mudaraba

(profit sharing)

mudaraba, Also known as mudarabah, modarabah and modaraba.

Mudaraba is a profit sharing contractual arrangement between an investor (Rab al Maal) and a managing trustee (Modareb). The Modareb invests the funds provided by the investor in permitted business ventures and returns to the investor the principal and a pre-agreed share of the profit.

The significant characteristics of the Mudaraba are:

• The division of profits between the two parties is on a proportional basis and cannot be a guaranteed return.

• The investor is not liable for losses beyond the capital it has contributed.

• The Modareb does not share in the losses except for the loss of its time and efforts.

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Islamic finance

+ International, USA

mudaraba, Also known as mudarabah, modarabah and modaraba.

An Islamic finance technique in which a lender or investor (the rab al maal) and a borrower or investment manager (the mudareb) establish a profit-sharing partnership to undertake a business or investment activity. Under this structure, the rab al maal provides the financing or funds and the mudareb provides the professional, managerial and technical know-how to carry out the business or manage the investment. The mudareb must invest the funds on a Sharia-compliant basis (for example, the funds cannot be invested in prohibited (haram) products or activities such as tobacco, alcohol, guns or gambling). The mudareb earns a fee (which is deducted from any profits) for managing the funds or business and the parties share in any profits in accordance with a pre-agreed ratio. Losses, however, are borne entirely by the rab al maal.

The mudaraba structure is used:

• To manage investment accounts. In this case, the bank is the mudareb and the depositor is the rab al maal. The bank manages the funds on deposit in exchange for a fee and bears no liability for any losses that may occur (other than for negligence). At the end of the contract, the bank is obligated to return the capital (plus the depositor's share of any profits) to the depositor minus any losses (if any) and fees.

• As a financing mechanism. In this case, the bank is the rab al maal and the borrower is the mudareb. The borrower manages the funds in exchange for a fee and bears no liability for losses that may occur (other than for breaches of the agreement and negligence). The borrower is obligated to return the capital to the bank minus losses and fees.

The mudaraba structure is similar to the musharaka structure, except that in a mudaraba the mudareb:

• Puts only its time and effort at risk and does not contribute any capital.

• Is not responsible for any losses of the venture.