Head of Content
Mortgage Advisor & Director
What is an Islamic mortgage?
An Islamic mortgage offers a way to become a homeowner, while staying compliant with Sharia law. Non-Islamic mortgages include interest rates on the amount that is borrowed, which means that these mortgages are not Halal. Islamic mortgages are more complex schemes that allow the buyer to gradually own the property, and for the lender to still make a profit.
There are three main types of Islamic mortgage - although they are not mortgages in the day to day sense of the word. For this reason, they are often referred to as Home Purchase Plans (HPP).
Ijara Islamic mortgage (leasing)
With an ijara plan, the bank purchases the property, and leases it back to the individual at a fixed cost. At the end of the lease period, ownership of the property is transferred to the individual. Each year you will renegotiate two agreements: the amount of rent to pay, and an amount to pay back the bank for the initial purchase.
Example:
You wish to purchase a property for £200,000. You pay a 20% deposit (£40,000) and the bank pays the remaining £160,000. You will pay rent to the bank for the £160,000 portion of the property, as well as paying back a proportion of that £160,000 each month.
At the end of the period, ownership of the property is transferred from the bank to the individual. This type of mortgage is popular in the UK.
Diminishing Musharaka Islamic mortgage (co-ownership)
Diminishing Musharaka is also popular in the UK. Under this system, the bank and the individual wishing to acquire the property enter into partnership together. They purchase the property together, and over time, the individual slowly purchases the bank’s share of the property. This differs from Ijara, where ownership of the entire property is only transferred at the end of the lease period. Over time, rental payments get lower and lower, as you are renting a smaller and smaller proportion of the property.
Murabaha Islamic mortgage (cost-plus financing)
With a murabaha agreement, the bank purchases the property, then sells the property on to the individual at a higher cost. For example, the bank may purchase the property for £250,000. You agree with the bank to purchase the property from them for £300,000, paying installments over 25 years. Ownership of the property is immediately transferred to the individual.
This type of arrangement is more common in buy-to-let scenarios and property investment, rather than residential home-buying. It is more common in Muslim countries than in the UK.
Are there any other differences with Islamic mortgages?
For a mortgage product to be Shariah compliant, every aspect of the agreement must be compliant. This includes, for example, how the bank invests. For this reason, any high street lenders that have dipped their toes into Islamic financing have done so under a specific division of the company. This helps them ensure that no profits are involved in gambling or alcohol industries, for example.
In ijara and diminishing musharaka agreements, it is the bank that owns the property until payments are complete. This means that the bank is technically liable for any property repairs or damage. To manage this situation, the bank may ensure that a takaful arrangement is put in place, similar to how high street lenders require that mortgage-holders take out buildings insurance. With a takaful arrangement, individuals invest into a community pool for unforeseen repairs or any work needed, all sharing the risk together. Some Islamic scholars don’t believe that standard insurance is compliant with Shariah, as it goes against the principle of cooperation, and it leads to too much uncertainty. Takaful systems are based on working together for the common good, without exploiting individuals for the profit of others.
Another difference is that in instances that would commonly lead to charges, such as late payments, the bank will transfer the charge to charity to remain compliant, rather than take it as profit.
How can I confirm if an Islamic mortgage is Sharia compliant?
An authority in Islamic law will certify whether the lender and the product is Sharia compliant.
Lenders may have in place a Sharia Compliance Officer (SCO) and even an independent external board with oversight of their management and dealings.
Are Islamic mortgages just for Muslims?
No. Banks offering Islamic products will make them available for anyone. Some people choose Shariah compliant products for ethical reasons, preferring the principles of cooperation and mutual responsibility over conventional banking systems.
Are Islamic mortgages more expensive?
Over time, an Islamic mortgage may cost you more than if you bought a property with a high street mortgage. Staying compliant with Shariah requires ongoing oversight which incurs its own costs. Transactions are also more complicated, to ensure that they comply with both Shariah law and UK financial law. All of this means more labour for the bank.
However, with Islamic mortgages, there is generally no charge for early repayment, which can be an attractive prospect for a buyer who hopes to pay off a mortgage earlier than the agreed terms.
Islamic mortgages can also mean a larger deposit is required.
Get your mortgage in principle certificate in 5 minutes
Choosing an Adviser
Selecting a qualified and experienced mortgage adviser is of great importance. To choose a suitable adviser, evaluate their qualifications, experience, and reputation, and ensure they are regulated by the Financial Conduct Authority (FCA).
Read reviews from previous clients and make sure they provide a clear explanation of the products and services they offer, as well as the fees and charges associated with them.
Last updated 4 March 2024