IJARA / IJARAH - Lease To Own

The term Ijara literally means rent, the Sharia process is known as Ijara-wa-Iqtina, rent with an acquisition or rent to own. The process of Ijara can be used for equipment as well as for property. The process is very simple, a single asset Trust is created, the Trust purchases the property, and then leases the property to the customer. With each monthly payment, a portion of that payment goes towards ownership, until the customer owns 100%.

The basic difference between a Sharia Ijarah-wa-iqtinah process and a conventional lease is that, the Ijara process obligates the Trust (seller) to sell the property to you under a Promise to Purchase, and while the same contract entitles the customer to purchase the property, the customer is not enforceable obligated to do so.

HOW THE PURCHASE PRICE OF THE IJARA TRANSACTION DETERMINED

The purchase price that is agreed to in the Promise to Purchase is equal to the original purchase price less the down payment made by the customer plus $1.00. For example, if the value of the property is $200,000 and the customer makes a $40,000 down payment, then the initial amount the customer has to pay the investor for 100% ownership is $160,001. As the customer’s ownership increases, this amount reduces, until the final ownership payment of $1.00

HOW THE MONTHLY IJARA RENT PAYMENTS CALCULATED

The initial Ijara amount that is financed by the customer, earns profit for the investor through monthly rental payments. Traditional amortization calculations are utilized to determine the exact monthly payment. The mathematical formulas are acceptable as there are no Sharia issues with mathematical calculations. The major difference between a traditional mortgage amortization and an Ijara transaction is that the Ijarah transaction is based upon a reverse amortization calculation.

THE BASIC OF USING A PERCENTAGE

While it may appear contrary to the Sharia, it is in fact acceptable to describe the profit on an Islamic transaction as a percentage. The following example should clear up any confusion regarding the acceptability of quoting the profit as a percentage in an Ijara transaction:
Suppose you have a $200,000 in cash.

You purchase a home and pay cash for the home.
You rent the home to a tenant for $1000 per month
At the end of the year you have collected $1000 x 12 or $12,000 in rent
That $12,000 in rent is a 6% return on your $1200,000 investment

Is that 6% Rent or Riba?

Well it is clearly it is Rent, as it is based upon a business transaction.

Now let's look at a traditional mortgage interest transaction:

Starting with the same $200,000 cash.
You give someone the money.
They proceed to purchase the same home with those funds.
They pay you the same $1000 per month, or 6% a year for use of the money.

This is basically rent on money

In this case is the 6% Riba?

yes, it is rent on money.

The first example was rent on property.

So it should be clear that from a Sharia perspective it is acceptable to describe the profit on an Islamic Ijara transaction as a percentage. Furthermore, it is also a requirement under the Truth in Lending Act/Consumer Protection Act that any profit earned on a residential real estate finance transaction should be described as a percentage so that a customer can clearly understand what the overall cost of the finance transaction is.