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Understanding Salam Contracts

This document defines and describes Salam, an Islamic financing contract where a buyer pays in full for future delivery of a commodity. Key points: 1) Salam allows farmers to receive upfront financing for crops by selling the future harvest at a pre-agreed price, meeting farmers' needs for funding until harvest. 2) It requires full prepayment at contract signing and specifies delivery date, place, and commodity details without ambiguity to avoid disputes. 3) Mezaan Bank uses Salam to provide crop financing, purchasing commodities from producers through parallel Salam contracts and earning a profit by selling to clients at a higher price.

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Aabroo Fatima
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42 views3 pages

Understanding Salam Contracts

This document defines and describes Salam, an Islamic financing contract where a buyer pays in full for future delivery of a commodity. Key points: 1) Salam allows farmers to receive upfront financing for crops by selling the future harvest at a pre-agreed price, meeting farmers' needs for funding until harvest. 2) It requires full prepayment at contract signing and specifies delivery date, place, and commodity details without ambiguity to avoid disputes. 3) Mezaan Bank uses Salam to provide crop financing, purchasing commodities from producers through parallel Salam contracts and earning a profit by selling to clients at a higher price.

Uploaded by

Aabroo Fatima
Copyright
© All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOCX, PDF, TXT or read online on Scribd

SALAM

Definition:
Salam is a deferred delivery contract whereby delivery of the commodity occurs at some future
date in exchange of an advanced price fully paid at spot.

 Salam contract is mostly used for:


o Agriculture financing;
o Working Capital Financing;
o Commercial and industrial financing;
o Export Financing; and;
o Operations and capital cost financing.

Elements of Salam:
There are 4 key elements in Salam:

 Buyer
 Seller
 Cash Price
 Purchased Commodity

Features of Salam:
Following are the features of Salam:

 Meet up the needs of the small farmers who need money to grow their crops and to feed
their family up to the time of harvest.
 The transaction is considered Salam if the buyer has paid the purchase price to the seller
in full at the time of sale. This is necessary so that the buyer can show that they are not
entering debt with a second party in order to eliminate the debt with the first party, an act
prohibited under Shari’ah. The idea of Salam is normally different from the other either
in its quality or in its size or weight and their exact specification is not generally possible.
 The commodity of Salam contract should remain in the market right from day of contract
up to the date of delivery.
 Salam is not possible for rare products.
 It is necessary that the quality of the commodity 'intended to be purchased through Salam
is fully specified leaving no ambiguity which may lead to a dispute. All the possible
details in this respect must be expressly mentioned.
 The exact date and place of delivery must be specified in the contract.
 Salam cannot be applied for non-fungible goods.

Process of Salam:
 Step 1 : Client sells commodity to Bank on forward basis and receives financing normally
for purchasing agricultural inputs like seed, fertilizer, pesticides, diesel for tractor,
payment of water charges, labor etc.
 Step2: On due date, Client delivers commodities to Bank.
 Step3: Bank sells commodities in the market and get profit

Financing sale proceed

Client/Producer Mezaan Bank Output market


Commodity Commodity

Example:
Mr. Saad required 1000 tons of rice to be delivered in 6 months at a specific price of $5000. So,
he signed a “Salam Contract” with Mezaan Bank for the purchase of rice. As Mezaan Bank
itself is not a producer of any agricultural commodity so they made a contract with any third
party. Mezaan Bank signed “Parallel Salam” contract with the third party that he purchased
1000 tons of rice from them at a price of $4500. The Mezaan Bank then deliver that purchased
rice to Mr. Saad at agreed amount. The Mezaan Bank will also earn a profit of $500 from this
contract.

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