The different types of ijara contracts
In the Islamic banking lexicon, ijara means to rent something — the services of an individual for which wages are paid, or the transfer of the right to use and enjoy the benefits of an asset in return for a specified rent.
Ijara contracts have come to be widely regarded as having immense potential to aid the short-term needs of individuals and entrepreneurs. They are flexible, and favoured by business managers who want the freedom to upgrade manufacturing equipment as technological advances demand.
Each form below is a distinct agreement with its own working principles, and every one of them sits inside ijara financing as the site describes it elsewhere.
The four forms of ijara
Each varies in its working principles, and all are rooted in the guidelines laid down by Sharia law.
Simple ijara
The owner continues to exercise ownership rights, bears the maintenance costs and carries the risks arising from use. It is a short-term contract the lessee may leave at any time after giving notice. Sharia scholars regard this as the purest form, being closest to the classical ijara agreement. It is used where assets are expensive and subject to quick technological upgrades — aircraft, ships, heavy machinery.
Ijara-thumma-al-Bay
The lessee has the option to buy the asset at the end of the contractual period at a pre-fixed price. Ijara-thumma-al-Bay shares many points of similarity with the conventional financial lease. The bank funds the purchase and earns by way of the rent; the lessee uses the asset without paying its full price at once, and can become its owner once the contract terminates.
Ijara with Musharaka or Mudaraba
Both parties contribute to the equity of the partnership in a pre-determined ratio, with the bank acting as agent and manager under Musharaka or Mudaraba. One of the most preferred forms in housing finance. The rent buys out a portion of the bank’s stake, so a point arrives when its stake reaches zero and it ceases to be an owner.
Sale-and-lease back
The individual sells an asset or property they own to the bank, then leases it back for a specified period and pays rent for its use. The bank owns the asset during that term, and at the end of the contract period transfers the right of ownership back to the customer.
