Islamic Banking Terms in Personal Loans Explained

If you're looking for a personal loan, you've probably come across those that are Syariah-compliant. These loans are in line with Islamic teachings. It's still relatively new in the banking world, but Islamic banking is definitely gaining recognition as an alternative form of personal financing.

But as it can still be confusing to those who don't understand it, we've compiled a short guide of terms commonly found in Islamic personal loan pages. Rather than see this as a definitive glossary, it's an introduction on what you need to know before you start applying for Islamic loans.

For Personal Loans in General

Gharar - Refers to financial dealings of unfair practices or contains an element of excessive deceptive uncertainty/risk. In short, these include investments involving high risks and where the Aqida (consequence) is not sufficiently known. For instance, as gambling and short-selling are considered Gharar and are not allowed in a Syariah-compliant business entity.

Hibah - Because interest-giving (riba) is against Syariah law, banks may instead award a token ‘gift’ to customers with saving accounts. Although in principal it sounds similar to interest given by conventional banks, hibah is voluntary at the sole discretion of the bank.

Wadiah - Wadiah is the concept of custody or safekeeping (Amanah) and refers to deposits customers make into their accounts. In return they occasionally receive hibah as a token gift from the bank. Also applies to other services such as deposit boxes and custodial services.

For those purchasing a car

Ibra’ - Loosely translated as the ‘waiver on right to claim’, ibra’ is the waiving of the right to collect further monies owed when customers settle their loans ahead of the agreed settlement period. This essentially means that the bank will only charge interest (or profit as referred herein) up to the date of settlement and not for the entire term as agreed in the agreement. This only applies to sale-based financing such as a hire purchase. Bank Negara Malaysia has recently released a guideline for ibra’ urging more Islamic Financial Institutions to take up the practice so expect to see this new feature pop up a lot in banks.

Ijarah Thumma Bai’ - The Islamic approach to hire purchase loans; the process incorporates a two-phase contract between bank and debtor. Instead of lending the money, the bank acquires the vehicle on behalf of the customer and leases it them on an agreed term and price. This part of the contract is called Ijarah. Once the conditions of the tenure have been met the second contract, Bai comes into effect officiating the purchase of the vehicle and transference of ownership.

Qard - Shorten from Qard Hassan which means a good or benevolent loan. It layman terms qard is an interest-free loan given on a goodwill basis on a fixed period. The borrower is not charged any interest but may pay more than the principal amount as a gesture. This practice is at the discretion of the borrower however and is not a guaranteed outcome of every transaction.

For those looking to buy a home

Murabahah - The concept of Murabahah cannot be termed as a loan but is more of a purchase of some commodity or property which is then sold to the customer on a deferred payment schedule which includes an amount of profit. It is, like the Ijarah Thumma Bai, a sale and not a financing facility. As such, before a transaction is agreed upon the seller must provide information on actual cost, profit margin and all additional charges on an asset. This form of transparency is to ensure that all financial agreements are made in good faith and protects the interest of both parties and adheres to the term of being a sale and not a loan. Murabahah cannot be affected on anything that isn’t a sellable commodity or property, such as payment of salaries or debts.

Musharakah - A form of joint venture where a contract is drawn between two or more parties and profit is shared according to an agreed profit/loss sharing ratio. In the context of real estate and property the bank will assess imputed rent and share the rates in advance before the final agreement. You will see this term often if you are looking into applying for an Islamic home loan.

Wakalah - The Islamic concept of ‘power of attorney’. In this context the bank would act on behalf of the customer to deal with particular business undertakings. It is an ‘investment service’ offered by the bank according to Syariah principles. Under the Wakalah system, the bank is able to charge a fee for the investment ‘service’ rendered. Upon cancellation, the investor will be given the net amount invested after the requisite fees have been excluded.

Islamic banking in Malaysia isn't that foreign from conventional financial institutions. Other than the aversion to interest-based transactions, Islamic personal loans operate on a co-operative system that's meant to encourage profit-sharing and fair trading.

So if you're shopping around for the best rates, it's best to consider all options available. Check out the list of Syariah-compliant banks with competitive rates and offers on Bank Negara Malaysia, and hopefully you'll find one that may reflect your current financial needs.

This was brought you by Brendon Lee from RinggitPlus.com. RinggitPlus compares credit cards, personal loans and home loans to help Malaysians get more for their money