Meeting Customer Needs by Making Microlending Products Sharia Compliant

The Islamic finance industry has experienced tremendous growth and increasing popularity over the years. But while Islamic Finance Industry is regarded as one of the fastest-growing industries in the world, there are still many Islamic customers whose banking needs are not being met. In fact, it is estimated that 72% of people in Muslim-majority countries do not have access to lending products or credit products due to their poverty level.

Islamic institutions, and institutions with Islamic divisions, however, have moved into a position where they can now reach low-income individuals needing Sharia-compliant banking services. One of the most valuable services that an Islamic bank can offer to this type of customer is Sharia-compliant "microfinance" products. These types of products and services are often linked to poor or low-income clients. Consequently, there is a growing demand from the lower-income population for Islamic products, which may be otherwise unavailable to these individuals.

By providing Sharia-compliant products, banks have the opportunity to reach the growing market, create a wide and loyal customer base and be seen as a positive force in the community. But in order to meet the needs of these customers, there are certain steps that banks must take to ensure that the microlending products they offer follow the concepts of Sharia, and are compliant with bank regulations as well as Islamic banking policies. To accomplish this, banks must focus on training.

Implementation of Sharia Compliance

One of the easiest Sharia-compliant structures that can be used to create specific microfinancing products includes the Murabahah (cost-plus financing) and Musharakah (partnership).

In a Mudarabah model, the lender and borrower are partners, profiting together. The borrower invests his/her work while the lender invests his/her money. Both sides are rewarded through shares of the profit. The model, however, does present a series of difficulties, since borrowers usually do not keep accurate accountability which makes it more difficult to establish the exact share of profit.

In a Murabahah model the lender buys goods and resells them to the borrower for the cost of the goods plus a markup for administrative costs. The borrower often pays for the goods in equal installments, and the lender owns the goods until the last installment is paid.

Musharakah is similar to Mudharabah, in which an entrepreneur seeks funds for a business venture and pays the bank back with a ratio of profits. However, there are often more than two parties who contribute funds and become partners who can influence the business depending on the amount of money invested. The entrepreneur also contributes funds and shares in the risk. Any loss is proportional to the amount of capital invested in the business.

It is important to understand that Islamic finance principles are often difficult to implement on a profit and loss sharing basis in rural settings. They require long-term involvement by the Micro Finance Institutions (MFI) in the form of technical/business assistance which raises the cost of implementation. When analyzing the benefits of these products and services, it is especially important to address the main risks and problems as well.

Problems with Islamic Microlending

The most obvious problem facing economic experts when dealing with Islamic principals and lending is ensuring that products are in keeping with the Quranic concepts of Qarz-e-Hasana, Modaraba, Sadaqat, Infaq and Waqf.

Other challenges that have been identified in implementing Sharia-compliant microlending include:

o Financing for all levels of income. Islamic principles require that all people be serviced despite their economic position, which puts financial institutions in a tough position. Financial institutions must decide whether they can bear to sacrifice the cost of defaulted loans to help the Islamic community.

o Administrative costs. There is general agreement on the issue of administrative and monitoring costs being higher with microfinance. Conventional institutions charge interest to cope with these costs, but the prohibition of interest in Islamic finance can make such costs hard to meet. This can lead to more risk for Islamic institutions.

o Segregation approach. Islamic institutions seek to empower the family by segregating loans for both men and women.

While this provides a great opportunity for women, it is a sensitive issue in most communities. In traditional Muslim societies, any profit or funds acquired by women end up with male members while the women continue to maintain the business and financial risk.

Success with Islamic Microfinance

Islamic banking and the concepts of the Sharia naturally promote the idea of risk and reward sharing in the community.

Traditional forms of lending put the bulk of the risk on the borrower and not the institution which can lead low-income individuals to end up in debt, worsening their situations and making it impossible for them to enhance the community.

Microfinance can benefit an institution greatly, because providing these types of products and services can help the bank to improve the local economy. Islamic beliefs are deeply rooted in helping the community, and Islamic microfinance products offer support to those who might be otherwise unable to access conventional banking products and services.

Good microfinance programs are characterized by the following:

o Small, usually short-term loans.
o Streamlined, simplified borrower and investment appraisal.
o Quick disbursement of repeat loans after timely repayment.
o Convenient location and timing of services.

Training Institutions to be Sharia-Compliant

Any institution that offers Islamic products or services must first invest time in educating their personnel on the policy and procedure associated with Sharia compliance. It is vital for staff to understand the basics of Islamic law and banking, as well as the risk and reward profiles of the specific products the Bank will be offering to the community. It is necessary for all staff to have a basic understanding of Sharia and the important principles which Islamic customers live by, in order to better provide the products and services these customers need.

Training Institutions to Efficient in Operations

Microlending is all about volume. The difference between being in profitable and being non-profitable is efficiency. The only way to improve efficiency is through effective productivity and quality training. Training programs should use applied microlending examples to emphasize the "hard skills" of managing operations and provide microfinance lenders with the skills to manage their workloads using pragmatic tools, techniques and strategies for attaining increased productivity and quality.

Final Word

There has been a large surge in the need for Islamic products around the world and this demand will continue to rise as the Islamic population continues to grow. Banks must be proactive in making microlending products Sharia-compliant in order to remain competitive in the global economy. Additionally, banks must become more active within the communities they serve and work to provide services for those who do not have access to lending products which could ultimately improve their quality of life. In order to accomplish these important goals, training is key!

Dr. Linda Eagle is Founder & President of The Edcomm Group Banker's Academy-a 22-year-old education and consulting firm dedicated to serving Banks, Credit Unions, Money Services Businesses (MSBs)and all areas of the Global Financial Community with thousands of generic and customized training programs in areas such as BSA/AML, Regulatory Compliance, Teller Training, Systems Training, Sales and Service Training, and many more.

Article Source: http://EzineArticles.com/3200562