Islamic banking is becoming more popular in the UK, with more than 20 banks currently offering Islamic banking services and five of these being fully Sharia-compliant. Islamic banks are open to everyone, including those who don’t follow the Muslim faith. It’s a popular form of banking for those looking to make an ethical decision about how to manage their money and that conforms with Islamic principles.
The main difference between Islamic and regular banking is that Islamic banks adhere to the principles of the Muslim faith. It’s for this reason that regular banking activities such as charging interest, earning interest and investing in certain industries are prohibited.
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How do Islamic banks reward their customers?
Sharia banking doesn’t allow you to earn interest in the same way as traditional banking. This is because the concept of interest is strictly forbidden in Islam, as it is not deemed equitable in financial transactions.
Instead, Islamic banks will pay you from profit that is made during the year, rather than from interest. If you hold a Sharia account, you’ll be quoted an expected profit rate (EPR).
To generate this profit, Islamic banks invest your deposits in ethical, Sharia compliant trading activities, which are always completely transparent.
Profits that are generated on your behalf are shared with the bank in one of the following ways:
- Split between you and the bank according to an agreed ratio
- You are paid your profit after the bank has taken its agreed share
What is the expected profit rate (EPR)?
The EPR, or expected profit rate, is an indication of how much profit you can expect to earn from your Islamic bank account. It is similar to the interest rate you see on regular savings products and can be used to compare banks and find the best rate.
However, EPR is different from interest because the bank does not guarantee it. If the bank makes less profit than expected, the EPR on your savings account may change. In these instances, the bank will usually inform the account holder and give you the option to either continue with the new rate or cancel the account early and receive any profit earned up to that point. This very rarely happens, but isn’t impossible.
How do Islamic banks ensure that customers get the EPR?
Investments made by the bank are closely monitored by experts within the bank to ensure that they will provide the expected profit rate you were quoted. There are very few circumstances where the bank has been unable to meet the EPR, with certain institutions even making more profit than expected and paying out more than anticipated.
Due to the very nature of expected profits being expected and not guaranteed, there is always a small amount of risk. Deposits with banks that hold a UK banking license are protected by the Financial Services Compensation Scheme up to £85,000 per person, per banking group, which will ensure that your initial deposit is safe.
Where is the money invested?
Islamic banking is known for its ethical banking principles, which is why many of them are completely transparent about where they invest your deposits, and of course, where they will never invest your deposits.
They will often look to invest your money in property, non-precious metals, and relatively secure asset-backed securities.
Islamic banks will never invest in an activity that goes against the values of Islam, which includes gambling, alcohol, pornography, arms, tobacco or any interest-bearing, speculative or risk-based activity.
Is EPR the same as AER?
Islamic banks do not quote the AER (annual equivalent rate) as it could be misinterpreted as an interest-based calculation. Therefore, to avoid any confusion, the return that you can expect to receive is always stated as EPR.
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