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Islamic law forbids Muslim people to either receive or pay interest. As banks and other lenders typically charge borrowers interest, this previously created a big issue for Muslim people trying to buy homes. Only those that could afford to buy their home without any financial help could do so under Islamic law. Slowly, banks in the UK are beginning to recognise the issue that so many of their Muslim customers face and offer alternative options that don’t deal in interest but in rent instead.
Although created in line with Islamic or Sharia law, it’s not just Muslim people that can choose Islamic mortgages, as non-Muslims may well settle on an Islamic mortgage purely for ethical reasons. As Islamic institutions refuse to invest in firms that are involved with alcohol, tobacco, gambling or pornography, the plans offered may be more appealing than those from other financial institutions.
Currently, these Islamic mortgages come in three different options – Murabuha mortgages, Ijara mortgages and diminishing Musharaka plans.
This option is by far the most popular and affordable for British Muslims. The Ijara mortgage does not require the borrower to have vast sums of money to set it up and it is infinitely more flexible. The amount repaid each month is usually fixed annually and any outstanding balance can be paid off at any time, without incurring a penalty.
Ijara mortgages are based on the Ijara principle, meaning “lease to own” and they work like this:
Using this system, you can borrow as much as 90% of the purchase price of the property, and repay it until you own the house, while providing the lender with a profit that is legitimate under Islamic law (Sharia).
The difference between the original purchase price and the higher price at which the property is resold to you provides the Islamic lender with a profit that is compliant with Islamic law.
The diminishing Musharaka option means that the financial institution and the customer jointly purchase the property of the customer’s choosing. Under a “musharaka agreement” the customer’s deposit would go towards the purchase price. The customer would then continue to pay rent on the portion of property owned by the financial institution, in addition to buying more shares in the property in order to eventually own it outright. The more rent paid, the greater the portion of property owned by the customer and the less owned by the financial institution.
You might think that charging rent or adding a profit is just the same as charging interest, as the financial institution still makes money. However, there is still a difference to how the money is made compared to conventional mortgages charging interest.
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