Islamic Mortgages (Sharia-Compliant Mortgages)

The Muslim population in the UK is predicted to rise by around 17% by 2050. This means more and more people from the community will be looking to buy homes.

But taking out a traditional mortgage with interest payments is considered ‘haram’, i.e. not allowed in Islam. Hence, it’s essential to get a Sharia-compliant ‘halal’ mortgage, which is allowed.

In this guide, we will take you through everything you need to know about Sharia-compliant Islamic mortgages, their various types, and how you can get one.

What is An Islamic Mortgage?

A regular mortgage is not allowed by Islamic law. Hence, in the UK, many Muslims have the option of getting a Sharia-compliant Islamic Mortgage, which is ‘halal’ and hence allowed in Islam.

These mortgages differ from regular mortgages in that instead of a loan, these Home Purchase Plans (HPPs), as they are often called, are modelled like a business partnership between the lender and the borrower.

But why can’t you get a regular mortgage if you’re a Muslim? Well, according to the fundamental guiding laws of Islam, making money from money is not allowed. 

Wealth creation in Islam is allowed only if it’s through fair trade practices, where both risks and rewards are shared equally.  

For this reason, any type of finance which requires payment of interest against borrowed money is considered ‘haram’ in Islam.

That’s why Islamic mortgages aren’t really mortgages in the usual sense. Instead of lending money and getting interest on the loan amount, the lender (usually a bank) purchases the property for the borrower. 

Then, the lending authority becomes the legal owner, and the borrower agrees to make monthly payments to the lender, which consists of the capital and rent for living on the property. At the end of the repayment term, the property becomes the borrower’s.

Islamic mortgages are a niche product, and not every lender provides them. So, if you’re looking for one, we’d suggest connecting with our mortgage advisors who have experience in Islamic mortgages. They would be able to guide you through the process best and routes forward.

Types of Islamic Mortgages

In the UK, there are three variations of Islamic mortgages available, and these are as explained below:

1. Musharaka or Partnership

Also called the Diminishing Musharaka, this is the most common form of Islamic mortgage. Of the three types available, this is most similar to the HPP described above. 

A Musharaka is a partnership or co-ownership agreement between the bank and the borrower. 

Here, both parties make a joint purchase, and each owns a share of the property from the very beginning. Usually, the deposit that the borrower makes is their share, and the rest is the lender’s.

To own the entire property, you need to buy out the remaining shares. This is done in the form of monthly capital payments, and a rental for the property. The term of this agreement is usually 25 years, similar to a traditional mortgage.

Let’s make it clearer with an example. 

Say, you’re planning to buy a house for £150,000 with a £30,000 deposit and use a Diminishing Musharaka for the rest. In this case, you own 20% of the property, and the bank owns the remaining.

As you keep making monthly payments, the lender’s share decreases, and yours increases. To put it simply, this is the Islamic version of a repayment mortgage.

2. Ijara or Leasing

Ijara is an arrangement based on the ‘lease to own’ principle. Here, the lender will buy your property of choice and become the legal owner. 

Then, you’ll need to pay a deposit amount to your lender, which can be 10-20% of the property’s valuation, and this becomes your share.

As in Musharaka, you’ll need to make monthly payments to the lender, which will have two parts: the capital and the rent. 

The rent amount remains constant throughout the entire tenure of the lease, while the capital accumulates till it’s enough to pay the remaining balance.

After the lease term ends, you’ll need to repay the entire capital, and the property ownership will be transferred to you. 

3. Murabaha or Profit

This kind of Islamic mortgage is mostly used to purchase commercial property. Here, the lender buys the property and sells it to the borrower for a higher price. Let’s illustrate with a simple example.

Suppose you find a commercial property priced at £400,000 and want to purchase it using Murabaha. The lender, in this case, buys the property and sells it to you immediately for a profit, maybe at £500,000. 

Now, the payment that you have to make is deferred, which means you need to repay the total amount over a fixed term using monthly repayments. However, the property is legally yours from the very start of the term.

Here, the profits being made by the lender are not considered interest or ‘money made from money’ but profits from fair trade, which is allowed under the Sharia.

From the above, it’s clear that all these types of Islamic mortgages have different approaches, but the guiding theme is to provide alternatives to regular mortgage loans which involve interest. Now, deciding which type of loan to go with for your needs can be a bit complicated.

That’s where mortgage brokers come in; an professional broker experienced in Islamic Mortgages will be able to guide you regarding which option is the best for you. 

They can ensure that the deal you get is entirely Sharia-compliant, take care of all the paperwork and even negotiate with the lender for you.

How To Apply For An Islamic Mortgage

The following is a breakdown of the steps you need to go through when trying to get an Islamic mortgage:

1. Understand Islamic Mortgages

If you’ve read this entire article till here, then this step is already covered. Reading up on the entire concept of Islamic mortgages, why they are needed and what their variants are can help you understand the process better and make better choices.

2. Get The Paperwork In Order

As with any other mortgage, getting an Islamic mortgage also involves a fair amount of paperwork. 

You’ll need to provide the lender with documents such as ID proof, income proof, and any other required documents asked by the lender. Getting all of these in order is essential to ensuring that your mortgage is approved.

3. Talk To An Islamic Mortgage Specialist

This last step isn’t necessary, but it’s recommended for a smooth application and approval process. 

A broker experienced in Islamic mortgages will ensure you can compare multiple offers and get the best deal. You can connect with our mortgage advisors for a quick call.

Costs Associated With Islamic Mortgages

The following is a list of some of the costs associated with Islamic Mortgages:

• Legal fees
• Buildings and contents insurance
• Stamp duty
• Survey and conveyancing fees

Apart from the above, you’ll also need to factor in the deposit amount in the costs involved. Deposits for Islamic mortgages range anywhere between 5-20% primarily, depending on the lender and the type of mortgage. Of course, the type of property and your unique financial conditions also play a role.

As usual, the greater the deposit amount you’ll be able to put down, the lower your monthly repayments are going to be. 

Advantages And Disadvantages Of Islamic Mortgages

Advantages

• Owning a home while respecting the laws of Islam
• FCS protection benefits
• No early repayment charges in most cases

Disadvantages 

• There are very few lenders offering Islamic mortgages
• Higher deposits than traditional mortgages
• Higher rent as compared to local rates
• Risk of repossession still present

Is It Better To Rent Than Taking An Islamic Mortgage?

There’s no straightforward answer to this question, as the correct one depends on your unique situation. 

If you want the flexibility of location or have a transferable job, then renting might make better sense than buying. 

Another situation in which renting might be better than buying is if you have a good investment opportunity. 

Then you might want to invest the amount you’d have otherwise put down as a deposit for the house and get potential investment returns in other areas

At the end of the day, the decision rests with you.

UK Stamp Duty And Islamic Mortgages

The SDLT or Stamp Duty Land Tax is a property tax that applies to real estate transactions in the UK, and it’s applicable in the case of Islamic mortgages as well. 

This is one of the prominent similarities between Islamic mortgages with regular ones, though there are a few differences.

If you’re purchasing a property using an Islamic mortgage, then the SDLT amount is calculated on the purchase price of the property. 

The SDLT rates for regular as well as Islamic mortgages are the same, and you can find them here. 

Frequently Asked Questions (FAQs)

1. Who regulates Islamic mortgages?

Islamic mortgages are regulated by the Financial Conduct Authority (FCA), which also regulates traditional mortgages. So, even with an Islamic mortgage, you get the same level of protection as with a traditional mortgage. Please make sure any broker or lender that you work with is FCA regulated. 

2. Can only Muslims apply for Islamic mortgages?

There’s no such restriction; Islamic mortgages are available for non-Muslims as well. 

3. How do you know if an Islamic mortgage is Sharia-compliant?

All Islamic mortgage lenders have a dedicated panel of scholars who guide them regarding Sharia law. This panel of experts always assesses any Islamic Mortgage product to ensure it’s Sharia-compliant so the primary check is with your lender. 

4. Does an Islamic mortgage involve credit checks?

Yes, of course! An Islamic mortgage involves the same credit checks that you need to go through when taking a traditional mortgage. This encourages  the lender that you’ll be able to continue your monthly payments if you have a good credit file. 

5. Which is more expensive: Islamic or Traditional mortgage?

Islamic mortgages are usually more expensive as compared to traditional mortgages when taking into account the overall cost in most cases. The reasons for this are twofold. First, Sharia-compliant lenders usually have higher administrative costs associated with their processes. 

The second reason is that the competition for Islamic mortgages is very low as there aren’t many lenders who provide this service. Hence, there are fewer options to choose from, and lenders can easily dictate their terms.

7. Is it possible to get a buy-to-let Islamic mortgage?

Yes, it is. For halal buy-to-let mortgages, borrowers usually use an Ijara or Murabaha. These are niche products but are still available in the UK.

8. Is double stamp duty charged with Islamic mortgages?

No, it is not. The law was changed in 2003, and you only need to pay stamp duty per regular UK rules. This means for a first-time buyer, stamp duty is required only on properties valued at £425,000 and above.

9. Why is the rent charged for Islamic mortgages higher than local market rates?

As per Sharia law, there needs to be certainty and consistency in lending practices. So, a common base is needed to establish rental payments irrespective of location in the country.

That’s why Islamic mortgage lenders use either the Bank of England Base Rate or LIBOR to ensure that the process is halal. This might mean that the rent charged is higher than local or potentially less based on the area. 

10. Is it legal to apply for multiple Islamic mortgages?

Yes, it’s perfectly legal to apply for multiple Islamic mortgages and own multiple properties through these schemes. Just make sure that you’re able to meet the affordability criteria for every mortgage you take.

11. Do I need a solicitor or agent?

It’s not mandatory to get one, but having a professional by your side can minimise hassles and ensure that your application process goes smoothly. A solicitor will need to complete the conveyancing.