Faithful Muslims around the world are increasingly demanding that their financial needs be fulfilled in alignment with their belief system. In catering to this demand, an industry emerged in the 1970s known as “Islamic Finance.” The underlying principles of this new industry mandate that financial transactions catering to Muslims be conducted according to Islamic legal jurisprudence, also known as “Sharia.”
Sharia is the law of the Muslim faith derived from rules and injunctions from the Quran (Muslim Holy Scripture) and Sunnah (sayings and narrations of the Prophet Muhammad). Sharia consists of two parts: a) Ibadat (worship/rituals) and b) Muamalaat (activities under civil area). Fiqh Al Muamalaat is the branch of Islamic legal jurisprudence that sets the standards and regulations for commercial and business activities in the economic life of a Muslim. The Islamic finance industry evolved from this branch of Islamic law that describes how financial contracts should be constructed so that faithful Muslims can remain sincere to their belief system while enjoying the goodness from the life of this world.
Financing a home is the biggest investment decision in the lives of both Muslims and non-Muslims alike. While there are no shortage of options for conventional customers to finance their homes through mortgage loans, until Islamic financial institutions emerged in the financial system, Muslims had to compromise on their faith based values if they wanted to purchase their homes. This was true for Muslims residing in not only western countries but also in the Muslim majority countries. After the foundation of the first Islamic Bank, Dubai Islamic Bank in 1975, Muslims in the United Arab Emirates became exposed to an alternate financial product that was well aligned with their principles and traditions. The success of Dubai Islamic Bank was noticed, and similar financial institutions were founded in other parts of the world. These Islamic banks and alternate financial institutions offer Islamic home mortgage products to facilitate the home buying needs of Muslim consumers. Islamic home financial services are now available in western countries including the United States and the United Kingdom.
There are three primary methods with which Islamic home financial contracts are formulated to assist Muslims in purchasing their homes under Sharia: a) Murabaha, b) Ijarah and c) Musharakah.
The Murabaha method is a process similar to a deferred payment sale. It is an installment sales contract of a real property. This method is consistent with the standard real estate processes and also most easily understood by customers, however if debt is traded in the process, consensus of Islamic Scholars suggests it is not permissible under a Murabaha program.
Ijara literally means “to lease.” Islamic Banks that use the Ijara method for financing homes, formulate a contract known as ijara mutahi mitamlik or “leasing ending in ownership” or “lease to own.” In this process the customer makes rental payments for use of the property to buy the property according to a pre-agreed schedule. The detail clauses under this type of contract are subject to a variety of interpretations in terms of Sharia authenticity, due to various rules and regulations.
Musharakah literally means “joint venture.” Islamic non-banking institutions prefer this method for structuring Islamic home finance contracts due to its sound applicability in staying consistent with Sharia law. The most popular method under Musharakah for home financing is the Diminishing Balance Co-ownership structure, where the customer and home financier operate as co-owners of the property and, over an agreed upon period, the customer buys out the total share from the financier. In the United States, Musharakah is opined by experts to be the most sound and scalable in terms of balancing Sharia with conventional mortgages in fulfilling the home financing needs of faithful Muslim Americans.
The Author works with Guidance Residential, an Islamic Finance Company Providing Home Financing Solutions and Islamic Mortgage for Muslims in USA.