Islamic business finance in the UK: Sharia-compliant funding for premises, equipment and growth

Islamic business finance is funding structured to avoid interest (riba), excessive uncertainty (gharar) and speculation (maysir), with the provider's return coming from trade, rent or shared profit linked to a real asset or business activity. Rather than lending money and charging interest on it, the provider typically buys an asset and sells or leases it to the business, or invests alongside the business and shares in the outcome. The money must also not fund activities that Islamic principles prohibit, such as alcohol, gambling, pork-related trade or conventional interest-based finance.

In practice, many Islamic structures produce a payment profile that looks similar to conventional finance: a known amount paid monthly over an agreed term. The difference lies in the contract. The business is buying an asset at an agreed price, renting it, or buying out a partner's share, rather than borrowing money at interest.

Islamic business finance suits businesses that want to avoid interest-based borrowing for religious or ethical reasons and that operate in permitted sectors. That includes Muslim-owned businesses and, increasingly, owners of any background who like the asset-backed, shared-risk approach. It works best for:

• buying business premises, through diminishing musharaka or ijara;
• acquiring plant and machinery, equipment and vehicles, through murabaha or ijara;
• funding stock and trade purchases, through murabaha;
• larger property and acquisition deals where providers have established Sharia-compliant structures.

It suits less well where the business operates in a sector providers will not fund, such as alcohol, gambling or conventional financial services, or where a significant share of its revenue comes from such activities. The choice of providers is narrower than in conventional finance, particularly for small, unsecured or urgent working capital needs, so a business needing funds very quickly or at small sizes may find fewer options. Deals that need flexible, multi-layered structures can also take longer to arrange.

Islamic finance providers assess the same credit fundamentals as conventional lenders, plus whether the business and the asset pass their Sharia screening. They typically look at:

• Business activity. What the business does and where its income comes from, to confirm it falls within permitted activities.
• The asset. Its type, value and suitability for the chosen structure, because the provider will own it for some or all of the term.
• Trading and affordability. Accounts, profitability and cash flow, and whether the business can meet the instalments or rent comfortably.
• Existing finance. Current borrowing and how it ranks, including whether a new facility is intended to replace conventional debt.
• The property, for premises deals: a valuation, tenure, condition and the proportion of the price the business is contributing.
• The owners: credit history, experience and, where guarantees are requested, personal assets and liabilities.

Islamic finance often takes a little longer than conventional finance, because the provider must buy, own and then sell or lease the asset, and the documents reflect that sequence. Decisions on straightforward equipment or vehicle deals can come within a few working days in straightforward cases. Property purchases through diminishing musharaka or ijara usually take several weeks or more, because they involve a valuation, legal work on both sides and, in some cases, a separate ownership vehicle. Allow time in your purchase timetable, particularly for property, and involve your solicitor early, ideally one familiar with Islamic finance documents.

Islamic finance is asset-backed, so the provider's ownership of the asset, or a charge over property, is usually its main protection. Under ijara and diminishing musharaka the provider owns all or part of the asset until the end of the term. Under murabaha, ownership passes to the business, and the provider may take security over the asset or the business for the deferred price. Guarantees, known as kafala, are permitted, and providers commonly ask for personal guarantees from directors, as conventional lenders do. Our guide to personal guarantees explains what that involves. If payments are missed, contracts usually allow the provider to recover its costs, and many providers direct any late payment charges to charity rather than keeping them as profit.

The cost of Islamic business finance is expressed as a profit, rent or share rather than interest, and its structure depends on the contract. With murabaha, the profit is fixed when the sale is agreed, so the total payable is known from the start. With ijara and diminishing musharaka, the rent is set by agreement and may be reviewed at intervals; some providers use a market reference rate as a benchmark when setting rent, which their Sharia boards permit as a pricing reference. Arrangement and administration fees are common, and property deals add valuation and legal costs, which can be higher because of the extra documentation. UK tax law contains provisions for alternative finance arrangements, intended broadly to put them on a comparable footing to conventional finance, including for stamp duty land tax on property. Your accountant can confirm how a particular structure is treated for your business.

If a Sharia-compliant option is not available for your need, or you are comparing approaches, the conventional equivalents are:

• Asset finance, including hire purchase and leasing, for equipment and vehicles; see our asset finance hub, and our pages on hire purchase and operating leases.
• Commercial mortgages for buying premises; see buying business premises.
• Acquisition finance for buying another business; see our acquisition finance guide.
• Equity investment, which shares risk and reward and is sometimes preferred by owners who want to avoid debt. We do not arrange equity, but it is worth understanding as an option.

Whether a conventional product is acceptable is a personal decision for each owner; we will not suggest one as a substitute for a Sharia-compliant structure unless you ask us to compare them.