Islamic Mortgage Rates: Is Islamic Finance More Expensive Than a Conventional Loan?

Islamic Mortgage is not expensive

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, Islamic financing was more expensive than conventional 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 values. Home buyers can find Shariah-compliant home finance options that are not only competitively priced but even offer additional financial advantages. It’s a win-win.

Islamic home financing is not more expensive

As the #1 U.S. provider of Islamic home finance, Guidance Residential has not only made it its mission to offer a Shariah-compliant alternative to a mortgage, but also to provide it at a competitive price that makes it an affordable option.

While the structure of the contract is completely different from a conventional mortgage, the cost is similar, making the choice easy for American Muslims looking for a halal mortgage alternative.

How Does Islamic Home Financing Work?

Islamic home financing operates on principles of Sharia, 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, Murabaha, and Musharakah.

  1. Ijara is a lease-to-own model. A downside is that the customer does not own the property until the contract period is complete and the home is paid in full.
  2. 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 downside of this model is that it creates an obligation that resembles debt.
  3. 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?

Guidance Residential, the #1 U.S. Islamic home financing provider, pioneered a Sharia-compliant alternative to a conventional home loan through a Musharakah model 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. These payments consist of two parts: an acquisition payment (which reduces the balance) and a profit payment (for using the portion of the home still owned by Guidance Residential).

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 rates in the United States. This is done partly to make it easy for consumers to comparison shop as they look for the right home financing. 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 a 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 that Islamic law prohibits the use of riba, or interest, and that is what a conventional home loan depends upon. 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.

Guidance Residential was founded as a solution to this problem. Our alternative to a conventional mortgage loan was developed with the help of six top scholars of Islamic finance, and it’s completely free of riba, or interest. This model is built on the Islamic financial concept of Musharakah, or co-ownership. It is not a loan at all, but rather a joint purchase. After the home is purchased, the homeowner gradually buys out our share of the home over the course of their contract. 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, Islamic finance is also significantly more just and equitable than a traditional mortgage, 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. The 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. The more closely people examine this co-ownership model, the more appealing they tend to find it.

It’s important to note that Guidance Residential is not a bank. Conventional banks are built upon the use of interest from the bottom up — 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

Traditional mortgages have historically been associated with fees that can end up increasing a home buyer’s costs in unexpected ways. With conventional mortgage loans, 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 a fee 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.

Calculate the Cost of Home Financing with Guidance Residential

Ready to get an idea of the costs of financing a home with Guidance Residential? You can instantly calculate an estimate specific to your personal situation with our finance calculators online.  

Connect With Guidance Residential Today

Choosing an option for home finance can be daunting. Fortunately, our expert Account Executives are there to help! Contact us and a Guidance Residential Account Executive would be happy to answer any questions you may have.

Your Guidance Residential Account Executive is here to help with any questions. Looking to refinance or purchase a home? Call 1.866.Guidance, or start an application today!

Originally published in June 2021. Updated in January 2024.