be changed only after the existent rental has been finished.

At the end of the ijarah contract, the lessee has 3 options to choose.

  • To return the leased asset to the lessor,
  • To renew the lease contract for another term,
  • To purchase the leased asset for a price that is fixed by the lessee on rental payments.

3)   usufruct

The usufruct or use of rect(benefit) of the leased item should be lawful and have value. When a subject an asset is leased then it must have a benefit which is transferred from the lessor to the lessee.

For example, a barren piece of land for agriculture purpose cannot be leased as there is no benefit in the barren land.

4)   Duration:

The duration of the ijarah contract must be specified in the contract. It normally starts from the date of execution of the contract unless a future date is agreed by both parties.

5)  Compensation

The lessor can claim compensation for any damage caused to the leased assets due to the negligence of the lessee. Normally, the lessor is responsible repairs expenses but if it is not the result of the lessee’s misuse or misconduct.

Classification of Ijara

Ijarah is classified into 2 parts:

  • Operating Ijara (ijarah tashgheeliah)Operating Ijara refers to the contract when lesser (owner) of an asset leases the asset to the lessee for a specified period but the ownership of the leased asset remains with the lessor at the end of the contract.
  • Financial ijarah (ijarah muntahia bittamleek):

Financial Ijara refers to the contract when Lesser (owner) of an asset leases the asset to the lessee for a specified period but ownership is transferred to the lessee at the end of a specific period.

How Ijara is Different from the Conventional lease

The lessor does not bear all the expenses incurred on the purchase of assets e.g. freight charges, custom duty etc..

Basis of distinction

Conventional finance lease

Islamic bank lease/Ijara

 Risk-bearer The lessee is responsible for any kind of loss to the assets.

 

 

 

The lessor is responsible for any kind of uncontrollable losses but if the loss is caused by the negligence of lessee, then lessee is responsible for such losses.
Maintenance and insurance

 

Maintenance and insurance is the sole responsibility of lessor.

 

Expiry

 

When the conventional lease is exp.d, the asset is normally transferred to the lessee as the lessor has recovered its cost which includes additional profit.

 

When ijara is expired, the asset remains with the lessor. The lessor either can renew the lease agreement or can take the asset back. He can also sell it to the lessee at the expiry of the lease contract

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