If you provide your money as a customer to your bank, then you should expect a reward. As interest payments are not allowed to be paid in Islam because of the prohibition of Riba, Islamic banks develop alternative models for compensation. In practice, the so called Mudarabah method is common in the Middle East, whereas the so called Wadiah principle is exercised in South East Asia.

In the Wadiah based model the customer provides his money to the bank, which can work with it according to their own ideas. The applications of funds have to be consistent with the Shari´ah and need a one-time permission by the customer at the beginning. The profit yields of the investment of funds are shared by the bank and the customer in a previously agreed ratio. However, at the beginning of the contract the ratio is known, but not the exact profit amount, as this depends on the success of the investment of the bank. This profit sharing with the customer can be seen as a gift by the bank for the customer. The deposits of the customer are secured 100%, and the banks payments to the customer usually refer to the interest rates of conventional saving accounts in the market.

At the Mudarabah based model, bank and customer enter into a Mudarabah partnership, where the customer agrees at the beginning of the partnership on a mutual profit and loss sharing. The customer participates in the entrepreneurial risk of the bank. Unlike a savings account, the deposit of the customer at an investment account is not guaranteed. If the bank generates profits in its lending business, then these profits are shared in a previously arranged ratio between client and bank. In the case of loss, the customer has to bear it alone – as the bank has already invested effort and infrastructure – and thus also money – into the mutual business.

Mudarabah based investment accounts often distinguish between restricted and unrestricted accounts. At the restricted account, the bank is bound by the guidelines of the customer. At the latter the bank can choose in which type of projects the funds are invested. The businesses into which the money will be invested are defined via contract at the start of the partnership.

The aim in both models is to pay regularly at fix dates the profit ratio of the customer, thus for example once annually or semi-annually. As this is not always feasible because of payment terms which are individually different, all the payments are collected into a pool. The transactions for the investment are made from this pool and the profit ratios of the customers are collected again in this pool. At the unrestricted model all the customers get the same profit ratio, at the restricted model this ratio is defined via contract before, together with the permitted investment alternatives. In order for payouts staying constant over time and not fluctuating too much in accordance with the investment activities, Islamic banks usually store so called “profit balance reserves”. In good times, profits are stored in these pools for allowing customers to be compensated also in bad times, when the mutual investment activities do not run so well.