A Salam, (sometimes referred to as Salaf) is a short-term agreement in which a financial institution makes full prepayments for future delivery of a specified quantity of goods on a specified date.
A Salam is primarily a deferred delivery sale contract usually used for commodity finance. It is similar to a forward contract where delivery is in the future in exchange for spot payment. To mitigate the asset risk, a financier can enter into a parallel salam.
The followings are the conditions governing the conduct of an Al-Salam contract:
- The price for the commodity that will be delivered as a repayment must be identified and known.
- The sold commodity must be known by detailed specifications of quantity and quality.
- Repayments must be in commodity and not in cash. The cash repayment is prohibited except for the exact original loan without any added profit.
- The repayment must be postponed to a specified future date and a known place of delivery.
- The borrower is free with regard to the source of the commodity for repayment, whether from his own farm production or bought from the market as long as it is typical to the specified descriptions.
This method of financing is found to be more flexible and preferred by the farmers because it enables them to get cash lending and be free to do what they like with regard to the finance allocation. It is also observed that the commodity repayments are usually done from the harvest of the crops financed.