A few weeks ago, my friend Ahmed invited me to his housewarming party. Ahmed is a couple of years younger than I am. He works a decently paid job, is married and recently had a kid. He also bought a three-story, semi-detached house in a leafy London suburb. As someone with dreams of moving out of my childhood bedroom sooner rather than later, I asked Ahmed how he managed to accomplish this feat and not be in a perpetual state of panic. “Two words,” he responded: “Islamic finance.”
Because Islam isn’t just a religion but a “way of life,” with codified rules and behaviors, Islamic finance refers to religiously approved ways of lending and paying back money. At its core is the avoidance of riba (usury) and gharar (risk). Back in the seventh century, this meant that if one person lent another crops or livestock, they should only expect the same amount to be returned to them, while the borrower wasn’t allowed to gamble with them.
In modern banking, meanwhile, Islamic finance relates to the issuing of loans without interest. Because Islamic law views money as a measuring tool for value, rather than as an asset, it forbids lenders from making money out of money. It similarly forbids lenders from gambling on loans — something its supporters say could have prevented the subprime mortgage crash that led to the 2008 recession. They claim that a more halal, or Islamically permissible, way to make a profit is by using their client’s money to invest in companies, fixed assets like land or industries like metals or natural gas, which are considered “safer” options that are more likely to preserve the initial investment.
Though Islamic finance was initially geared toward Muslims who, because of strict adherence to their faith, didn’t want to get traditional student loans or mortgages, it’s quickly becoming an alternate model of banking. J.P. Morgan and Barclays have large Islamic finance divisions while Middle Eastern banks like Al Rayan have set up shop across Europe and North America. Essentially, Islamic finance has shifted from small, niche lenders primarily serving religious Muslims into an industry worth more than a trillion dollars.
When I ask Ahmed what he needed to do to secure his home loan, he tells me that it wasn’t much different from applying for a mortgage at any other kind of bank — i.e., he needed to show a few years’ worth of bank statements and pay stubs as well as undergo a credit check and a review of his wife’s assets. Once approved (a process that took around six months), the bank bought his property outright and agreed on a monthly payment plan. “The plan had no interest,” he tells me. “But my mortgage payments are much higher than if I’d taken out a traditional mortgage.”
Though Ahmed doesn’t go into specifics, he says that, after taxes, close to half of his monthly paycheck goes toward paying the mortgage. The aim, he explains, is short-term pain and long-term gain — or better put, the goal is to pay off the mortgage in a quicker time period than usual (he estimates around 20 years in his case).
“The buyer has more control over the terms of their agreement,” says Imtiaz Khair, a U.K.-based financial consultant who specializes in Islamic finance and has helped dozens of families secure halal mortgages and loans (even for those who aren’t Muslim). “After 2008, people wanted more security when it came to investing,” he tells me. “Islamic loans offer security when it comes to savings, which makes most people, not just Muslims, feel more secure.”
That said, Khair concedes that this type of arrangement is more of a “restructuring” of an existing mortgage than a completely different alternative. Buyers like Ahmed still have to front the down payment — usually in the tens of thousands of dollars — before any kind of buying agreement is fashioned. Plus, your ability to make the monthly payments is more or less what determines whether the bank will buy the property on your behalf. In other words, you need significant wealth and earning power just to qualify, and loans can be denied to those with shaky credit histories or those who haven’t officially been on a payroll for a few years (read: freelancers).
In short, a sharia mortgage is pretty much as exclusive as one from Barclays or HSBC.
What happens, too, if you suddenly lose your job, or are forced to take a pay cut, making it difficult to repay your loan? Uthman Ali, a consultant at Uthmanie Advisors, an Islamic finance firm, admits that for some sharia banks, “repeated lack of repayments is likely to result in repossession of the property.” And he adds, “Repossession is easier in the context of Islamic banking, because it’s not just the debt that the bank ‘owns.’ They own the property completely.”
In large part, that’s why analysts believe that Islamic finance has a long way to go if it’s to truly become an “ethical” alternative to free-market banking and financing. “In the Middle East, Islamic finance has developed because of an economy based on oil and natural resources,” says Hichem Hamza, an economist at the Islamic Economics Institute in Saudi Arabia. Because those resources are largely directed by the state, it means that financial institutions naturally tend to fall in line with the government’s wider economic objectives. In the West, however, Hamza notes that “even if banks act Islamically when they lend money, the rest of the [economic] system doesn’t do the same. As such, the Islamic banks are subject to outside forces, to interest rates, the FTSE, the NYSE, etc.”
It’s these outside forces that, Hamza says, informs the agreement Islamic banks make to their clients. So, for example, if someone enters a sharia mortgage agreement to buy a house for $100,000, that buyer may actually be paying $120,000 over the course of the loan to cover the bank’s own interest payments and costs.
“The riba is still there,” Hamza says. “It’s just organized on paper in a different, more halal way.”