SS 25 · General

SS 25: Combination of Contracts

What this standard is about

Most Islamic finance products are built from more than one contract. A bank financing a home purchase might combine a purchase contract, a lease (ijarah, a contract to rent an asset), and a promise (wa'd, a one-sided promise to do something in the future). This standard defines what a combination of contracts is and sets the rules for building one.

It defines a combination as two or more parties concluding more than one contract at the same time as part of a single transaction. The contracts may stand side by side, or one may be tied to another. The standard covers the concept and types of combination, the rules that allow it, the restrictions that forbid certain combinations, and the rules on muwata'ah, a prior private agreement between the parties to enter the contracts.

Each contract in the bundle must be permissible on its own under Shariah (Islamic law). The majority of classical scholars held that a combined transaction is judged by its parts: if each contract is valid by itself, the combination is valid too, unless a specific rule is broken.

Why it exists

Combining contracts is the normal way Islamic banking products are structured, including sukuk (Islamic investment certificates) and syndicated financing. Without rules, a bundle could hide riba (interest, any extra charged on a loan) or tie contracts together in ways Shariah forbids. The standard gives banks and Shariah scholars one shared set of tests for judging these structures.

The key rules, simply put

It is permissible to combine more than one contract in a single transaction.
No contract may be made a condition of another contract.
Each contract in the combination must be permissible on its own.
A sale and a loan may not be combined in one contract.
A combination may not be a trick to earn riba, such as a back-to-back sale (bai al-inah) arranged to produce interest-like profit.
A combination may not be an excuse for riba, such as a lender requiring the borrower to give him a gift or a place to stay as part of the loan.
The combination may not bundle contradictory contracts, such as giving an asset as a gift and selling or leasing it to the same person at the same time.
Muwata'ah, a prior private agreement to link the contracts, is restricted, because it can work as a forbidden condition.

An everyday example

A bank agrees to finance a customer's car purchase. First the customer promises (wa'd) to buy the car from the bank. The bank then buys the car and sells it to the customer at a higher price paid in installments (murabahah, a sale with a disclosed profit margin). The promise plus the sale is a combination of contracts. It is valid because the promise and the sale are each allowed on their own, and the sale is not written as a condition of the promise.

Words to know

AAOIFI — the Accounting and Auditing Organization for Islamic Financial Institutions, the body that issues these standards
Shariah — Islamic law, derived from the Quran and the practice of the Prophet Muhammad
ijarah — a contract to rent an asset
wa'd — a one-sided promise to do something in the future
murabahah — a sale in which the seller discloses the cost and the profit margin
sukuk — certificates that represent ownership in assets, often called Islamic bonds
riba — interest, any extra amount charged on a loan
muwata'ah — a prior private agreement between the parties to enter contracts
bai al-inah — a pair of back-to-back sales used as a trick to produce interest-like profit

Source

AAOIFI Shariah Standard No. 25 — https://islamicmarkets.com/publications/combination-of-contracts-appendix-b-the-shariah-basis-for
Dar Al Sharia / IFN summary of Standard 25 — https://daralsharia.ae/docs/default-source/news-pdf/standard-25.pdf