With a co-ownership agreement, you can finance your home the Islamic way

One of the “big four” banks has been offering an Islamic home loan, an alternative to conventional property financing, since the beginning of the year.

First National Bank (FNB) Islamic Banking says its product is aimed at Muslims who want to finance their homes in a manner consistent with the requirements of their faith. But, like all Islamic financial products and services, it is open to everyone.

Islamic finance operates according to strict ethical principles, not least of which is that charging interest on a loan (in other words, putting a time value on money) is prohibited (see “Principles of Islamic finance”, right).

FNB Islamic Banking’s home loan is not strictly a loan. It is modelled on what is known as a “diminishing musharaka” type of financial transaction. Amman Muhammad, the chief executive of FNB Islamic Banking, explains how this works: “Diminishing musharaka, simply translated, refers to ‘diminishing co-ownership’, in this case between the bank and a customer whereby:

• The bank and the customer acquire a joint interest in an identified property;

• Their funds are combined to purchase the property and the joint interest is proportionately divided by each party’s contribution; and

• The bank calculates the payments based upon a mark-up, which effectively allows the customer to purchase the bank’s portion over a pre-agreed duration at a fixed profit mark-up, reviewed annually.”

Muhammad provides the following example: you want to finance a property that is on the market for R1 million. You are subject to a normal credit assessment, and, based on the outcome, finance will be granted in relation to the ratio of the risk assessed. If the amount approved by the bank is R900 000, the bank will acquire a 90-percent stake in the property and you will have to provide the remaining R100 000, in which case you will initially have a 10-percent stake in the property.

Over the duration of the agreement, the bank will sell off its stake piece-meal to you, with a fixed profit mark-up that is reviewed annually. The co-ownership agreement ends once you have acquired the bank’s stake in the property. The property is then transferred into your name.

Muhammad says the main advantage of the Islamic home loan is that it offers a competitive fixedprice deal in volatile economic conditions. “It allows for a degree of certainty for the customer through annual price reviews and will periodically accommodate a lump-sum purchase of the bank’s stake in the property,” he says. In other words, from one year to the next, you know exactly what your repayments are each month, similar to a fixed-rate loan, but with the flexibility of an annual review.

You may also find that the bank is kinder to you if you get into financial difficulties and can’t make your payments. In such instances, the “normal process for collections” would generally apply, Muhammad says, “while observing due protocol around the specific rules that govern defaults from an Islamic finance perspective. These protocols allow for fair negotiation, which aims to protect each party’s rights.”

Muhammad says the bank has had considerable interest in the product and has seen good customer take-up since it was formally launched earlier this year.

“Given that FNB Islamic Banking is one of only two financial institutions to formally offer this type of residential property finance, we envisage substantial growth in the industry,” he says.

• Also offering Islamic residential property financing is the local arm of the international Al Baraka Bank, a wholly Islamic bank based in Durban with branches in the other major cities.