Contracts and Deals in Islamic Finance: A User s Guide to Cash Flows, Balance Sheets, and Capital Structures

Chapter 4Tawarruq

We look at the development of cash flows through a sequence of tripartite sales. This chapter is an extension of the chapter on inah, which is a sequence of sales between two parties. The reader is introduced to the idea of using commodity sales on an independent exchange to construct these cash flows and how such sales can be arranged to develop either asset products or liability products.

In Bank Negara Malaysia's most recent exposure draft, tawarruq is referred to as “an arrangement that involves sale of an asset to the purchaser on a deferred basis and subsequent sale of the asset to a third party on a cash basis to obtain cash or vice versa.”¹ It is named as such as there is no intention of the buyer to actually utilize the asset, but rather more of the intention of obtaining cash.²

Illustration of three sales in sequence: A sequence of tripartite sales is executed between 3 or more parties creating cash flows that resemble disbursing a loan amount and being repaid an amount in excess of the original loan. The original loan is the spot price of an asset or commodity and the repayment amount is the deferred price or credit price of an asset or commodity. The sequence of transactions can construct a fixed deposit instrument or a financing instrument depending on whether the customer is buying the commodity or is selling the commodity.

For a simple illustration of a sequence of sales, we look at a scenario in Figure 4.1 with three parties, A, B, and C. As ...