Principles of Islamic Finance

Islamic finance is a unique form of socially responsible investment that involves banking, lending and saving practices that comply with Sharia or Islamic law. The philosophy behind it focuses more on risk-sharing rather than risk transference.

Key themes of the product that relate to buying a property include:

• restricting the use of the property for unlawful goods or services - like alcohol, pornography or gambling;
• the avoidance of riba (exploitation), where interest is seen as riba;
• the avoidance of gharar (ambiguity or deception), where full disclosure of information and transparency is a sacred duty;

Although Islamic banking strictly prohibits interest, it does permit profit from a trading activity. The ethical and economic principles of Islamic finance are drawing interest outside of the Muslim community, and as such are available to everyone in South Africa.

Diminishing Musharaka Agreement

Not charging interest requires the Islamic banks to finance investment projects through profit and loss sharing. One of these methods is called a Diminishing Musharaka agreement.

In Diminishing Musharaka (or diminishing co-ownership), the Bank and the Homebuyer participate in joint ownership of the property. The Homebuyer, as a lessee, uses the share of the Bank and pays rent, and as a partner redeems the share of the Bank over time.

The legal title of the property is owned by the Bank on completion of the purchase, and a lease is created between the Bank and the Homebuyer - under which the  Bank charges the Homebuyer rent on its share of the property. The equitable shares in the property are proportionate to the amount of capital contributed between the Bank and the Homebuyer. As such, the Bank does not earn any interest, and rather collects its income by the profit generated by rent.  

The homebuyer’s share would increase as they make their acquisition payments (on top of the rental) and the payments will accordingly adjust throughout the term. The Bank then transfers the property into the Homebuyer’s name when the homebuyer has completed their acquisition payments and as they now own 100%, the lease agreement effectively comes to an end.

Available lenders

Conventional banks that offer Islamic finance in South Africa are:

• Albaraka Bank (the founder of Islamic finance in SA);
• FNB;
• HBZ (a subsidiary of Habib Bank AG Zurich);
• ABSA; and
• Standard Bank.

Where to Apply

Phoenix Bonds can assist purchasers in sourcing Islamic finance alongside our traditional finance partners – just let your experienced home loan consultant know your preference.

For a FREE prequalification for home finance, reach out to us today!