Islamic House Finance - A Solution for the Growing Housing Demand

1. Islamic House Finance Mohammad Shaheed Khan Islamic Finance Division ABN AMRO BANK

2. Housing – A Critical Issue • Growing rate of Housing Demand in Urban areas 8% p.a. • Housing Units in the country 19.649 million. - Ownership 80.8% 15.876 m - Rent free 10.2% 2.004 m - Rented 9.0% 1.768 m • Units required for the population of 149 million. 25.839 million • Shortfall of Housing Units 7 million* * Estimated

3. Housing – Facts • Additional Supply required 700,000 ( Due to Population Growth ) • Depletion of stock @ 1% p.a. 200,000 • New Housing Need 1,200,000 • Supply estimate 300,000 • Persistent Gap adding to backlog 900,000 • One third in urban housing 400,000

4. Industry - Potential Per Year • Urban Housing Needs 400,000 • At average cost of Rs.1.0 Mn/Unit Rs.400 Billion • Mortgage Finance potential at 35% of Urban Housing needs Rs.135 Billion (3% of GDP) • Current Mortgage Finance (2005) Rs.18 Billion only (0.5% of GDP)

5. ABN AMRO Islamic Home Finance

6. Concept Islamic House Financing, based on Diminishing Musharakah (Joint Ownership) has been designed as a Shariah Compliant Alternative to Home Mortgage Financing Basis of Diminishing Musharakah Based on Shirkat-ul-Milk (joint ownership) and “is the combination of assets of two or more persons in a manner that creates a state of sharing in the realized profit or income or benefiting from an increase in the value of the partnership assets. This combination of assets for making profit necessitates losses, if any. This partnership is created by the wish of the partners such as when two or more parties acquire common shares in a particular asset.”

7. Product Objective:To Provide Shariah Compliant Housing Finance Facilities Description: The bank and client would jointly own the asset. The client would make periodic payments for the use of bank’s share of the asset. Simultaneously client will purchase of banks share and eventually becoming the sole owner of the asset. Availability • Purchase of a constructed residential house/flat • Construction of a residential house • Balance Transfer Facility

8. Process Flow Bank Client Joint Ownership Diminishing Musharakah Agreement & Agreement to Mortgage Asset Rental Agreement Monthly Payment = Rental + Ownership Units Agreement To Purchase Asset Bank Client Complete Ownership To Client

9. Differences & Risks Differences Risks Mitigation • Joint ownership with the client • Sharing losses Responsible (as a co-owner) for any damage to the structure of the house/property • Eligibility criteria, financing limits and profit rates would be similar to that of the conventional products. • Default Risk • Asset Risk • Destruction of Property • Death of Client • Incomplete Construction • Late Payment • Mortgaged with the bank • Asset Risk • Property Insurance • Stability in Price • Sale of Asset • Charity Recovered

10. Unique Features • Property Insurance to be borne by the bank • Accidental LifeInsurance to be borne by the bank • Charging of Rental when the client has legal possession of the property • EqualMonthly Installments • Client Friendly -

11. Industry Issues • Determination of Rentals – Ideal Scenario (Islamic Finance benchmark) • Promote construction, increase housing stock. • Asset Risk – Destruction of Property • Mortgage of property – Is it covered under present legal system? • Development of instruments like Securitization, REITS etc • Stamp Duty, Titling and Ownership Laws etc • Capital Gains • Legal Issues – Legal Rights of Heirs –Testing of Documentation in Courts

12. Thank You M Shaheed Khan +92-333-3712606 Mohammad.shaheed@pk.abnamro.com

13. Thank You M Shaheed Khan +92-333-3712606 Mohammad.shaheed@pk.abnamro.com

14. Agreements House Financing (Musharakah) Agreement would entail that the Bank and the client are joint owners of the property, enjoying ownership rights in an undivided property. Agreement to Purchase Musharakah Propertywould bind the client to purchase the Musharakah units from the bank. Rental Agreement would entail, whereby the bank would allow the client the exclusive right to use the property in consideration of a monthly payment. Agreement to Mortgage will mortgage the property with the bank.

15. Illustration Case Study: Housing Finance

16. Case Study: Housing Finance Value of Property*: Rs. 10,000,000/- Bank’s Contribution (60%) Rs. 6,000,000/- Client’s Contribution (40%) Rs. 4,000,000/- Repayment Plan: Tenor 15 years Rate of Profit: KIBOR + 4 % p.a. (KIBOR = 9%) ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ●

17. FAQs • Difference between Diminishing Musharakah and a Mortgage Loan • In Diminishing Musharakah the relationship between the bank and the customer is that of co-owners in a property and not one of lender-borrower • The initial financing provided by the Bank is applied to acquire a share in the property and not to provide a loan • The customer’s monthly Acquisition and Profit Payments are applied, respectively, to acquire the bank’s share in the property and for the customer’s exclusive use of the whole property • These payments do not constitute a repayment of a loan with interest since it does not involve an exchange of cash for a greater amount of future cash

18. FAQs • Determination of the Rentals • Benchmarked with prevailing interest rates • Islamic financing benchmark – if one existed – would be preferred • Pricing does not change the joint ownership nature • Can be adjustable

19. FAQs • Bank’s share in any gain or loss that may result from a sale of the property • Not intended for making profits from trading in real estate • Incase of destruction, if the property in beyond repair, insurance proceeds are to be divided proportionately which may result in a loss • Similarly, incase the property is sold for any reason, sale proceeds will also be divided proportionately

20. FAQs • The bank as a co-owner on the title of the property • The bank would not go on record as the co-owner on the title of the property • Property mortgaged with the bank • Bank’s ownership in the asset vests by way of the Musharakah agreement