Get to Know Participation Banking

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What is Participation Banking?

The concept of participation, one of the most basic features of participation banks, is an approach based on sharing both during the financing and raising of funds. Participation accounts created to raise funds are the most obvious difference of participation banks compared to other traditional banks.

Participation banks operate to raise funds through special current and participation accounts and to use the funds collected by means of methods that comply with the principles of interest-free financing.

What are the Differences of Participation Banking System from the Conventional Banking System?

  • From the viewpoint of risk distribution, in traditional banking, the entire risk is undertaken by the debtor and, in principle, the lender always makes a profit.
  • On the other hand, the partnership established in the participation banking system is a labor-capital partnership. Both the laborer who runs the capital and the capitalist who provides the capital share the risk among themselves. In this case, the party providing the capital will suffer monetary loss and the party making the labor contribution will suffer labor loss. If the partnership is a capital partnership, only the capitalists share the risk. In participation banking system, there is a possibility that the capitalist may make a profit or loss, and that laborer may lost labor.
  • Traditional banks provide their customers with credit (interest loans). On the other hand, participation banks provide their customers with funds through the trade method and purchase the goods, services or rights needed by the customer from their seller in advance and adds profit on them and sells them to customer on a term basis.
  • In traditional banking, payment is made to the bank customer in transactions on credit. That the payment made to the seller, is the process of delivering the loan granted on behalf of the customer to the seller, not the purchase price of the goods. On the other hand, in participation banking, the payment is made not to the bank customer, but to the seller of the goods (or to the proxy to purchase on behalf of the bank by taking measures to ensure payment to the seller). In this case, the price is the purchase price of the goods by the participation bank.
  • In traditional banking, money has a time value, and this value always increases in favor of the lender. In participation banking, when money is provided to others as a loan, the change over time may only take place at the rate of inflation. However, if a good is financed by a forward sale with a profit (murabaha), the late charge received is the profit arising from the sale of goods, not from the time value of money.
  • In traditional banking, any kind of legal activity may be subject to transaction. On the other hand, in participation banking, in addition to the legality aspect, activities that are deemed legitimate and permissible prom the point of view of Islam may be subject to transaction.
  • In the traditional banking system, the interest is used as a fundamental tool to generate income. In the participation banking system, profit share is used as the fundamental tool.