Islamic Mortgages vs Mainstream Mortgages

February 28, 2023

Islamic Finance is a term used when referring to financial transactions that are compliant with the basic principles of Islamic law (or Sharia). Sharia is a religious law which is taken from the Qur’an (the Holy Book for Muslims).

Islamic finance is not limited to those who are Muslim, and there has been a recent surge of interest in Islamic finance from non-Muslim countries such as the UK.[1]

This article will cover the advantages and disadvantages of using an Islamic mortgage compared to a mainstream mortgage. The three main types of Islamic mortgage are as follows:

1. Ijara (lease) – where the bank purchases the property and leases it back to the buyer until full repayments have been made.
2. Musharaka (partnership) – where the buyer and the bank jointly purchase the property, with the buyer purchasing more of the bank’s share through repayments, until the buyer owns the bank’s share.
3. Murabaha (profit) – where the bank purchases the property and sells it back to the buyer at an increased price.[2]

Advantages of Islamic Mortgages:

A key principle of Sharia law is interest (or riba). Simply, this principle sets out that charging interest on financial transactions is not permitted. As Islamic lenders are prohibited from charging interest on mortgages, they become an increasingly appealing option to those looking to finance their home purchase.  

Given the current average for a 30-year fixed mortgage rate is 6.77%[3], any purchasers who pursue a mortgage with Islamic lenders can save compared to those who opt for mainstream mortgages and are charged interest.

Disadvantages of Islamic Mortgages:

Islamic mortgages are often seen as a home purchase plan rather than a mortgage, as the lender will purchase the property solely or in partnership with the buyer. The bank does not lend the money in the same way a bank offering a mainstream mortgage would.

The main disadvantage of an Islamic mortgage is that the lender will have some legal ownership of the property. The three main types of mortgages listed above all require the lender to have either bought the property outright or to have a share in the property. Although there is no interest payable (unlike mainstream mortgages), the buyer does not have full legal ownership of the property.

The property will be fully or partly owned by the bank until the relevant repayments have been made. If payments are late or not paid, this can lead to further fines or even repossession of the property.

In comparison, banks who offer mainstream mortgages lend money to the buyer for the purchase of the property, subject to interest. These lenders do not have to be compliant with Sharia law, so interest can be charged.

Although buyers with mortgages end up paying large sums of interest, they maintain legal ownership of the property, and the lender’s involvement is limited to lending the money and charging interest on the repayment. For Islamic mortgages, the lender’s involvement is more significant, as they have legal ownership over the property, which the buyer needs to ‘buy off’ the bank, through repayments over a fixed term.

James Sawyer
Paralegal – Commercial and Development Department

[1] https://uk.practicallaw.thomsonreuters.com/3-366-1996

[2] https://www.comparethemarket.com/mortgages/content/islamic-mortgages/

[3] https://www.bankrate.com/mortgages/mortgage-rates/

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