In Islam, money is seen as something that should have no inherent value. The creation of wealth is only permissible when based upon fair trade and making money from money goes against Sharia law. Given that the act of charging interest is literally making money from money, this standard mortgage practice used in traditional mortgage lending is haram for Muslims.
In order to be compliant with Sharia law, an Islamic mortgage (also referred to as a halal mortgage) is not actually a mortgage at all, it’s a home purchase plan (HPP). This is more of a lease agreement between the lender and the customer, with no interest payable.
The HPP still provides customers with a viable way to purchase their own home, however, it does so in keeping with their faith.
With an Islamic halal mortgage, the bank buys the property for you and either charges you rent until you fully own it, or sells it back to you at a higher price.
You will have a plan to pay it back in instalments, but there will be no interest involved. Either way, the bank still makes a profit.
Just like buying a home with a regular mortgage, you will enter a contract with the seller and agree a price. You will need to provide the Islamic mortgage provider with a deposit (typically 5-35% depending on the lender), and they will use that towards the purchase of your property.
The lender owns the remainder of the property (that wasn’t covered by your deposit) and either charges you monthly instalments in the form of rent or sells the property back to you at a higher price, which you repay at a fixed amount each month.
The rental rate on an Islamic mortgage can fluctuate, but HPP products usually have an initial fixed period like many standard mortgages.
There are three main Sharia compliant mortgages in the UK, with Musharaka (partnership) being the most popular for residential purchase, and Iljara (lease), and Murabaha (profit) also available, but more often used in commercial transactions.
Also known as Diminishing Musharaka, this is a partnership between the home buyer and the lender, where each owns a share of the property. Your monthly repayments are split into part capital and part rent, allowing you to buy more of the bank’s share with every repayment.
A typical term is similar to the length of a mortgage term, at around 25 years. Over this duration, your rent reduces as your share of the property grows, hence the term diminishing, which refers to the bank’s share diminishing over time. Eventually you’ll own the entire property.
This works very similarly to a traditional repayment mortgage, but with the interest replaced with rent, to ensure compliance with Sharia law.
This type of Islamic mortgage operates slightly differently, in that instead of charging you rent, the lender buys the property and then sells it back to you at a higher price. You buy your home from them over a fixed term, again, usually around 25 years, in equal instalments.
In this scenario you are classed as the homeowner from the outset, rather than being in a partnership with the lender, so long as you keep up with your monthly repayments.
In the UK, Murabaha is more commonly used to buy commercial property, such as buy-to-let rentals or business premises, rather than in the purchase of a residential home. In the Middle East and Far East it is more widely used for any type of property purchase, however.
Ilajra, which means lease, is where the bank purchases the property you want to buy and leases it back to you. This works similarly to a traditional interest-only mortgage, although the interest is replaced with the rental cost you pay to lease the property.
You provide a deposit of £20,000 on a £100,000 property
The lender provides the remaining £80,000 and purchases the property
You pay rent on the lender’s 80% share of the property for a set period of time
At the end of the term you will need to repay the 80% to the lender in order to buy their share and home your home outright
This type of borrowing is not often used for residential purchase, as the majority of buyers would need to resell the property at the end of the lease period in order to repay the loan.
It is often used for the purchase of buy-to-let properties, however, as the monthly repayments will be lower than for a Diminishing Musharaka, given that you are not repaying any of the capital (amount borrowed).
Lenders offering Islamic mortgages use the guidance of scholars who are experts in Islamic finance and Sharia law to make sure their products are Sharia compliant.
They also carry out regular reviews in partnership with Islamic scholars to ensure that any changes to the products are assessed and authorised by Sharia law.
Islamic mortgages are regulated by the Financial Conduct Authority (FCA), meaning customers have the same protection and rights as those customers taking out an interest-charging mortgage.
Islamic Banks created this form of mortgage, however, very few Islamic banks operating in the UK actually offer this form of HPP, including Al Rayan Bank (formerly the Islamic Bank of Britain) which used to offer them, but no longer does.
Unfortunately this can mean that they are more expensive than interest-charging mortgage products, as there is not as much competition in the market. However, there are around five lenders offering sharia mortgages in the UK and a number of other financers looking to move into this market
There are similar fees involved with an Islamic mortgage as traditional mortgage fees, such as:
An administration cost - similar to a mortgage arrangement fee but typically cheaper
You can still own your own home whilst respecting Islamic law
You still benefit from FCS protection
They are available to both Muslims and non-Muslims
There are no early repayment charges
You repay the value your property was at the time of purchase, regardless of inflation or a rise in house prices
There are fewer Islamic mortgage lenders, meaning less competitive pricing
The deposit requirement can be higher than for traditional mortgages
Rent is not charged in line with local prices (so can be higher than typical for the area) Rent can fluctuate based on an agreed external factor, usually LIBOR or the Bank of England base rate
If you fall behind with your payments, you can be fined and are still at risk of having your home repossessed if you fail to repay them
If you want to sell your home, you will need to repay the lender first
Under Islamic law, yes traditional mortgages are seen as Haram. This is because they charge interest, which is making money from money, a practice forbidden in Sharia law. 'Islamic mortgages' despite the name, are actually home purchase plans, so provide a halal mortgage option.
They can be, as Sharia-compliant lenders have higher administration costs than mainstream mortgage lenders and fewer lenders overall mean that there is less competition in the market.
For buy-to-let purchases that are halal, Muslims often use a Murabaha or Iljara, which are slightly harder to come by, but certainly available from some UK providers of Sharia compliant mortgages.
No you don’t, this law was changed in 2003 to prevent customers being charged both when the bank bought the home and when they bought it back from them. You will only pay stamp duty in line with the normal UK thresholds, which means that if you’re a first-time buyer, you will only pay on properties of £425,000 and above.
Yes, they can. An Islamic mortgage is not a Muslim mortgage exclusively, and many non-Muslims find the ethical investment laws used by Islamic banks preferable. They are unable to trade in certain commodities, such as weapons, alcohol and gambling.
Islamic lenders follow the same guidelines as all mortgage lenders when it comes to credit checks, as they need to be confident those borrowing can afford the loan repayments. It’s very unlikely that you would get an Islamic mortgage, or any other type of mortgage, without a credit check of some type.
As Sharia law calls for consistency and the avoidance of uncertainty in their lending practices, they need a common factor to base rental payments on across the board, regardless of where in the country the property is located.
Islamic lenders typically use the recognised benchmarks of either Bank of England Base Rate or LIBOR to meet this requirement under Sharia law and ensure that the entire process is halal.
Yes, it’s possible to own more than one home using this type of home purchase plan (HPP), so long as you are able to meet the affordability requirements of both.
This is not a requirement, however, as the Islamic conveyancing process is different to the general UK process, using a solicitor with experience in Islamic finance can help you to avoid unnecessary delays.