Sharia mortgages, also known as Islamic mortgages, adhere to Islamic law (Sharia) principles, which prohibits the payment or receipt of interest (riba). Instead of traditional interest-based lending, Sharia-compliant mortgages use various financing structures that align with Islamic principles. These structures involve profit-sharing, leasing, or joint ownership agreements.

Types of Sharia Compliant Mortgages

There are several types of Sharia mortgages, each with its unique characteristics and mechanisms. The most common types include:

Murabaha (Cost-Plus Financing)

Murabaha is a sharia mortgage method using cost-plus financing arrangements where the lender purchases the property and sells it to the buyer at a higher price, which includes an agreed upon profit margin. The buyer repays the lender in fixed instalments over an agreed period.

Key Features

• The lender buys the property and sells it to the borrower at a marked-up price.
• The borrower repays the agreed-upon price in instalments.
• Fixed repayment amounts provide predictability.
• The lender owns the property and leases it to the borrower.

Ijara (Lease to Own)

Ijara involves the lender purchasing the property and leasing it to the borrower. The borrower pays rent to the lender, and at the end of the lease term, the borrower has the option to purchase the property.

Key Features

• The lender owns the property and leases it to the borrower.
• The borrower pays rent, which may include an additional amount towards the eventual purchase.
• At the end of the lease, the borrower can buy the property.

Musharaka (Diminishing Partnership)

Musharaka is a type of sharia mortgage method that uses a partnership arrangement where both the lender and borrower co own the property. The borrower gradually buys out the lender’s share over time, making periodic payments. These payments include both a portion of the lender’s equity and rent for using the lender’s share of the property.

Key Features

• The property is co-owned by the lender and the borrower.
• The borrower gradually buys out the lender’s share.
• Payments include equity buyout and rent.

The market for Sharia mortgages in the UK has expanded significantly in recent years. More financial institutions are offering these products, resulting in increased competition and more competitive pricing. This growth is driven by a rising demand from Muslim and non-Muslim investors seeking ethical and interest free financing options.

Several UK banks and specialist Islamic finance institutions now provide Sharia compliant buy to let mortgages, offering a range of products tailored to different investment needs. This increased availability makes it easier for investors to find suitable financing options that align with their ethical and financial goals.

Eligibility Requirements for Sharia Compliant Mortgages

Contrary to common misconceptions, Sharia-compliant mortgages are not limited to individuals of Islamic faith. They are available to anyone who wishes to adhere to ethical financing principles. However, certain eligibility criteria must be met:

Creditworthiness

Lenders will assess the creditworthiness of applicants, just as they would for traditional mortgages. A good credit history improves the chances of approval and may result in more favourable terms

Income and Affordability

Applicants must demonstrate their ability to afford the mortgage payments. Lenders will review income sources, including rental income from the buy-to-let property, salaries, and other revenue streams.

Property Value and Location

The property being financed must meet the lender’s criteria regarding value, condition, and location. Some lenders may have restrictions on the types of properties eligible for Sharia-compliant mortgages.

Deposit Requirements

Similar to traditional mortgages, a deposit is required. The amount varies depending on the lender and the type of Sharia-compliant mortgage. Generally, a higher deposit can result in better terms.

Ethical Use of Funds

The use of funds must align with Islamic ethical principles. For instance, the property being financed should not be used for purposes prohibited under Sharia law, such as gambling or the sale of alcohol.

Sharia mortgages differ from standard mortgages in several legal aspects:
Ownership Structure

In traditional mortgages, the borrower owns the property, and the lender holds a lien until the mortgage is repaid. In Sharia mortgages, ownership can be shared (Musharaka) or held by the lender (Ijara) until specific conditions are met.

Profit Sharing and Lease Agreements

Sharia-compliant mortgages involve profit-sharing or lease agreements instead of interest-based lending. These structures are designed to comply with Islamic principles and require different legal documentation.

Ethical Considerations

The financing must align with Islamic ethical principles, affecting the types of properties financed and the uses of the property. This requirement ensures that investments adhere to ethical and moral standards outlined by Sharia law.

Legal Documentation

The legal agreements for Sharia-compliant mortgages differ from traditional mortgages. These documents outline the profit-sharing, lease, or partnership arrangements and ensure compliance with Islamic finance principles.