In plain words

Imagine you want a car but cannot pay for it today. A friend who runs a trading business buys the car from the dealer in his own name, shows you the receipt, and sells it to you for that price plus a profit you agree together. You pay him in equal monthly amounts. If you fall behind, he cannot raise the price: you owe what you agreed, and nothing more.

That is murabaha. An Islamic bank does not lend you money for the car, because a fixed increase on a loan of money is riba, which Islamic law prohibits. Instead the bank becomes a trader for a moment: it buys the asset, owns it and carries its risk, then sells it to you at a price that openly shows its cost and its profit. The profit is allowed because it comes from a real sale of something the bank owned, not from renting out money.

Doing it properly is harder: the order of events decides whether the product passes its Sharia supervisory board.

How it works

How a bank murabaha works

Banks call it murabaha to the purchase orderer: the customer asks, the bank buys, then the bank sells.

  1. 1

    The customer asks and promises

    The customer chooses the asset and promises to buy it once the bank owns it. A promise is not yet a sale.

  2. 2

    The bank buys and takes possession

    The bank pays the supplier and becomes the owner. Until it resells, the asset’s risk is the bank’s.

  3. 3

    The bank sells at cost plus profit

    A new contract: the bank discloses its cost and profit, the customer accepts, and ownership passes.

  4. 4

    The customer pays the fixed price

    Usually in monthly instalments. The total was fixed at signing and cannot increase.

Animated diagram

A car murabaha in Dubai, one step at a time

The five steps of a murabaha car purchase Customer, bank and car dealer. 1: the customer promises to buy. 2: the bank buys the car for AED 120,000. 3: the bank owns it and carries its risk. 4: the bank sells it to the customer for a fixed AED 135,357. 5: the customer pays in 60 monthly instalments. CUSTOMER Layla Wants a car FINANCIER Islamic bank Buys, then sells SUPPLIER Car dealer Owns the car today STEP 1 Promise to buy A wa’d, not yet a sale STEP 2 Bank buys the car Pays the dealer AED 120,000 STEP 3 Bank owns the car Its risk until resale STEP 4 Sale at cost plus profit Fixed price AED 135,357 STEP 5 60 instalments AED 1,856 a month

Swipe sideways to see the whole diagram.

  1. Layla picks a car and promises to buy it once the bank owns it.
  2. The bank buys the car from the dealer for AED 120,000, invoiced in the bank’s name.
  3. For now the bank owns the car. If it were destroyed, the loss would be the bank’s. This risk is what makes the profit legitimate.
  4. The bank sells the car at its cost plus AED 15,357 profit. Layla accepts, and the price becomes a debt.
  5. After AED 24,000 upfront, Layla pays AED 111,357 in 60 instalments. Market rates can move; her price cannot.
The order is the whole point: promise, purchase, ownership, sale, payment. Swap any two steps and it is no longer a murabaha.

The word and where it comes from

Murabaha, مرابحة, comes from the root ر ب ح (r-b-h), the idea of profit or gain. It describes a sale in which both sides know the profit added to the cost.

Classical Islamic law counts murabaha among the “trust sales”, where the seller must state the true cost: a sale at cost plus profit (murabaha), at cost (tawliya) or at a loss (wadi’a). Classical jurists, among them al-Shafi’i, discussed a person who asks another to buy goods and promises to buy them from him at a profit. In the 1970s the Jordanian scholar Sami Hamoud showed how a bank could use that pattern, and murabaha to the purchase orderer, المرابحة للآمر بالشراء, became the workhorse of modern Islamic banking.

EnglishTransliterationArabicMeaning in the contract
Cost-plus salemurabahaمرابحةSale at a disclosed cost plus profit
ProfitribhربحThe bank’s markup
PricethamanثمنThe sale price, fixed at signing
Promisewa’dوعدThe customer’s promise to buy
AgencywakalaوكالةThe customer buys as the bank’s agent
PossessionqabdقبضThe bank’s real or constructive control of the asset
Security deposithamish jiddiyyaهامش جديةPaid with the promise to show seriousness
Compensationta’widhتعويضRecovery of actual loss from late payment
Rebateibra’إبراءWaiving part of the price on early settlement

How it differs from a conventional loan

A murabaha and a fixed-rate loan at the same rate produce the same monthly payment. The bank prices the profit with a profit rate, often benchmarked to EIBOR, SAIBOR or SOFR. The difference shows when something goes wrong.

Conventional loan

  • The bank lends money and is repaid with interest
  • The bank never owns the asset
  • Late payment adds interest the bank keeps
  • A variable rate can rise during the term
  • More time usually costs more

Murabaha

  • The bank sells an asset for a fixed price
  • The bank owns the asset, and its risk, before selling
  • The debt cannot grow; late charges go to charity or cover actual loss
  • The price cannot change once agreed
  • More time cannot mean a higher price
MurabahaConventional loan
OwnershipSupplier, then bank, then customerCustomer from the start; bank holds security
Asset riskThe bank’s, between buying and resellingNever the bank’s
What the bank earnsTrading profit on a sale it took risk onInterest for the use of money
Late paymentDebt fixed; charity undertaking or actual-loss compensation, by marketDefault interest and fees
Early settlementFull price owed; a rebate may be given, and in Malaysia must beInterest stops; a prepayment fee may apply

Try it

Murabaha or loan: what you actually pay

Move the sliders, then switch on the variable-rate loan and watch which payment moves.

Worked example: a AED 120,000 car with 20% (AED 24,000) upfront. The bank finances AED 96,000 at a 6% profit rate over 5 years. The deferred price is fixed at AED 111,357, including AED 15,357 profit, paid in 60 instalments of AED 1,856. A fixed-rate loan at 6% costs the same each month; a variable-rate loan would rise with rates, the murabaha cannot.

What makes it valid

AAOIFI’s Sharia Standard No. 8 is the most widely used rulebook for bank murabaha. 1 Other markets add their own rules, but the core conditions are shared.

01

Own before selling

A sale signed before the bank buys turns the product into a disguised loan.

02

Possession and risk

Physical or constructive, such as title documents or registration in the bank’s name, with the bank bearing any loss before resale.

03

A real, permissible asset

Goods that exist and are lawful. Money and debts cannot be sold by murabaha.

04

Disclosed cost and profit

Hiding a supplier discount breaks the trust the sale relies on.

05

A certain price

Price and payment dates fixed at the sale. Vagueness here is gharar.

06

No increase for time

Once the debt exists, it cannot grow for late payment or rescheduling.

The promise: binding or not?

The bank buys only because the customer promised to buy from it. If the customer walks away, the bank holds a car it did not want. The International Islamic Fiqh Academy held in 1988 that a one-sided promise is morally binding, and enforceable when the other party has incurred costs relying on it, with compensation limited to the actual loss; a mutual promise is allowed only if at least one side keeps an option. 2 AAOIFI takes a similar line, so the bank can typically claim the gap between its cost and the resale price. A promise binding both sides with no option is generally rejected, as it would be a sale of something the bank does not yet own.

The customer as the bank’s agent

Often the bank appoints the customer as its agent, under a wakala, to buy the goods in the bank’s name with the bank’s money. That is accepted if the roles stay apart: the customer buys as agent and notifies the bank, then the bank offers to sell and the customer accepts as buyer. Merge them and a Sharia audit will treat the deal as a loan.

Late payment, early settlement and security

Illustration

Who carries which risk, moment by moment

Risk in a murabaha over time Four phases: promise, bank owns, sale, repayment. The bank carries the asset risk only while it owns the asset, and after the sale carries only credit risk. If the customer breaks the promise, the bank resells and claims only its actual loss. 1. PROMISE Customer asks Supplier owns it 2. BANK OWNS Bank’s asset Bank bears loss 3. SALE Customer owns Owes a fixed debt 4. REPAYING Debt falls Price cannot rise ASSET RISK Carried by the bank CREDIT RISK ONLY The bank risks non-payment IF THE CUSTOMER BREAKS THE PROMISE AT STEP 1 OR 2 The bank resells the asset and, where the promise binds, claims only its actual loss

Swipe sideways to see the whole diagram.

The short window in the accent box is what separates a sale from a loan: for that moment, the bank owns something that can be lost.

Late payment. A murabaha has no default interest. Under AAOIFI’s approach the customer may undertake to pay a set amount to charity if late, and the bank may not keep any of it. 1 Bank Negara Malaysia’s Shariah Advisory Council also allows ta’widh, compensation for the bank’s actual loss, alongside a separate charge that goes to charity. 3 Others reject any payment to the bank. No view lets the bank charge more because time has passed.

Early settlement. Legally the customer owes the whole price, including profit for months not yet reached. Many scholars, following AAOIFI, allow the bank to give a rebate (ibra’) but not to promise it as a contractual condition. Malaysia went the other way: since a 2010 Shariah Advisory Council resolution, banks must grant ibra’ on early settlement of sale-based financing and write it into the documents. 3

Security. A mortgage or pledge over the asset, a guarantee, or the deposit taken with the promise. Security protects the fixed price; it never raises it.

What murabaha is used for

  • Cars, goods and equipment. The most familiar retail and SME use, especially in the Gulf.
  • Trade finance. The bank opens a letter of credit in its own name, buys the goods, holds the shipping documents as constructive possession, and sells to the importer at cost plus profit, often payable in one sum after 90 or 180 days.
  • Home finance in some markets. For long terms many banks prefer ijara or diminishing musharaka, because a fixed price cannot follow market rates over 25 years.
  • Treasury and interbank. Commodity murabaha on metals or palm oil lets banks place short-term funds: USD 10 million for 90 days at a 4% profit rate earns about USD 100,000 on a 360-day basis. When a customer buys a commodity only to sell it for cash, it becomes tawarruq.

Murabaha, ijara, musharaka and tawarruq

Two questions sort most cases: does the customer end up with an asset or with cash, and is the bank’s return fixed at signing or can it change?

Illustration

Where murabaha sits among its sibling contracts

A map of Islamic financing contracts A two by two map. Asset with a fixed return: murabaha. Asset with a return that resets: ijara and diminishing musharaka. Cash with a fixed debt: tawarruq. Capital with shared profit: musharaka and mudaraba. RETURN FIXED AT SIGNING RETURN CAN RESET OR IS SHARED CUSTOMER GETS AN ASSET Murabaha Sale at cost plus profit Short and medium terms Cars, goods, trade CUSTOMER GETS AN ASSET Ijara Also diminishing musharaka Bank owns, rent is reviewed Long terms, homes, fleets CUSTOMER GETS CASH Tawarruq Buy a commodity on credit Sell it on for cash Debated by scholars CUSTOMER GETS CAPITAL Musharaka, mudaraba Partnership in a business Profit shared at a ratio Losses follow capital ASSET CASH OR CAPITAL

Swipe sideways to see the whole diagram.

Murabaha is the simplest box on the map: a real asset and a price nobody can change. That is why it dominates short-term financing.
MurabahaIjaraMusharakaTawarruq
ContractSaleLeasePartnershipTwo commodity sales
Owner during the termCustomerBankBoth, in sharesA third-party buyer
Return can changeNoYes, rent reviewsYesNo
Best fitCars, goods, tradeHomes, equipment, long termsProjects, joint venturesPersonal cash needs

Across the Islamic world and beyond

Saudi Arabia

Islamic finance dominates Saudi retail banking. SAMA supervises it through a Sharia governance framework for local banks, and each bank’s Sharia committee approves its products. Murabaha is common for cars, goods and business finance; personal cash finance is mostly tawarruq. Scenario: a Riyadh dental clinic buys a SAR 80,000 chair by murabaha at a 5% profit rate over four years: 48 instalments of SAR 1,842, a fixed total of SAR 88,432.

United Arab Emirates

The Central Bank of the UAE has a Higher Sharia Authority, and since 2018 onshore Islamic banks and windows must follow AAOIFI’s Sharia standards. Car and goods murabaha are standard retail products, like Layla’s car on this page. The DIFC and ADGM free zones have their own regulators and rules.

Bahrain, Qatar and Kuwait

Bahrain hosts AAOIFI, and its central bank requires Islamic banks to apply AAOIFI standards. Qatar’s central bank closed conventional banks’ Islamic windows in 2011, so murabaha there comes from stand-alone Islamic banks. Kuwait’s Islamic banking sector is long established.

Malaysia

Bank Negara Malaysia regulates Islamic banking under the Islamic Financial Services Act 2013, and its Shariah Advisory Council rulings bind banks and courts. Ibra’ on early settlement is mandatory and ta’widh for late payment is accepted. 3 Commodity murabaha often runs on a local Islamic commodity platform using palm oil. Scenario: a Kuala Lumpur printing firm finances a MYR 60,000 machine at 4.5% over five years: 60 instalments of MYR 1,119. If it settles after two years, the bank must rebate the profit not yet earned.

United Kingdom

Since 2003, “alternative property finance” rules stop a purchase-and-resale structure, where a bank buys a property and sells it on to the customer, from paying stamp duty land tax twice. 4 Later Finance Acts taxed the profit like interest. The UK has a handful of Islamic banks; home finance is mostly ijara or diminishing musharaka, and murabaha appears more in commercial property, trade and treasury. Scenario: a Birmingham importer buys GBP 40,000 of textiles through a 90-day murabaha at a 6% profit rate and pays one fixed sum of GBP 40,591.78 on day 90.

Continental Europe and Turkey

Retail Islamic finance in continental Europe is small; Germany has a licensed Islamic bank, and France and Luxembourg have issued tax guidance on murabaha. Turkish participation banks use cost-plus sales as a main financing tool.

Building a murabaha product

Murabaha looks like an instalment plan. Underneath, it is a chain of events that must happen in order and leave evidence for the Sharia auditor.

01

Two contracts, two moments

Promise and sale are separate records, and the system blocks the sale until the purchase is complete.

02

Possession evidence

Supplier invoice in the bank’s name, delivery or registration documents, timestamps.

03

Agency steps

Appointment, the customer’s purchase notice, then a separate offer and acceptance in the app.

04

A ledger that knows it is a sale

A fixed deferred-price receivable, profit recognised over the term, and no way to add profit after signing.

05

Late charges and rebates by rule

A ring-fenced charity account, actual-loss caps where allowed, and rebates calculated per market.

06

Sharia sign-off and audit trail

Approved templates under version control, and a trail from promise to final instalment.

Compliance is decided per product by its Sharia board, not by the label. See why ignoring Sharia compliance can block your entire product.

Example: Layla’s car, from showroom to final instalment

Layla, a nurse in Dubai, applies in her bank’s app for murabaha financing of a AED 120,000 car.

  1. Promise. She signs a promise to buy the car from the bank and pays AED 24,000, which will count towards the price.
  2. Purchase. The bank buys the car from the dealer for AED 120,000, invoiced in its name.
  3. Sale. The bank sells it to her for AED 135,357: cost plus AED 15,357 profit, priced at 6% over five years. She owes AED 111,357 in 60 instalments of AED 1,855.95. The car is registered to her, with the bank holding security.
  4. A late month. In month 14 she pays nine days late. Her debt does not change. The late charge in her contract goes to the bank’s charity account, not its income.
  5. Early settlement. After 24 instalments, AED 66,814 of the price is left, of which AED 5,807 is profit for months not yet reached. With a full rebate she settles for AED 61,007; whether the bank must give it depends on the contract and the market.

Common misconceptions

“Murabaha is just interest with paperwork.”

The payment can match a loan, but the risk and rules do not: the bank owns first and the debt cannot grow. When a product skips the ownership step, the critics are right, and Sharia audits exist to catch it.

“Pricing off EIBOR makes it riba.”

Most scholars allow a benchmark to set the profit once, before the sale. What is not allowed is the price moving with it afterwards.

“Every Islamic bank handles late payment and early settlement the same way.”

Charity-only, actual-loss compensation, voluntary and mandatory rebates all exist. The market and the Sharia board decide.

FAQ

What is murabaha in simple terms?

Murabaha is a cost-plus sale. The bank buys the asset you want, tells you what it paid, and sells it to you at that cost plus an agreed profit, which you usually pay in fixed instalments.

Is murabaha just interest with a different name?

The monthly figure can look the same as a loan at the same rate, but the contract is different. The bank must own the asset and carry its risk before selling it, the price is fixed once agreed, and it cannot grow if you pay late or need more time.

What happens if I pay a murabaha instalment late?

The amount you owe cannot increase. Many contracts include an undertaking to pay a set amount to charity if you pay late, which the bank may not keep. Some regulators, such as Malaysia's, also allow the bank to recover its actual cost of the delay.

Do I get a discount if I settle a murabaha early?

It depends on the market and the contract. In Malaysia the rebate, called ibra', is mandatory and must be written into the documents. Elsewhere many scholars allow the bank to give a rebate but not to promise it as a condition, so check your contract.

What is the difference between murabaha and tawarruq?

In a murabaha you keep the asset you wanted, such as a car or goods. In a tawarruq you buy a commodity on credit only to sell it for cash, so what you end up with is money, which is why scholars debate it more.

Can a murabaha rate change after I sign?

No. The sale price is a debt fixed at signing. A bank can use a benchmark such as EIBOR or SAIBOR to set the profit, but only before the sale. For pricing that resets over a long term, banks use ijara instead.

Is murabaha used for home finance?

Sometimes. Some banks use it for homes, but for long terms many prefer ijara or diminishing musharaka, because a murabaha price cannot follow market rates over twenty years or more.

Related terms

TawarruqCommodity murabahaIjaraMusharakaDiminishing musharakaRibaWakalaSharia supervisory boardAAOIFIProfit rate

Sources

  1. 1 A

    AAOIFI Accounting and Auditing Organization for Islamic Financial Institutions: Sharia Standards, including No. 8 on murabaha

    https://aaoifi.com/
  2. 2 II

    International Islamic Fiqh Academy Resolutions 40-41 (2/5 and 3/5): Keeping a promise and murabaha to the purchase orderer

    https://iifa-aifi.org/en/32332.html
  3. 3 BN

    Bank Negara Malaysia Resolutions of the Shariah Advisory Council (ibra’ on early settlement, ta’widh)

    https://www.bnm.gov.my/-/resolutions-of-shariah-advisory-council-bank-negara-malaysia
  4. 4 LG

    legislation.gov.uk Finance Act 2003, section 73: Alternative property finance, land sold to financial institution and re-sold

    https://www.legislation.gov.uk/ukpga/2003/14/section/73