Salient features of Islamic Banking

The fundamental difference between Islamic banks and the existing commercial banks is

the avoidance of riba in Islamic banking. Islamic banks are also universal or multipurpose banks

and not purely commercial banks - a cross-breed between commercial banks and investment

banks, investment trusts and investment-management institutions. Since the Islamic bank would

share in the risks of the consignment, venture, business or indemnity, it would need to be more

careful in the evaluation of applications. The activities of the bank will be based on the

commercial transactions allowed in Islam, including mudarabah, ijara,bai bi-thamin ajil and

murabahah. The objectives of these Islamic banks in general have been to promote, foster and

develop the application of Islamic principles, law and tradition to the transaction of financial,

banking and related business affairs. The main principles followed by the Islamic banks are:(a)

prohibition. of interest in all forms of transactions;(b) undertaking business and trade activities on the

basis of legitimate profits; and(c) giving zakat.

In Islamic banking on the assets side, investments can be undertaken using profit sharing modes

of financing (Mudarabah and Musharakah) and fixed-income modes of financing like

Murabahah (cost-plus or mark-up sale), installment sale (medium/long term Murabahah),

Istisna„/ Salam (object deferred sale or prepaid sale) and Ijarah (leasing). The funds are provided

only for such business activities which are Shariah compatible, but in the case of commercial

banking on asset side banks provide the facilities of running finance, cash finance, agriculture

finance etc which all are interest based and pre determined rate of interest is being charged from them. On

the liability side, deposits can be made either incurrent accounts or in investment accounts. The

former is considered in Islamic banks as Qard hasan (interest-free loan) or Amanah (trust). These

have to be fully returned to depositors on demand. Investment depositors are rewarded on the

basis of profit and loss sharing (PLS)method and these deposits share the business risks of the

banking operations. Using profit sharing principle to reward depositors is a unique feature of

Islamic banks. This feature along with the different modes of financing and the Shariah

compliant set of business activities change the nature of risks that Islamic banks face. In conventional

banking on liability side deposits can be made in term deposit, current deposit, saving deposit, on

saving and term deposit the account holder gets the fixed rate of interest every month or annually

but the treatment of current account is as like of Islamic banking

Moreover Islamic banks receive two types of deposits: (a) deposits not committed for investment

which takes the form of current accounts or savings accounts; and (b) deposits committed for

investment which are called investment accounts. The current account is operated in the same

way as it is operated in the conventional banking system, but the saving accounts and investment

accounts are operated differently.

1. Savings account

This is an account where customers can deposit their savings. Though the depositors allow the

bank to use their money, they get a guarantee of getting the full amount from the bank. The bank

guarantees their savings but is not obliged to pay any rewards to the savers. Some banks,

however, may pay cash rewards from their profits at the end of the financial year or give some

privilege to the holders of these accounts as for example providing financial assistance for small

projects

2. Investments accounts

The account holder authorises the bank to invest the money in any of its projects and after the expiry of the

specified period the account holder will get an agreed share of the profits. The facilities that are provided by

the Islamic bank will in general be similar to those provided by other commercial banks. Its customers

can maintain current accounts and deposit accounts, however no interest is payable. In addition, the customers can

deposit their moneys in the investment accounts in which the profits and h will be shared with the bank. The

Islamic bank can also provide services for the transmission and transfer of money, the purchase and sale of

currency and the financing of trade documents, for all of which the Islamic bank can charge commissions. In

addition, the Islamic banking business provided by the bank includes the methods of mudarabah, musyahrakah,

bai bi-thamin ajil, murabahab, wadiah and ijara.