Morabaha and leasing are not originally modes of finance. However, to meet certain specific needs where ideal modes like Musharaka or Mudaraba are not workable for whatever reasons, they have been reshaped and allowed in Shari'ah subject to certain conditions.

1. Leasing described For leasing, IJARAH is an Arabic term with origins in Islamic Fiqah, meaning to give something to rent. There are two types of Ijarah. One relates to employing or hiring the services of a person for wages whereas the second type relates to the hiring of any asset or property in order to reap its benefits without the transfer of ownership, or what is called in English "Usufrukt". The price or consideration of this is the rent.

   It is the second type of Ijarah which is the subject matter of the discussion here because it is generally used as a form of investment and also as a means of finance.

   As described earlier, in the light of the two basic cornerstones of Shari'ah, leasing is a contract whereby usufruct rights to an asset are transferred by the owner, known as the lessor, to another person, known as the lessee, at an agreed-upon price called the rent, and for an agreed-upon period of time called the term of lease.

2. Lease as a mode of financing Strictly speaking leasing is not a means of finance as originally envisaged. It is simply a transaction much as a sale/purchase. As described above, the leasing transaction simply denotes the transfer of the usufruct of a property from one person to another for an agreed-upon price called rent without transferring the corpus i.e. ownership of that asset. Accordingly, the rules of "leasing" closely resemble the rules governing "sale" because in both cases something is transferred to second person for valuable consideration.

   Leasing differs from sale only in-so-much-as not transferring the corpus or ownership of the property which remains with the transferor. As such in Shari'ah, a lease transaction is governed by a separate set of rules, which we shall outline in the following paragraphs.

   Although leasing, as originally conceived, is not a means of finance, the financial institutions and the corporate world have adopted it as such. Due to several factors (including tax concessions, etc.), instead of providing an interest-bearing loan, certain financial institutions in the West started to provide requisite equipment to their customers. To arrive at the rent, the total cost of the asset is calculated plus interest or mark-up to be recovered during the period of lease on a monthly or quarterly basis. This type of lease in the West is known as a finance lease, to be distinguished from an operating lease, wherein various basic features of the leasing transaction are ignored which is tantamount to Riba.

   Knowing that leasing is lawfully allowed under Sharia'h, since it meets one of the basic criteria of asset-based finance, a number of Islamic financial institutions have adopted leasing on this model as carried out by conventional financial institutions without making the necessary modifications that really conform to the rules under Sharia'h, particularly in regards to assuming the risk of ownership in the leased asset. Great care needs to be exercised to ensure various Sharia'h requirements, as rendered below, based on the basic two principles of:

   1. Asset based finance, and;
   
   
   2. Assuming a risk element connected to the ownership of the asset.
   
   
   
3. Basic Rules of Leasing

   The description or definition given above, under part A, contains the following essential ingredients for outlining the basic rules under Shari'ah:

   1. That it is a contractual obligation.

   2. That there has to be a valuable use of the asset and transferability of that usufruct.

   3. That the ownership of the asset is retained by the transferor or lessor throughout the lease period. Consumable articles cannot be leased.

   4. That the risk and liabilities of ownership lie with the lessor. The leased asset shall remain the risk of the lessor throughout the lease period. Any loss or harm caused by factors beyond the control of the lessee shall be borne by the lessor. However, the lessee is liable to compensate the lessor for any harm to the leased asset caused by any misuse or negligence on the part of the lessee.

   5. That the risk and liabilities associated with the use of the asset shall be borne by the lessee. For instance, taxes and other government levies, utilities, etc. However, the contract must specify these items for clarity's sake.

   6. That the term of the lease, period of the lease, its renewal or early termination must be stipulated.

   7. Purpose of use. The lessee cannot use the leased assets other than for the purpose specified in the contract or agreed to by the lessor expressly.

   8. Commencement of lease. The lease commences from the date of delivery of the asset to the lessee and not from the day of payment or lease agreement, with reference to the commencement of rentals.

   9. Determination of rental. The rent for the entire period of the lease must be determined at the time of the contract. Different rates of rent for different phases during the lease period are permissible. This point will be elaborated in the following discussion of the issues.

4. Issues

   While operating a leasing business, a number of practical issues have cropped up which warrant discussion and interpretation under Sharia'h. An exhaustive and conclusive list of such issues is impossible to make. However, certain important and salient issues need to be taken up in these discussions as follows:

   1. Joint ownership (Lessors)/Joint Lessees - (permissible)

   2. Insurance - Islamic Takaful - (by the owner)

   3. Renewal of or variation in the lease period - (permissible if mutually agreed-upon)

   4. Future date. Agreement to commence lease on some future date is allowed. However, the rent has to commence from the date of delivery. If the lessee has paid the price and delivery of the asset is delayed by the supplier, then no rent is liable to be paid for the period of delay. It must be noted that future or forward sale in sale/purchase transaction is not permissible in Sharia'h. This is another major point after ownership transfer which differentiates leasing from a sale/purchase transaction under Sharia'h.

   5. Acquisition of an asset by the lessee. For various reasons, the asset subject to lease may be acquired by the lessee and payment may be dibursed? through him by the lessor. This is permissible under Sharia'h on the principles of agent and principal. Here there are two relationships separate from and independent of one and other. The first relationship is that before becoming a lessee, an individual acts as an agent for and behalf of the lessor to acquire the asset. This is an independent arrangement. Once the asset has been acquired with all the risk and reward of ownership to the lessor, then a second relationship is created i.e. the lessor and the lessee under the lease agreement. That cost of acquisition shall be borne by the lessor being owner and not by the lessee.

   6. Rentals.

   1. Advance rentals are admissible subject to the condition of adjustment against the actual rental when due upon commencement of the lease as discussed before.

   2. Unilateral increase by the lessor is not permissible even if stipulated in the contract.

   3. Bench marks. The fixing of any bench mark for determining the amount of rent, as with an inflation index etc., is permissible provided that the lease agreement clearly stipulates the same e.g. if the inflation rate as declared by an authoritative body like the State Bank etc. is said to be 10% per annum, then the rent can be increased every year by that percentage.

   7. Penalty for late payment of rentals. Penalty or compensation for late payment is not permissible. Rentals once due become a debt obligation or monetary asset which cannot generate profit under Sharia'h. This situation has been exploited by unscrupulous lessees. In such circumstances, contemporary scholars have provided a solution whereby a penalty can be charged to the lessee for delayed payment though the amount recovered is only to be used for charitable purposes by the lessor. In other words, the late payment charges cannot be taken as income by the lessor. A suitable clause, therefore, is to be incorporated into the lease agreement to avoid any misunderstanding in this regard.

   8. Premature termination of lease. Premature termination of lease is allowed provided that the lessee has violated or contravened the terms of the lease or it is by mutual consent of the lessee and the lessor. Any unilateral or unconditional termination of the lease either by the lessor or the lessee without prior notification is contrary to the principles of justice and equity, hence not allowed under Sharia'h.

   9. Repossession of an asset. In the event of early termination, or upon maturity of the term of lease, assets have to return to the lessor unless he voluntarily relinquishes his rights or makes a gift of the leased assets to the lessee. However, rent would be payable only upto the date of termination and not beyond. Entitlement or the right of the lessor to claim rent from any period after termination, even if expressly stipulated in the contract, is not valid under Sharia'h.

   10. Residual value. It is accepted under Sharia'h that ownership of the asset belongs to the lessor and, therefore, assets should revert back to him upon expiry of the lease. Any stipulation to the contrary in the contract that the lessor can sell or transfer the asset to the lessee upon the expiry of the term of the lease at a pre-determined price called residual value is not considered valid from the point of view of Sharia'h. However, this point is currently a subject matter of debate among contemporary scholars. They are of the view that if a lessor unilaterally undertakes or promises to transfer the ownership to the lessee as a gift or at a token price separate from the lease agreement, then this can be considered validly binding on the lessor at the option of the lessee.

   11. What is imortant is that under Shari'ah the leasing and sale/purchase transactions are two separate things and should not be mixed up in one contract, as both are independent and governed by separate rules. Nothing, however, in Sharia'h stops the lessor from giving away the ownership of his assets at his own discretion or good will toward the lessee at any mutually agreed-upon price or as a gift upon the expiry of the leasing contract.

   12. Sale and lease back. This is allowed, but only as two separate transactions. That in the first place there is a sale of assets to be purchased by the lessor. This is governed by Sharia'h rules of sale/purchase at a fair market value. Once the ownership title is validly passed on to the lessee, a lease transaction can then be executed separately through a lease agreement.

   13. Sub-lease. Sub-lease by the lessee is permissible under Shari'ah subject to the consent of the lessor and can be expressly outlined in the lease agreement. In Sharia'h, however, there are divergent views if the rent arising from the sub-lease is higher than the rent payable on the original lease. Some scholars allow the differential to be retained by the lessee while others feel that the surplus received from the sub-lease should be passed on to the owner i.e. main lessor.

   14. Assigning of the lease. Also permissible under Shari'ah, the lessor can sell the leased assets to a third party along with his rights and obligations. The relationship between lessor and lessee in this case will be determined between the new owner and the lessee. However, the lessor cannot assign the lease without transferring the ownership for monetary consideration. Here the basic Sharia'h cornerstone of asset-back transaction is not there. Rent receivable are debt obligation which cannot therefore be transacted for a monetary price. Assignment of lease rentals without monetary consideration is, however, not prohibited in Shari'ah.

   15. Securing of the lease. Leased assets can be secured along the same principles governing the assignment i.e. ownership of assets along with the rent. Rent alone without ownership of the assets cannot be secured for the reason of being a debt obligation as discussed before. Securing a lease can be made wholly or partly to one party or to a number of persons. Documentation has to be carefully prepared to ensure the securing instrument represents assets and not the debt or monetary obligation alone.