We answer the commonly asked questions about the Bank, our products and services and Islamic finance in general
Islamic banks pay profits rather than interest on savings products, and charge rental not interest on their home finance products.
It is important to remember that Islamic banks are based on Sharia. Therefore, they pay profits rather than interest on savings products, and charge rental not interest on their home finance products. As a UK bank regulated by the Financial Conduct Authority (FCA) and Prudential Regulation Authority (PRA).
Al Rayan Bank is required to display its charges in this way so that consumers can judge the value of what it offers and charges. Customers must be able to compare Al Rayan Bank’s profit/rental rate and charges against what they would receive or be charged by conventional financial institutions.
By expressing the rental rate as a % the charge is not converted into interest. It simply expresses how much rental Al Rayan Bank is charging the customer as a percentage of the property purchase price. It also allows the customer to compare this charge with other providers in the market, including conventional mortgage companies, and to make a decision on which product is most suitable for them.
Whilst the HPP is Sharia compliant and the conventional mortgage is not, the % rate is a common measuring tool that makes the two products comparable. Displaying % rates for products from Islamic banks therefore benefits the customer and their ability to make a choice about the products they wish to take.
It is important to clarify that this Sharia compliant savings product(s) is called ‘Fixed Term’ and not ‘fixed return’. It is usually offered under the Islamic principle of Wakala (an agency agreement). With this product, the Islamic bank provides an expected profit rate over a set period as a ‘target’ based on the investment activity it will undertake with the deposits.
The ‘Fixed’ element relates to the length of time the bank will undertake the investment activity for the customer. For example, two years for the Two Year Fixed Term Deposit Account. These savings products do not offer a fixed return in the same way that conventional banks that pay interest do.
Under Sharia, the bank cannot guarantee a rate of return, because with investment there is always an element of risk. However, Islamic banks mitigate this risk for the customer in many ways, so that the customer’s deposits and return do not suffer.
If we’re unable to achieve the expected profit rate, we will write to customers allowing them to either terminate the investment, taking their funds and the profit rate advertised up to that date, or continue with the investment at a lower expected profit rate. To date, for this type of savings product, Al Rayan Bank has always achieved the expected profit rate offered to its customers.
The Bank invests its customers’ deposits in Sharia compliant activities in order to generate a target profit. It does this either by becoming an agent of the customers and receiving an agreed agency fee and/or incentive, or by entering into a partnership with the customer and sharing the risk and reward.
Al Rayan Bank only invests its customers’ deposits in relatively low risk commodities. Currently investments take place in trades of low risk commodities (non-precious metals), Sukuk (Islamic bonds) and property, through the Bank’s Home Purchase Plans and Commercial Property Finance.
Savings products offer an expected profit rate, not a fixed rate, because with investment there is always an element of risk. This is highly managed by the Bank so that the risks of not achieving the expected profit rate are extremely low.
In the 10 years that Al Rayan Bank has operated in the UK, both under its existing name and its previous name of Al Rayan Bank, it has always paid its expected (or target) profit rates, and in some cases, has paid more to its customers.
Al Rayan Bank has never failed to achieve an expected profit rate; on occasions we have even paid more. As with all UK banks, Al Rayan Bank’s depositors are covered by the Financial Services Compensation Scheme (FSCS).
The profits that Al Rayan Bank’s savings account customers receive are a combination of the rents received from the Bank’s HPP customers and the returns from the investment activities the Bank has undertaken.
Currently investments take place in trades of low risk commodities (non-precious metals), Sukuk (Islamic bonds) and in the Bank’s property investments. Savings are never invested in activities such as gambling, pornography, speculation, arms, tobacco or other commodities prohibited under Sharia.
Home Purchase Plans are Sharia compliant mortgage alternatives. Unlike conventional mortgage products, Home Purchase Plans are based on the Islamic finance principles of co-ownership (Diminishing Musharaka) and leasing (Ijara), rather than the lending/borrowing relationship. Therefore, HPP customers are not charged interest, which is prohibited in Islam.
Al Rayan Bank has developed the Home Purchase Plan as a Sharia compliant alternative to a mortgage. The principle difference between a HPP and a conventional mortgage is that the lending/borrowing relationship does not exist. For this reason, interest does not form part of the arrangement.
As a Sharia compliant product, Al Rayan Bank’s HPPs are based on co-ownership and lease agreements arranged using separate principles of Islamic finance: With a HPP, of say 20 years, Al Rayan Bank and the customer buy the property jointly. The customer then has 20 years to buy the Bank’s share for the same initial purchase price. This is based on the Diminishing Musharaka (diminishing partnership) principle of Islamic finance. At the time of completing the joint purchase, the customer will live in the property even though a large share of it is owned by the Bank.
Therefore, until the customer becomes the full owner, they will lease the portion of the property still owned by Al Rayan Bank and pay a monthly rental to the Bank. This is based on the Islamic financing principles of Ijara (leasing). When all acquisition payments have been made and the finance has been settled, ownership of the property transfers fully to the customer and they now own their home outright, without having paid any interest.
It is also important to note that the money Al Rayan Bank uses to buy homes jointly with its customers is from Sharia compliant sources. The Bank does not use any interest-bearing products to finance customer’s homes. Instead it uses its own funds, or the savings deposits from its customers, creating a virtuous circle for everyone involved.
Al Rayan Bank and the customer buy the property as partners. The customer pays rent on the share of the property that they do not own over the duration of the term until they have acquired Al Rayan Bank’s share. At this point the title transfers from Al Rayan Bank to the customer and the customer has purchased their property without ever having paid interest.
At the onset, the customer and the bank jointly own the property. With every HPP payment the customer’s equity in the property increases and the rental element decreases, reducing the Bank’s share on a diminishing basis. At the end of the term, ownership of the property transfers to the customer outright.
It is important to understand that Sharia does not prohibit the use of benchmarking as long as it is a commonly recognised and easily accessible benchmark. A benchmark is an important tool in Islamic finance; Islamic banks must ensure that their products, and the prices that are charged, avoid uncertainty for the customer and are consistent with the prices of the local market.
Islamic banks therefore use BBR to price their products, as they are very widely recognised and enable them to meet these important criteria. For example, a benchmark is usually used by Islamic banks to determine the rental rates for Home Purchase Plans (HPPs). It does not have any bearing on any other aspect of the product.
An Al Rayan Bank HPP is based on the Islamic finance principles of Diminishing Musharaka (diminishing partnership) and Ijara (leasing). The benchmark does not impact these principles or the way in which a HPP works and its use does not introduce interest into the arrangement.
This is a very common misconception. In reality, Islamic home finance products, such as HPPs from Al Rayan Bank, are very competitively priced when compared to the market overall. Rental rates, whilst not the cheapest in the market, are often found in the mid-range of comparison website tables.
However, customers should not simply look for the lowest headline rate when considering a finance product for their home purchase. Islamic home finance products, such as Al Rayan Bank’s HPPs, offer customers a great overall package with other attractive features.
An example might be the low administration fee that is charged to customers, which reflects the actual cost incurred by the bank. Also, Islamic banks, such as Al Rayan Bank, often allow customers to make additional acquisition payments without imposing large, arbitrary, charges for doing so with no early settlement charges.
Overall, therefore, Islamic home finance has become more affordable and gives customers a real choice when deciding which type of product is most suitable for them.
Islamic banks use BBR to price their products as these are the most accurate, widely accepted and consistent benchmarks for financing. This allows Islamic banks to meet the important Sharia criteria of ensuring consistency and avoiding uncertainty.
If rental rates were to be used as a benchmark, there would be too much variation. To illustrate this, rental rates fluctuate depending on a number of factors such as the condition of the property and location; rent charged for a property in London would be three or four times more expensive than a similar property in the North.
Consequently, the Islamic bank would not be able to offer a fair and consistent rental rate for its products. Not only is this against the Sharia but it would also be costlier for the customer. The use of a well-recognised benchmark therefore allows the Bank to offer better value for the customer by pricing products that are in line with the local market.
Al Rayan Bank customers have the right to sell their property at any time, with no penalties, even if they are in a Fixed Rental Rate agreement.
If a customer decides to sell the property which has increased in value, the Bank forgoes its rights to a share of the profits and they are paid entirely to the customer.
Al Rayan Bank HPP is based on Diminishing Musharaka (Co-ownership) and Ijara (Lease) agreements. One of the important conditions for Musharaka, under Sharia, is that the partnership is formed with the objective of making a profit. It cannot be formed, by either party, with a hidden intention to create a loss for the partner.
Under the Al Rayan Bank HPP the customer has the right to request the sale of the property at any time, without incurring any penalties. The Bank will, in normal circumstances, agree to sell. Any profit made from the sale will go entirely to the customer. Al Rayan Bank will forgo its share in any profit made from the sale. However, sometimes a negative equity situation may arise when the sale price is lower than the initial purchase price.
In this instance, since the sale is resulting in a loss, the Bank, as a partner in the property, has the right, under Sharia, to refuse the sale. Nevertheless, if the customer has special circumstances and really needs to sell, they can purchase the Bank’s share for the same initial purchase price. They may then sell the property to a third party at any price they are willing to take. This, however, may result in a loss for the customer.
Sharia does not allow clauses in two contracts which make them interdependent on each other with a complicated outcome that is not Sharia compliant. This is not the basis for an Al Rayan Bank HPP which is based on independent and separate contracts, the outcome of which is straightforward for both the customer and the Bank.
When a consumer buys a property in the UK, they automatically must pay Stamp Duty, if applicable. Under the Al Rayan Bank Home Purchase Plan (HPP), the customer and the Bank jointly purchase the property. However, the ultimate owner will be the customer after they have bought the Bank’s share over a period of time. As such the Stamp Duty cost will also, eventually, have to be passed to the customer.
For Al Rayan Bank to be able to offer the HPP with a competitive monthly rental rate, it is more practical if the customer pays the Stamp Duty when the property is initially purchased. Some Islamic banks do offer to share the costs when the property is first bought. However, this results in a subsequent higher monthly rental rate to cover the bank’s extra costs.
Thus, with Al Rayan Bank the customer pays the Stamp Duty at the outset of the joint purchase to enjoy a lower rental rate over the long term. It is interesting to note that in 2003 the UK Government acted to end the double stamp duty incurred by customers buying their homes under Islamic finance principles. This helps to introduce a level-playing field for Islamic banks offering this type of home finance.
The Home Purchase Plan (HPP) is a product which enables the customer to buy their own home in a Sharia compliant way, without interest. The overall objective of the HPP, therefore, is to allow the customer to purchase the property over a period of time, so that, ultimately, they become the owner.
For an Islamic bank to be able to offer the HPP at a competitive rental rate, it does not take on the responsibility of maintenance and insurance as part of the Ijara agreement. If the bank were responsible for carrying out maintenance, procuring buildings insurance and the subsequent administration, the rental rate would need to be higher.
This would therefore affect the customer’s long-term objective of buying their home in a Sharia compliant, and affordable, way. With an Al Rayan Bank HPP, the Bank appoints the customer as a Service Agent responsible for maintenance of the property and ensuring that it is covered by appropriate insurance. This is permissible according to Sharia and is beneficial for the customer; it means the Bank can charge a lower rental rate that is competitive with conventional banking and ultimately enables the customer to buy their home without paying interest.
Hence, the responsibility for maintenance and insurance rests with the customer, who will ultimately own the property after they have bought the Bank’s share over a period of time.
Al Rayan Bank does not currently provide personal loans, overdrafts or credit cards.
As the customer buys our share in the property, their ownership increases, and their rental contributions therefore decrease.
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