Mudarabah

MUDARABAH

Mudarabah

MUDARABAH

Overview

·   Meaning of Mudarabah
·   Example of Mudarabah
·   Important Principles of Mudarabah
·   Types of Mudarabah
·   Differences between Mudarabah and Musharakah

Meaning

The word “Mudarabah” is derived from the Arabic word “al-darb fi al-ard” which literary means ‘to travel across earth’.
Mudarabah is a type of partnership where a party known as (Rabb-ul-Maal) provides the funds for investing in a commercial entity, while another party (known as Mudarib) provides management expertise. Both the partners will share the profit according to the terms and condition agreed at the time of contract. In case of Islamic banks, the depositors are called Rabb-ul-Maal and the bank is called Mudarib. The Rabbul-Mal cannot interfere with the daily management, but he has every right to lay down the conditions that would ensure better management of his investment. Therefore, he is also known as a silent partner.

Example

In a mudarabah transaction, the rabbul mal provides capital. The Mudarib invest that capital in the venture by using his skills and expertise. The profit generated by the venture is shared between Mudarib and investor according to profit sharing ratio which is agreed between the partners at the time of entering into mudarabah contract. Mudarib should not be paid any salary if the project has incurred a loss.

Important Principles

  • Parties involved:
There are two parties involved in Mudarabah contract. The party who finance the project (investor) are called “Rabb-ul-Maal” and the party who undertakes management (manager) is known as Mudarib.
  • Capital:
The capital in the Mudarabah contract can be in cash or can be tangible assets. The cash or tangible asset should exist at the time of entering into a contract. Also, one cannot put a debt which is to be realized in the Mudarabah as a capital.
  • Profit distribution:
The profit sharing ratio should be decided at the time of entering into a contract. The profit sharing ratio has to be a proportion of the profits and the payment cannot be in the form of a fixed amount or any percentage of the capital employed. Also, the earned profits cannot be distributed before all the expenses have been paid.
  • Loss:

The loss of the business is always borne by the rabbul-mal. It should not be borne by Mudarib but in a condition when it is proved that there is negligence, misconduct or breach of trust done by Mudarib. The investor has to ensure that Mudarib has invested money with caution.

  • Guarantee:

The Mudarib(manager) will not provide guarantee either with respect to capital or the profit.( for example., that there will be a certain percentage of profit)

  • Termination of Mudarabah:

The Mudarabah contract can be terminated by any of the two parties at any time as per the terms and conditions of the contract.

Types of Mudarabah

Mudarabah is typically classified as restricted mudarabah and unrestricted mudarabah. These are explained as below:-

  • Restricted: The rabb-ul-maal specifies a business in which the Mudarib has to invest, This is known as restricted mudarabah or al-mudarabah al-muqayyadah.
  • Unrestricted: If rabb-ul-maal does not specify a business in which the Mudarib has to invest, it is known as an unrestricted mudarabah or al-mudarabah al-mutalaqah.

Distinction between Musharakah and Mudarabah

Basis of Distinction

Musharaka

Mudarabah

Concept

Musharaka is basically a partnership between two or more parties (banker and client). They enter into a contract by mutual consent to contribute capital (in cash or in kind, no debt is accepted) and share profit and loss of the enterprise.
Mudarabah is a special kind of partnership a partner (rabbulmal) provides the capital to the other partner (mudarib) for investment in a commercial enterprise.

Investment

Investment comes from all parties
Investment is the sole responsibility of Rabbulmal

Parties involved

Two or more than two parties are involved.
Only 2 parties are involved Mudarib and Rabbulmal

Participation in Management

All the partners are permitted to participate in the management of the business.
Rabbulmal cannot participate in the management. Management is carried out by the mudarib only.

Liability

It is normally unlimited.
The liability of rabbulmal is limited to his investment, except in a condition where he has permitted the mudarib to incur debts on his behalf.

Assets

All the assets of the Musharaka is jointly owned by partners according to the proportion of their corresponding investment.
All the goods purchased by the mudarib are only owned by the rabbulmal.

2 thoughts on “Mudarabah

  • JazakALLAHukhyran sister for sharing this information. Islamic Finance is no doubt an better alternative to commercial banking putting the economy on interest.

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