Weekly word: musharaka

October 12, 2011

Musharaka is the Islamic financial concept of a joint venture or equity partnership.  Two or more parties provide the capital (which distinguishes it from mudarabah, in which one party generally provides the capital and the other party manages the asset).  Because the profits and risks are shared, musharaka is considered the “purest,” or most truly Islamic, form of sharia finance.  One source offers this definition:

Musharaka is a form of partnership between an Islamic bank and its clients whereby each party contributes to the partnership capital, in equal or varying degrees, to establish a new project or share in an existing one, and whereby each of the parties becomes an owner of the capital on a permanent or declining basis and is owed its due share of profits.  Losses, however, are shared in proportion to the contributed capital.*

Musharaka can be used for home loans, often under a diminishing musharaka model in which the home buyer takes on a greater equity in the home over time, and the bank has gradually diminishing equity.  But musharaka can be applied to any project or asset:

Sharia joint venture chart

There are several problems with musharaka.  Although musharaka is more “Islamic” than murabaha (which employs a “markup” similar to conventional interest charges), musharaka is used less often than murabaha arrangements.  Musharaka can end up costing a borrower more than a conventional loan, thus tarnishing the (false) notion that Islamic banking is more “ethical” and generous than conventional Western-style loans.  The larger profits for the Islamic banks owing to musharaka also means larger pots of money for the sharia advisors to play with.

Still, musharaka is gaining in popularity among Arab investors, and musharaka has become the primary method used to structure sukuk (Islamic bonds).

* Kettell, Brian B., Introduction to Islamic Banking and Finance (Chippenham:  John Wiley and Sons, 2011).


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