Islamic Mortgage Rates: Is Islamic Finance More Expensive Than a Conventional Loan?
Comparing Islamic Mortgage Rates With Conventional Financing
One of the common misconceptions among potential homeowners is that Islamic mortgages are too expensive compared to conventional financing – which couldn’t be further from the truth.
A decade or two ago, halal mortgages were more expensive than traditional mortgages, as pioneers in U.S. Islamic finance created an authentic Shariah-compliant alternative and worked through U.S. regulatory processes and approvals.
But now, Muslim home buyers don’t have to choose between their finances and their religious beliefs.
Islamic home financing is not more expensive
As the #1 U.S. provider of Islamic mortgages, Guidance Residential has made it its mission not only to offer a shariah-compliant alternative to a traditional mortgage, but also to provide it at a competitive price that makes it an affordable option.
While the structure of the Islamic mortgage contract is completely different from a conventional mortgage, the cost is similar, making the choice easy for American Muslims looking for halal mortgages.
How Does Islamic Home Financing Work?
Halal mortgages operate on a completely different foundation than a home loan. They follow principles of shariah law, which prohibits the charging or paying of riba, or interest, and emphasizes risk-sharing, fairness, and transparency. There are three common models used for Islamic home financing:
- Ijara is a lease-to-own model. A downside is that the customer does not own the property until the home is paid in full.
- Murabaha is a cost-plus-profit model. The bank purchases the property and sells it to the customer over time at a marked-up price, which is agreed upon in advance. A drawback of this model is that it creates an obligation that resembles debt.
- Musharakah, a partnership or co-ownership approach, is often considered the most preferable model. In this model, the bank and customer enter into a partnership to buy the property. The customer makes monthly payments until they own the property in full. They enjoy full ownership rights the entire time.
How Does Islamic Home Financing Work with Guidance Residential?
Observant Muslim homebuyers once found no option other than to pay rent for life if they wanted to avoid paying interest via a conventional mortgage. Guidance Residential, the #1 U.S. Islamic mortgage provider, pioneered a sharia-compliant alternative for Muslim home buyers through a Musharakah model of Islamic mortgage known as Declining Balance Co-ownership.
In this approach, the homebuyer and Guidance Residential enter into a co-ownership agreement. Both parties purchase the property together, with the homebuyer’s contribution acting as the down payment and Guidance Residential making up the rest.
Over time, the homebuyer makes monthly payments to gradually buy out Guidance Residential’s share of the property.
How Islamic Home Finance Companies Benchmark Their Rates
While Islamic mortgages are not a mortgage loan, Islamic home financing companies typically benchmark their rates with the prevailing mortgage interest rates in the United States. This is done partly to make it easy for consumers to comparison shop. It is not riba, however, as no loan is involved. Top scholars of Islamic law have examined this method of calculating a profit and found it to be completely shariah-compliant.
It’s also important to note that any financing in the United States has to follow governmental rules and regulations. So Islamic financing will look similar externally to a mortgage, and the rate is competitive with the current interest rate. The difference is that under that surface, it’s a completely different product.
Comparing Islamic financing with a mortgage loan is like examining two different cakes with similar icing on top. At Guidance Residential, our cake is halal.
Why Choose Islamic Financing vs Conventional Mortgage
Guidance Residential’s customers choose Islamic mortgages for many reasons. The first is that it matches their values.
The biggest dilemma facing American Muslim home buyers is interest. In Islam, a loan is meant to be a charitable act, and the lender should not profit from it. So a home finance model based on profiting from a loan is not acceptable, especially if an alternative is available.
The Solution
Guidance Residential was founded as a solution to this problem. Our alternative to conventional mortgages was developed with the help of six top scholars of Islamic finance, and it’s completely free of riba, or interest. Built on the concept of Musharakah, or co-ownership, it’s not a loan at all, but rather a joint purchase. An independent Shariah board continues to monitor Guidance Residential’s services to ensure that everything remains completely Islamically sound and authentic.
Because of this foundation, halal mortgages are also more just and equitable than a conventional home loan, which makes it appeal to home buyers of other faiths as well. Guidance Residential is not a lender, but rather a partner with the homeowner. Many other differences exist as well. An Islamic finance company is happily bound to rules of morality, such as capping fees and assuming some of the financial risks as appropriate with a joint venture.
It’s important to note that Guidance Residential is not a bank. Conventional banks are built upon the use of interest — practices that have contributed to financial crisis in the past. Even when they offer what they call Islamic mortgages alongside their conventional loans, they are still funded by interest.
When it comes to home financing, Guidance Residential’s focus is authenticity and integrity – not only because homeowners already have enough to cope with financially, but also because it’s the right way to conduct business.
Avoid Hidden Fees by Choosing Islamic financing
Conventional mortgages have historically been associated with fees that can end up increasing a home buyer’s costs in unexpected ways.
With a conventional mortgage, for example, if the borrower is unable to pay their bill on time, they are charged a late penalty, up to an additional 5%. On a $2,500 mortgage, that could mean an extra $125 in late payment fees. Part of that covers administrative expenses, while the rest is profit from the customer’s difficulties. Fees like these can hide behind low up-front costs, hurting customers when they’re already struggling.
Guidance Residential, on the other hand, charges only a small fixed fee to cover the administrative expenses associated with late payments. Islamic guidelines discourage profiting from someone else’s distress.
Some lenders also charge prepayment fees if a home buyer paid extra payments to pay off the home early. Guidance Residential does not charge this prepayment penalty either.
As a broader principle, Islamic financial laws require all costs to be disclosed, so home buyers can rest assured that all fees are transparent up front.
Start Your Home Buying Journey
Buying a home is one of the most important decisions you will make. The team at Guidance Residential is here for you every step of the way from pre-qualification and pre-approval on through to finding the right real estate agent for you and your family. We invite you to explore the home buying process with Guidance Residential today. You can also instantly calculate an estimate specific to your personal situation with our finance calculators online.
Guidance Residential’s co-ownership model of Islamic home financing remains the #1 U.S. Islamic home financing provider, with more than 40,000 families assisted over more than 20 years. Learn more and get started on your home finance journey today.
Your Guidance Residential Account Executive is here to help with any questions. Looking to refinance or purchase? Have a friend or family member who is looking for a home? Call 1.866.Guidance, or start an application today.
Originally published in June 2021. Updated in August 2024.
