What is Musharakah? Definition, Example, and 2 Types of Musharakah.

What is Musharakah

Musharakah is a partnership agreement in Islamic finance in which partners share in the profits and losses of a business. Musharakah is a type of Shirkah al-Amwal (or partnership), which in Arabic means “sharing.” Since Shariah prohibits interest in lending, Mushakarah allows that partners distribute the profit on pre-agreed ratios, while each partner shares the losses in proportion to their contribution.

Example

Suppose that Mohamad wants to start a business, but he does not have enough funds. His friend Bilal owns extra funds and wants to be the financier in Musharakah with Mohamad. In this situation, these two people would agree on the terms and begin a business that allows them to share portions of the profits and losses. This negates the need for Mohamad to take a loan from Bilal.

Types of Musharakah

Musharakah includes different types of partnership arrangements. In general there are two types of Musharakaht

1. Shirkah al-Milk

The joint ownership of the two or more people on the certain property is considered “Shirkah al-milk.” The main feature of this partnership is to mix the ownership. It can be either optional or mandatory. For instance, in the event where two or more persons decide to buy the property jointly, they become owners of the asset at the same time. As they choose to purchase assets together by themselves, the partnership is established by choice. In the second category of Shirkah al-milk, the partnership comes into existence naturally. Inheritance can be an excellent example of this; when a person dies, all his belongings automatically become his heirs. They become the new owners of the property.

2. Shirkah al-Aqd

Shirkah al-Aqd is the second type of agreement, a type of mutual contract. Partners in business transactions mainly use this type of contract. It is an agreement in which two or more people share their properties, liabilities, or labors to make a profit. We divide Shirkah al-Aqd into 3 categories:

(i) Shirkat ul-Amwal (Partnership in Capital) in which all the partners contribute a certain amount of capital into the commercial enterprise
(ii) Shirkah al-Amal (Partnership in Labor) is a partnership in which two or more people decide to cooperate to share the profit. This partnership comes into existence when partners render their physical or mental labor, and it does not require them to invest money or capital. According to a pre-agreed ratio, wages earned through customer service go into a joint pool and are distributed among sides.
(iii) Shirkah al-Wujooh (Partnership in Credit) is an agreement in which partners do not have any investment capital. They buy assets or properties with a loan, sell them later, pay back the loan, and keep the profit. Partners receive profits from the overall pool at an agreed ratio.

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