Benefit of Using Islamic Account in the UK - Case Study Example

Benefit of using Islamic account in UK Name Course Instructor’s Name June 17, 2010 The finance industry and the Islamic banking are developing at a yearly rate of more than fifteen percent (Abdul-Rahman, 2010). Several international and local institutions have marched into this multi-billion dollar successful industry by instituting its Islamic wings and component (Iqbal & Llewellyn, 2002). In spite of the Islam population being very few in most parts of the country as compared with the entire total population, a considerable development has been noted in the previous years with the foundation of ceylinco profit sharing, Amana and others. According to researchers it has been discovered that the largest state possessing commercial bank, bank of Ceylon plans to begin its Islamic banking entity very soon (Abdul-Rahman, 2010). All the new entities entails that this substitute banking system has captured the attention of several Muslims including the non Muslim ones out of its unique growth characteristic. The fundamental principle with the Islamic accounts is the code of justice that is an important need for all types of Islamic financing. In profit division from a financed project, the banker and the beneficiary divide up the actual/net profit or loss instead of tossing the risk encumber to the entrepreneur only. The code of justice and fairness entails that the net output of a similar project must be fairly shared between the banker and the beneficiary. If the banker is expectant of allege on income of a project, he should be willing to carry a relative division of the loss of that similar project. In contrast with conventional finance approaches, Islamic banking is not centered when it comes to credit value and capability to pay back the loans and interest; in its place the value and profitability of a project are the crucial criterion of Islamic banking while the capability to pay back the loan is sub-divided under profitability. As compared with conventional banks, the funding of Islamic banks are limited to valuable goods and services and desist from alcoholic drinks and tobacco or ethically undesirable services such as pornography and casinos, irrespective of legality or not of such goods and services in a mentioned country. The most unique and outstanding characteristics of Islamic accounts is the incorporation of principled and moral standards with its banking procedure (Hassan & Lewis, 2007). The desirable and moral contemplation of Islamic accounts cannot be disconnected and their deeds should be unswerving with the ethical and moral principles put down by the Islamic shari’ah (Iqbal & Llewellyn, 2002). Another vital characteristic that forms the foundation for the growth of Islamic banks is the association with the depositors. They transact with their clients on investment basis instead of prearranged set interest rate (Abdul-Rahman, 2010). They put in the money of their depositors on greater profitable projects after passing through a strategic analysis so as to give a considerable return to their depositors. Therefore in Islamic banking system, every bank endeavor to out perform several other banks if at all it desires to attract finances from investors, and the vital effect is that a greater outcome on investments for the client who is investing, that is dubious in other conventional bank where it transacts with their depositors on a programmed set interest rate. In addition, Islamic banks do away with the hindrance between the customers who saves and the ones who are investing, and draw them nearer to the actual market. The character of the financial intermediation of Islamic accounts notably reschedules from conventional banks and it is in agreement with the actual market and growth transformation in it (Abdul-Rahman, 2010). How does the system work? The Islamic banking system works under the following ways; (1) Investment financing; this is usually performed in three major means that is- a) Musharaka - this is where a bank can collaborate with another unit to set up a combined venture, both groups getting involved in the several phase of the project in varying levels (Iqbal & Llewellyn, 2002). Loss and profits are divided in a pre-determined style, which is not very unlike from the combined venture idea. The venture is not a dependent legal unit and the bank can take out steadily after an initial episode (Schoon, 2009). b) Mudarabha - this is where the bank gives the funds and the customer offers the proficiency, labor and organization (Hassan & Lewis, 2007). Profits are divided by both the parties in a pre-determined proportion, incase of a loss the bank borne the total loss (Saeed, 1996). c) Funding on the grounds of an anticipated fee of return; in this method, the bank anticipates the desired fee of return on the particular project its requested to fund and supply financing on the comprehension that, at least that fee is to be paid to the bank. If the income is lower than the anticipated the bank will agree to the lower fee, and incase a deficit has occurred the bank will be given a portion of it. 2) Trade financing; this can be done in multi ways. The major ones are; a) gain up where the bank purchases a product for a customer and the customer accepts to pay back the price and an accepted profit thereafter (Abdul-Rahman, 2010). b) Leasing whereby the bank purchases a product for the customer and leases the product to him for an accepted season and after the termination of the agreed season the lessee pays back his balance on the price accepted at the commencement and later he becomes the possessor of the product. c) hire-purchase whereby the bank purchases the product for a customer and hires the product to him for an accepted rent and season, and at the termination of that season the customer automatically becomes the possessor of that product (Hassan & Lewis, 2007). d) Sell and buy back whereby the customer trades one of his belongings to the bank for an accepted fee being paid on condition that the trader will purchase the item back after definite time for an accepted fee. e) Letters of credit whereby the bank gives assurance to the trade in of a product by use of its own finances for a customer, on the fundamentals of dividing the income from the sale of such products or on a gain-up basis (Khan, 2010). 3) Lending - the major means of lending includes a) Issuing of loans with a service allege whereby the banks loan money with no interest though they cover up their operating cost by levying a service allege (Hassan & Lewis, 2007). This alleges can be subjected to an utmost position by the authorities (Saeed, 1996). b) b) No cost loans whereby every bank is anticipated to put aside a portion of their money to donate no cost loans to deprived people like small farmers, manufacturers, entrepreneurs etc and to in need customers. c) Use of overdrafts which are also provided, focus to a certain utmost, free of cost (Iqbal & Llewellyn, 2002). Differences between Islamic account and conventional accounts The performance and operating means of Islamic account are founded on the doctrine of Islamic shariah while the performance and operating means of conventional accounts are founded on wholly manmade doctrines (Abdul-Rahman, 2010). In a conventional account the investor is guaranteed of a prearranged rate of interest while in Islamic account it promotes risk distribution between entrepreneur and the investor (Lewis & Algaoud, 2001). Islamic accounts focuses at utmost incomes though subject to shariah limitations while conventional accounts focuses at utmost income with no any limitations. Conventional accounts have nothing to do with Zakat while in modern Islamic system; banks are a collection centre with payment of Zakat. In conventional banks lending money and being repaid with compounding interest is a basis function while in Islamic banking involvement in partnership business is the basis function (Abdul-Rahman, 2010). Conventional banks may charge additional funds in case of debtor while in Islamic banks they charge no extra cost in case of defaulters (Iqbal & Llewellyn, 2002). They only ask for minute amount for compensation Conventional banks in most cases results in banks own interest being prominent (Lewis & Algaoud, 2001). It adds no effort in ensuring development with equity. As for Islamic banks it offers due significance to the local interest with an aim of ensuring development with equity. Since profit from advances is set in conventional banks, it gives minimal significant to growing proficiency in project evaluation and assessment. As for Islamic banks since the loss and profit is divided, the bank give higher attention to growing project assessment and evaluation. Islamic banks emphasizes on the practicability of projects while conventional banks emphasizes on credit –value of the customer (Khan, 2010). In a conventional bank the status in relation to the customers, is the one for debtor and creditors while in Islamic banks the statues in relation to the customers, is the one for partners, seller traders and buyers. Conventional banks must guarantee all of its deposits, while in Islamic bank it assures deposit for deposit account (Kettell, 2010). Benefits between the above accounts Conventional banking systems assumes the banks gets profits by buying deposits from the customers who deposit money at a less interest rate (Abdul-Rahman, 2010). Then selling back the money to the borrower at a greater interest rate, founded on its competitive advantage at collecting information and underwriting risk, hence this banks benefit by making profit through the distribution between the interest rate gained from borrowers and interest rate paid back to depositors. On the other hand the principles based on financial transactions in Islam account that there must not be a reward without risk taking, which is applied to both capital and labor (Hassan & Lewis, 2007). The bank benefits from exposing customers to learn how to take business risks for there is no compensation for capital if at all there is no exposure to business risk (Kettell, 2010). The customers in return, becomes familiar with business risk Reference Abdul-Rahman, Y., 2010. The Art of Islamic Banking and Finance: Tools and Techniques for Community-Based Banking. New York: John Wiley and Sons. Hassan, K. & Lewis, M., 2007. Handbook of Islamic banking. London: Edward Elgar. Iqbal, M. & Llewellyn, D., 2002. Islamic banking and finance: new perspectives on profit sharing and risk. London: Edward Elgar. Kettell, B., 2010. Frequently Asked Questions in Islamic Finance. London: John Wiley and Sons. Khan, M., 2010. Islamic Banking and Finance in the European Union: A Challenge. London: Edward Elgar. Lewis, M. & Algaoud, L., 2001. Islamic banking. London: Edward Elgar. Saeed, A., 1996. Islamic banking and interest: a study of the prohibition of riba and its contemporary interpretation, 2nd Ed. New York: Brill Publishers. Schoon, N., 2009. Islamic Banking and Finance. London: Spiramus Press Ltd. Read More