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BANK GUARANTEES

A risk management tool where the bank guarantees a stipulated sum to the beneficiary if the counter-party doesn’t perform its specific obligations under the terms of the contract.It gives small businesses the ability to prove their creditworthiness to the counter-party. Conduct business with confidence, even where you lack established relationships, through the use of guarantees and standby letters of credit.

Islamic Bank Guarantees

Need

Ensure that the buyer will pay the specified amount 

 

Conventional Product and Description  

Letters of credit provide a conditional payment guarantee to sellers that their buyers will pay the specified amount. This ensures payment is made (for sellers) and goods are provided (for buyers). 

 

Shariah-compliant considerations and alternatives 

Typically, Wakalah arrangements are used for Shariah-compliant letters of credit. Under these arrangements, the bank works as an agent for a client, such as a purchaser or supplier of goods. Unlike a conventional agency contract, where interest is paid, in a Wakalah arrangement the client pays the banks fees and commissions. 

 

Risks/Challenges

For the bank, the main risks are legal and documentation risks. For the buyers and sellers, it is a challenge if the other party is unable to perform their part of the contract (e.g. if the seller is unable to make payment, or the buyer is unable to deliver the goods as specified). 

 

Type of finance 

Both import and export finance

Wakalah Contract

Wakalah arrangements are used for Shariah-compliant letters of credit. Under these arrangements, the bank works as an agent for a client, such as a purchaser or supplier of goods. Unlike a conventional agency contract, where interest is paid, in a wakalah arrangement, the client pays the bank fees and commissions. In this case, the LC will be in the customer's name, but the full responsibility will be for the bank. The customer will show an applicant and has the full right to negotiate with the supplier directly. Bill of landing will be in the name of the bank, but invoice and other documents can be in customer's name.

How Wakalah cab help you

  • Wakalah is used in transferring money through the bank. The muwakkil appoints the bank as wakil and wakil will transfer the money to the selected customer.
  • Wakalah is used in letting and hiring, borrowing and lending, assignment of debt, guarantee, litigation, payment, and collection of trade bills, fund management, etc.
  • In the case of Letter of Credit commitment, the bank acts as a wakil on behalf of a client.

Kafalah Contract

Kafalah refers to a contract where the guarantor conjoins the guaranteed party is assuming the latter’s specified liability in the context of Islamic financial transactions. Kafalah is used to provide guarantee services, such as bank guarantee, standby letter of credit and shipping guarantee. It is also being used as one of the contracts to supplement various primary Islamic financial products, predominantly for risk mitigation purposes.

How Kafalah can help you

  • It can be used by the importer in the bank guarantees.
  • Kafalah can be used in other islamic contracts like Musharakah, Murabaha, slam and Ijarah.
  • It provides payment protection to both importer and exporter.

Murabahah Contract

This is the most common product in Shariah compliant trade finance. With murabahah products, buyers ask banks to import certain goods. The banks do this and then sell the goods to the buyers for a profit. In murabahah contracts, the bank typically uses its own capital to finance the letter of credit for such financing arrangements. In murabahah working capital products, firms are provided with working capital on a similar cost plus-profit basis.

How Murabaha can help you

  • Purchasing raw materials, inventory, equipment, machinery, inventory by business organizations, etc.
  • Asset financing, Import and Export Financing, Consumer goods financing, House Financing, Murabahah is used in various types of financing
  • No penalty can be charged in case of late payment.

Process To Secure Trade Finance

Each funding provider has specific requirements and criteria which must be addressed before funds can be advanced to a business.

Application

The process starts with an application from the business to the provider. When applying for trade finance, the provider will ask for a set of information on the company, the individuals involved (Directors) and details on why the business is seeking finance.

Evaluation

The evaluation process will normally involve some kind of credit scoring process, taking into account any vulnerabilities such as the market the business is entering, probability of default and even the integrity and quality of management.

Negotiation

Eligible SMEs applying for trade finance can negotiate terms with provider. An SME’s aim with a provider is to secure finance on the most favourable terms and price

Approved

Once all the due diligence is done, the funding amount will be aproved with all terms and conditions as greed in the signed documented contract. The funds will be issued to business to carry on their trade business.

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