Profit and Loss Allocation among Islamic Bank and Client Partner in Equity Financing: Practice, Precepts and Alternatives

Profit and Loss Allocation among Islamic Bank and Client

Profit and Loss Allocation among Islamic Bank and Client Partner in Equity Financing: Practice, Precepts and Alternatives

Muhammad Abdurrahman Sadique

Abstract. The profit sharing ratio in equity financed projects is decidedby Islamic banks mainly through applying the relevant rate of return oncapital. After first determining the return sought by the bank, theremainder of the expected profit is usually taken as the share of thejoint partner, and the proportion adopted as the profit sharing ratio.Ideally, the profit sharing ratio should be decided through amutual process considering the contributions of both partners, with duerecognition of the level of liability each had borne. The period, as afactor common to the joint venture, could be redundant. Hence, theprofit sharing ratio should be reflective of the capital and labour outlayof both the bank and the client, to the extent possible.In view of the socio-economic function expected of Islamic banks,the method for profit ratio calculation adopted should adequatelyconsider the actual contributions of both the partners. Two basespossible are giving capital and labour of both partners equal weightage,and giving capital a weightage different from labour.