Simple explanation of mortgages

Understanding the basics without getting lost in the legalities so you can make ethical decisions.

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I’ve recently been having conversations with people about buying houses. And I found I had to explain the concepts behind so-called “Islamic mortgages” a few times.

I think more needs to be done to teach Muslims about these products and—as with all financial products—how they often utilise confusing language on purpose to make you buy.

And regardless if it is halal or not…

Why aren’t we being taught not to buy something we can’t afford?

More on that later because we tend to get caught up in the technicalities and legalities but rarely stop to think about the ethics.

This isn’t financial advice. Just a very basic explanation of mortgages to hopefully make things a little clearer.

And I mean basic! Because you really understand something when you can explain it to a 5 year old.

Conventional mortgage

You want to buy a house but can’t afford it. So you ask someone to buy it for you and you’ll gradually pay them back—with interest.

They agree but…

You need to at least pay a little towards the purchase as a deposit and interest on top of what remains.

So the house might be worth 100k and by the end of the loan you pay 200k due to interest.

And the end may never come because the mortgage is for 30 years or more.

Now obviously this is haram. The interest is haram.

But let’s think about why it’s wrong (and stupid):

YOU CAN’T AFFORD THE HOUSE.

So your solution is to get into a 30 year debt so you can pay double?

And how will you pay? From your salary? You don’t have the money now and may not have it at some point in the future.

You are not a homeowner. You are a debt slave.

Murabaha

You want to buy a house but can’t afford it. So you ask someone to buy it for you and they sell it back to you—at a higher cost.

So the house might be worth 100k and by the end of the loan you pay 200k due to the markup.

If it sounds familiar it’s because all they did was rename the interest.

You might say well the third party bought the house so what’s haram about making a profit?

But why did they buy the house in the first place?

Because YOU wanted it and YOU couldn’t afford it. They are exploiting your dumb decision to buy something you can’t afford—it’s not an investment they just happened to make!

It’s not like they bought the house first then met you later.

They only buy the house because they can sell it back to you at a higher price. So you pay more for the house you can’t afford BECAUSE YOU CAN’T AFFORD IT.

Does it make sense? You are not a homeowner. You are a debt slave!

Not to mention this is two transactions in one which the Prophet forbade.

This is what some people call back door riba. Because it’s just riba with a different name.

And here’s a really useful way to really drive the point home:

Imagine selling murabaha to a non Muslim…

You say “hey I’m selling an interest free mortgage!”.

What will they think?

They will thing they only need to pay off the loan on the house.

Then you tell them the house costs double or more.

They will ask you why does it cost so much now.

You answer by explaining “well it’s not interest so it’s OK!”

They will probably call the police.

But for some reason it’s OK to do this to Muslims. Why?

Because we get caught up in legalities. We think making something sound Islamic is enough. We don’t dig deeper to find the ethical reasoning.

Got it?

Someone once told me “if changing the name saves you from the Fire then what’s so bad about it?”

Well then go and drink wine and call it grape juice.

Musharaka

You want to buy a house but can’t afford it. So you ask someone to buy it with you and you become co-owners.

So the house might be worth 100k… and it remains 100k at the time of the transaction because you’re a good Muslim who fears Allah.

You are smart.

Musharaka is basically a partnership. And it can apply to anything… not just for buying a house:

• You want to start a business but don’t have enough money. So you get your friend in as a partner and now you are co-owners of the business.

• You want to buy a car but can only afford half. Your father agrees to pay the other half and now you both own the car.

These are not loans.

Musharaka is easy to understand when you see it for what it is: a partnership.

You can’t afford something and maybe someone else wants it too but can’t afford it either. But together you can afford it and agree to become co-owners.

Muslims can do a lot with this mentality.

Let’s say you want to buy a house as an investment. You will make money from rental income.

But you can’t afford to buy the house so you ask your friend to invest with you.

• The house is worth 100k.

• You have 20k.

• Your friend has 80k.

• You put your money together and buy the house.

• You can agree on the ownership split but for easy maths let’s say you own 20% and he owns 80%.

• Now you rent out the house to a tenant for 1k a month.

• From the 1k you get 200 (20%) and he gets 800 (80%).

Simple. Halal. Smart.

Why is it different from the haram ones (aside from the fact they are haram)?

Because instead of paying more for something you can’t afford in the first place…

You created a solution that makes money for you and for another Muslim.

And this is the message I want to convey:

Look beyond the halal and haram (especially when people make haram look halal) and think about things in terms of reducing harm and increasing benefit.

But what if you only want to become a homeowner?

Diminishing musharaka

You want to buy a house but can’t afford it. So you ask someone to buy it with you and you become co-owners.

You then pay rent to the co-owner to buy more ownership over time.

It’s a diminishing partnership—the partnership disappears over time. Here’s the same example but working under a diminishing musharaka agreement:

• The house is worth 100k.

• You have 20k.

• Your friend has 80k.

• You put your money together and buy the house.

• You can agree on the ownership split but for easy maths let’s say you own 20% and he owns 80%.

• Now you pay rent to your partner.

• Let’s say the rent is 1k a month.

• From the 1k you get 200 (20%) and he gets 800 (80%).

• But you are a co-owner so no point paying rent to yourself.

• So you only pay the portion of rent owed to your partner (800) and…

• …an agreed amount on top to buy more ownership.

Each time you pay rent you add something on top to go towards buying more ownership. Not for paying off a loan—for MORE OWNERSHIP.

This is how you become a homeowner in a halal way while also creating benefits (rental income).

• Let’s say you pay 800 rent to your partner plus 200 for buying ownership.

• You now own 20% plus 0.2% for paying 200 (just an example for easy maths).

• Your share is now 20.2% and your partner’s share is now 79.8%.

In this manner your share increases over time and your partner’s share decreases over time until you are the full owner of the house.

But the beauty of it is your partner makes rental income in the meantime. Not like a bank taking interest or a fake “Islamic mortgage” exploiting you for profit.

The amazing thing is you become the full owner much quicker because of the way your rent decreases over time AND…

Your partner can make more money than they would from giving a haram loan in the same period of time.

Summary (explaining it to a 5 year old)

Conventional mortgage

You want a new toy but don’t have enough pocket money. Your friend says he will buy the toy and will only let you play with it if you pay them every time you get pocket money but also pay for their other toys too.

Murabaha

You want a new toy but don’t have enough pocket money. Your friend says they will buy the toy for you but now you have to pay him double if you want to play with it.

Musharaka

You want a new toy but don’t have enough pocket money. You and your friend put your pocket money together and buy the toy. Now you both get to play with the toy.

Diminishing musharaka

You want a new toy but don’t have enough pocket money. You and your friend put your pocket money together and buy the toy. Now you both get to play with the toy and you give him a little of your pocket money every now and then so you can play with it longer and longer until you get to keep the toy for yourself.