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AFS2033 Islamic Accounting

Lecture 10:
Accounting for Salam

LECTURE BY:
DR. SITI NURZAHIRA CHE TAHRIM
CHAPTER OUTLINE
Introduction of Salam
Applicable Definitions and Legitimacy
of Salam
Financing Model and Pillars of Salam
and Parallel Salam
Accounting Treatments (Journal
Entries) for Salam and Parallel Salam
Illustration of Salam and Parallel
Salam
INTRODUCTION
" Fiqh rules normally, insist that goods for sale must
exist, owned by the seller and deliverable, for the
validity of a sales contract.
" However, Islam is practical in that it allows flexibility
in the rules to allow for the needs of the community
to transact legitimately.
" Salam and Istisna are the two main contracts
allowed in Islam, which allows the sale of
something which does not exist at the time of
sale.
" Salam is a contract where a buyer purchases a
commodity for future delivery in exchange for
immediate payment.
" In this unit we will explore Salam in detail.
APPLICABLE DEFINITIONS IN
SALAM
" The pillars of Salam are:
Al Musalam Ilayhi Seller
Al Muslam Purchaser
Ras Al Mal Capital paid
Sighah Offer and acceptance
Al Muslam Fihi Commodity to be
delivered.
THE LEGITIMACY OF SALAM
1. Al-Quran verse 2:282 reveals the
concept of Salam or bay al-Salam
2. Ijma the consensus of the Islamic
scholars reveals that all fuqaha
unanimously agreed that Salam is
allowed in mans activities
3. Due to Maslahah
" farmers need money for the business and
families while cultivating crops
" Businessman needs to lower their production
costs
SALAM AND PARALLEL SALAM
Salam;
Purchase or sale of commodity for deferred
delivery in exchange for immediate
payments.

Parallel salam;
Salam contract whereby the seller depends,
for executing his obligation, on receiving
what is due to his capacity as the
purchaser from sale in a previous salam
contract, without making execution of the
first one.
FINANCING MODEL OF
SALAM AND PARALLEL SALAM
" Salam has been defined by AAOIFI as a
purchase of a commodity for deferred
delivery in exchange for immediate
payment according to specified conditions
or sale of a commodity for deferred delivery
in exchange for immediate payment.

" A related contract in reverse is termed


Parallel Salam.
SUBJECT MATTERS
" Object
Should be object that can be measured and can be counted
Specification has to be clearly agree upon between both
parties

" Price
Prices have to be known clearly
All the prices need to be paid in advance
For example ; the parties have agreed to sale goods at
RM100, so that RM100 immediately needs to be paid to the
seller.
SALAM WITH PARALLEL SALAM
FINANCING
4
3
Banks customer AL
AL MUSLAM ILEIHI ISLAMIC MUSLAM in the
(THE SELLER
parallel salam contract
BANK

2
1

1. The Islamic bank pays in advance the al muslam ileihi in


the salam contract.
2. The Islamic bank receives payment in advance from the
buyer in a parallel salam contract with the banks
customer.
3. The muslam ileihi in the salam contract delivers the goods
to the bank at the agreed time.
4. The bank delivers the commodity to the al muslam in the
parallel salam contract.
AAOFI FAS 7: SALAM ACCOUNTING
TREATMENTS
" Contract execution: When the advance payment is paid
to the muslam ileihi placed in his disposition (for
example, credited to his account) then Salam Financing
is recognized as an asset by debiting Salam Financing
and crediting cash. For parallel salam, it is recognized
when the amount is received.
" At the end of the financial year: Salam financing is
presented in the Banks Balance Sheet as Salam
Financing on the Asset side whereas parallel salam is
recognized as a liability and presented as Parallel
Salam.
" When the bank delivers the al muslam fihi, the difference
between the amount paid by the client and the cost of
the al muslam fihi is taken as the profit or loss during the
year.
JOURNEL ENTRIES:
SALAM AND PARALLEL SALAM
" Recognition of Salam financing
Dr. Salam financing
Cr. Cash
" Receipt payment from customer
Dr. Cash
Cr. Parallel salam
" Delivery inventory to bank
Dr. inventory
Cr. Salam financing
CONTINUED..
" Delivery inventory to customer
Dr. Parallel salam
Cr. inventory
" Profit or loss by the bank
Profit
Dr. Parallel salam
Cr. Profit or loss account
Loss
Dr. Profit or loss account
Cr. Parallel salam
ILLUSTRATION
On 01 March 2014, an Islamic bank purchased 25 tons of aluminum from a local
aluminium producing company on the basis of Bai-al Salam (Salam) contract. The bank
paid the full purchase price of RM 250,000 (RM 10,000 per ton) on the day of contract
signed. Both of the parties agreed that the commodity will be delivered in two shipments
as follows:
The 1st shipment will be of 10 tons on 15 June 2014
The 2nd shipment will be of remaining 15 tons on 30 July 2014

On 05 April 2014, the Islamic bank entered into a parallel Salam contract with a
company that uses aluminium as a raw material for their manufacturing work. The
manufacturing company agreed to purchase 25 tons of aluminium from the Islamic bank
for a total price of RM 275,000 (RM 11,000 per ton). The delivery will be made in two
shipments as follows:
The 1st shipment will be of 10 tons on 20 June 2014
The 2nd shipment will be of 15 tons on 05 August 2014

Show the journal entries for the above Salam and Parallel Salam arrangements in the
books of the Islamic bank. Also show the statement of profit or loss extract for the year-
ending 31 December 2014, and statement of financial position extracts as at the each
transaction date.
1 March 2014 5 April 2014
2 Parallel Salam:
1 Salam Financing:
25 tons @ RM10,000 25 tons @ RM11,000
Cash RM250,000 Cash RM275,000

" Selle " Buye


" Bank
rA rB
3 15 June 2014 4
Almnm delivery:
10 tons @ RM10,000
RM100,000

30 Jul 2014 6 5 Aug 2014


5 Almnm delivery: Almnm delivery:
15 tons @ RM10,000 15 tons
20 @ RM11,000
June 2014
RM150,000 RM165,000
Almnm delivery:
10 tons @ RM11,000
Journal Entries
" Lets try this
Extract of Profit and Loss Statement
and Financial Positions

1 Mar 5 Apr 15 Jun 20 Jun 30 Jul 5 Aug


Salam
Financing
CPO
Inventory
Parallel
Salam
Profit/
Loss from
Salam

Hint!
Journal Entries
1 March 2014
Dr Salam Financing 250,000
Cr Cash 250,000
(Recognition of Salam Financing)

5 April 2014
Dr Cash 275,000
Cr Parallel Salam 275,000
(Recognition of Parallel Salam)
Continued..
15 June 2014
Dr CPO Inventory 100,000
Cr Salam Financing 100,000
(Receipt of first Shipment of CPO from Salam Seller)

20 June 2014
Dr Parallel Salam 110,000
Cr CPO Inventory 100,000
Cr Profit and Loss Account 10,000
(Delivery of first shipment of CPO to Parallel Salam buyer)
Continued..
30 July 2014
Dr CPO Inventory 150,000
Cr Salam Financing 150,000
(Receipt of second Shipment of CPO from Salam Seller)

5 August 2014
Dr Parallel Salam 165,000
Cr CPO Inventory 150,000
Cr Profit and Loss Account 15,000
(Delivery of second shipment of CPO to Parallel Salam buyer)
Extract of Profit and Loss Statement
and Financial Positions

1 Mar 5 Apr 15 Jun 20 Jun 30 Jul 5 Aug


Salam 250,000 250,000 150,000 150,000 0 0
Financing
CPO 0 0 100,000 0 150,000 0
Inventory
Parallel 0 275,000 275,000 165000 165,000 0
Salam
Profit/ 0 0 0 10,000 0 15,000
Loss from
Salam
TUTORIAL
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