Muslim-friendly mortgages could turn out to be costly

Mainstream providers are beginning to cater for an Islamic market. James Daley assesses the products on offer
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The Independent Online

Islamic banking has been available in the UK for some years, but usually only through specialist providers - and never before across a High Street bank's entire branch network.

The new products reflect the increasing size of Britain's Muslim community, for whom conventional financial services present a difficult obstacle. One of the fundamental tenets of Islam, as laid out in the Koran, is that Muslims should not accept or pay interest for profit - the practice is known as "riba" - which makes borrowing money or even running a bank account difficult.

Lloyds and other Islamic finance providers work with Muslim clerics to ensure that their products comply with Muslim, or Sharia, law. The most popular products have been Sharia mortgages, which enable Muslim families to get a foot on the housing ladder without having to save up the entire value of a property first.

There are two main types of Islamic mortgage - Ijara and Murabaha. With Ijara mortgages, the bank buys the property on behalf of the purchaser, and leases it back to them over a pre-determined time period. At the end of the period, the property is handed over to the purchaser. The bank makes money by ensuring that the rent it charges is in line with the interest it would generate on a conventional mortgage.

Murabaha loans differ in that the bank goes into partnership with the buyer. Rent is paid by the purchaser to the bank each month, but the purchaser is given a greater share in the building as time goes on - as opposed to having to wait until the end of the agreement before owning any of the property.

A number of lenders offer Sharia mortgages, including HSBC and Lloyds TSB. Although Lloyds and HSBC have been relatively successful in attracting customers so far, some Muslims prefer to avoid dealing with these large institutions, because other areas of the banks' business do not comply with Muslim law.

In addition to forbidding the accrual or payment of interest, Islamic law also rules out investments in industries such as gambling, tobacco and pornography. The large banks all lend to such businesses, or have investment arms that hold shares in them.

For this reason, some Muslims prefer specialist Islamic finance providers. Alun Williams, the head of marketing for the Islamic Bank of Britain, says: "Of the other organisations in the market, some will have Islamic products as well as non-Islamic products. If someone comes to us, they find all of our products are Islamic, almost all of our front-facing staff are Muslim, and most of them have language skills."

Amjid Ali, the head of HSBC Amanah UK, a department that provides Sharia-compliant services, says: "HSBC is not an Islamic financial institution. It's a global financial institution." However, he stresses that any money held in HSBC Amanah accounts is ring-fenced to ensure that it is not invested in non-Sharia companies, or used to gain interest.

One issue for Muslim borrowers to consider is the value on offer from different lenders. Williams says that the Islamic Bank's most competitive mortgage deal costs the equivalent of a conventional mortgage at a fixed rate of 5.18 per cent until October 2007.

David Hollingworth, of independent mortgage broker London & Country, says that this is some way above the most competitive two-year fixed rate deals on offer in the mortgage market at the moment, which are priced at around 4.6 per cent.

Paul Sherrin, the head of Islamic financial services for Lloyds, concedes that not all its rates are so competitive, but claims that this is partly because the bank takes on more risk in a Sharia mortgage. He adds that, at worst, Sharia rates remain competitive with lenders' standard variable rates, which are typically about 6.5 per cent.

Financial services for Muslims

* As well as mortgages, several financial institutions now offer smaller borrowing facilities, savings and current accounts that are Sharia-compliant.

* Alun Williams explains that the Islamic Bank of Britain lends smaller amounts by buying a commodity, such as a precious metal, up to the value of the loan required. It then sells the commodity back to the customer over a period of time.

* Muslims are permitted to make investments as long they do not have a financial stake in companies that don't comply with Sharia law. There is already one institutional Sharia investment fund, but Williams expects more products to be launched.

* In addition, Sharia bank accounts - which pay no interest and have no overdraft facility - are increasingly widely available.

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