I have not been very active writing new posts on this blog due to other commitments. Furthermore, I am now more active on Instagram (@rizqonomics) where I upload short reels and posts. However, I will try to increase my writing frequency here too inshaAllah.
I have been recently contacted by quite a few people from the UK asking if their Islamic home finance payments (Islamic mortgage payments) will go up due to the overall interest rate increases and after hearing that the mortgage payments of customers of conventional banks have gone up. When I reply that this will most likely be the case, this is often met with surprise as many have assumed that as they have an Islamic home finance plan (Islamic mortgage), they would not be affected by rising interest rates.
Islamic home finance is an important subject matter for Muslims globally with ultimate home ownership being a goal of many. In this day and age, it is unusual for individuals to have enough liquid cash to purchase a home outright and hence many of them resort to seeking finance from Islamic financial institutions (IFIs). The 3 most common Islamic home finance structures used by IFIs are Murabaha, Ijarah ending in ownership and Musharakah Mutanaqisa (Diminishing Partnership).
While the first two structures are the most common in the Gulf countries, the latter is the predominant structure used by Islamic financial institutions in the West. Without going into the technical Shariah details and differences between the three structures, to simply put it, if someone has an Islamic home finance product based on Murabaha, the payments would be fixed as it is based on a sale agreement. However, with the other two Islamic home finance products, as the customer rents the property from the bank or rents the bank’s share of the property, the rent charged by the bank for future periods is subject to review and increase on a periodic basis. For example, the Islamic bank may offer you a fixed initial rental rate for the first couple of years but when the fixed rate period comes to an end the rental rate will switch to the standard variable rate (interest rate) in the market for example, however, there is usually a cap in place.
As Islamic banks operate within the overall banking system, they are also affected by changes in interest rates as the bank’s cost of funds increases as they will need to pay higher profit rates to attract depositors whose funds are used to fund the bank’s Islamic home finance products (Islamic mortgages). Therefore, it is always important to carefully read the contracts carefully to fully understand how the product works and what will happen to your monthly payments if interest rates were to change as ignorance is not an excuse. In Islamic home finance products (Islamic mortgages) the customer is technically taking out a debt-based product.
Therefore, before taking out any such product, besides being comfortable with the Shariah structure, you should also ensure that you would comfortably be able to meet your monthly payment obligations if interest rates were to change. Just because a product is Shariah compliant, it does not mean that it is the best long-term financial/economic decision for you and your family.