Total loss

Under Sharia, a lessee pays a landlord rent for the right to occupy a property. If a customer’s use of the property is impaired, particularly if the property is destroyed, they can be denied the benefit of the lease and cannot be compelled to continue paying rent. This is in contrast with a conventional loan where the customer continues making payments under the loan if the property is destroyed until the insurance proceeds are received.

Floating rent rates

Under Sharia, the amounts payable by the parties must be stated, otherwise the contracts will be void for uncertainty. There is a theoretical argument that floating rates of rent are potentially uncertain. However, to cater for such uncertainty in floating rent rate contracts there would be a defined ‘rent period’ during which the rate of rent payable by the customer is fixed. The rent payable in a subsequent rent period would be determined prior to the commencement of the relevant rent period. The customer would be granted an option to settle their outstanding obligations early if they are unhappy with the revised rent, or they may accept the revised rent and the lease would continue.

Early settlement

If the customer were to purchase the financier’s entire share in the property prior to the agreed date, the Diminishing Musharaka Agreement will be terminated. As a consequence, the reference amount of the rent (i.e. the outstanding investment of the financier) will be reduced and rent will no longer be payable. There is no justification under Sharia, however, for the financier to charge the customer breakage costs for early settlement.

Usage screening

An Islamic bank providing a Diminishing Musharaka product, as a landlord, is required to take the extra step of ensuring that the use of the property leased to the customer is Sharia-

compliant. Although a conventional bank is not subject to such requirements by Sharia, a financier must be wary of the reputational risk of providing a Diminishing Musharaka product to a customer who intends to use the property for a use that is not Sharia-compliant (e.g. as a brewery).