Introduction to Salam or Forward Sale

Adlin Izyana Jaafar, HamizahMohd Khusairi & Aishath Muneeza

 

One of the preconditions for a valid sale under Islamic law is the existence of subject matter at the time of sale. However, there are two exceptions that allow the sale of non-existent objects. The exceptional sale contracts in Shariah are Salam (forward sale) and Istisna’ (manufacturing contract). Salam is a sale whereby the seller undertakes to supply some specified goods to the buyer at a future date in exchange of an advanced price fully paid at the spot.

 

Salam is also called prepaid forward sale. The difference between Salam and Istisna is that it is primarily used to finance agricultural production while Istisna is to assist non-agricultural production, specifically for goods that need to be manufactured. In Salam, the parties involved may enter into another separate contract called Parallel Salam contract. It is mainly used as a mode of financing in the agriculture industry. While Parallel Salam is still not widely used because of the risks involved, countries like Sudan, Pakistan and Iran are some of the countries that have successfully implemented this type of contract as a financing mode.

 

What is Salam? 

There are various definitions of Salam available in classical and contemporary literature. The juristic views about Salam are divided into two. One is from the Maliki school, which allows Salam contracts in a secondary market. The other view is from the other three Sunni schools, Shafi, Hanbali and Hanafi, which do not accept Salam as they object to resale or transfer of ownership before the delivery has been made.

 

Malaysia Central Bank (BNM) defines Salam as the purchase of a commodity for deferred delivery in exchange for immediate payment. It is a type of sale in which the price, known as the Salam capital, is paid at the time of contracting while the delivery of the item to be sold is deferred. (BNM, 2016). Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) refers to Salam as the purchase of a commodity for deferred delivery in exchange for immediate payment (AAOIFI, 2016). Islamic Financial Services Board (IFSB) meanwhile defines Salam much more comprehensively than BNM and AAOIFI, where it is stated that Salaam is the sale of a specified commodity that is of a known type, quantity and attributes for a known price paid at the time of signing the contract for its delivery in the future in one or several batches (IFSB, 2016).

 

While the Malaysian Shariah Council has applied salam for purchasing financial securities or shares, in an extension of other commodities, AAOFI does not allow shares in Salam contracts for the reason that it could involve gharar. The reason is that the underlying assets might change and shares could not define the future well due to that circumstance. Nevertheless, there are scholars who accept the application of Salam in shares such that shares are all similar and readily accessible or available in the market.

 

Current Practice

The practical steps of Salam sale in current practice are as follows; The bank pays the price in the contract to the seller so that he can have the immediate use of funds to cover his financial needs. The seller abides by the contract to make a delivery of the commodity on the specific due date.

 

At the time of delivery on the specific due date the bank has several options to choose from: the bank receives the commodity on due date, and sells it either for cash or on credit; or it can authorize the seller to sell the commodity on its behalf against fees (or without fees); or it can direct the seller to deliver the commodity to a third party (the buyer) according to a previous promise of purchase, where the promise is that the buyer will purchase from the bank. Once the delivery has been arranged by any of the above-mentioned options, the commodity is sold through a sale contract between the bank and the buyer. In this contract, the bank agrees to sell the commodity for cash or a deferred price higher than the Salam purchase price paid by the bank to the seller. The buyer agrees to purchase and to pay the price according to the agreement.

 

 

Conditions for Salam

In order to avoid the abuse of Salam, it has been subjected to some strict conditions. The conditions of Salam are summarized by Taqi Usmani in his An Introduction to Islamic Finance (2007) as follows:

 

  • The buyer must pay the full price to the seller at the time of effecting the sale. It is necessary because if the price is not paid in full, the transaction will be a sale of a debt against a debt which is clearly prohibited in Islam. Considering the hikmah of salam is to fulfil the instant financial needs of the seller if the price is not paid a lump sum, the purpose of the transaction will be defeated.

 

  • Salam can only be used for commodities which the quantity and quality can be specified exactly during the transaction. Goods like minerals and precious stones which the quality and quantity cannot be specified are not to be sold through Salam contract.

 

  • Salam cannot be used on products from a particular field or farm. The reason behind this is that if the seller agrees to supply the customer with a particular type of crops from a specific field but fails to deliver it, the contract becomes invalid.

 

  • The quality of the commodity must be specified in Salam contract so that there would be no ambiguity. As an example, if a person is buying watermelons from a farmer, he/she must determine the exact type of watermelons that he/she wants to buy.

 

  • The quantity of the commodity must be agreed upon. If the commodity is quantified in weights, then the weight must be determined. If it is quantified through measures, its exact measures should be known. What is normally weighed cannot be quantified in measures and vice versa.

 

  • The exact date and place of delivery must be specified in the contract.

 

  • Salam cannot be effected in respect of things that must be delivered at the spot.

Muslim jurists have unanimously agreed that Salam transaction will only be valid if it follows all these conditions.

 

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