Suppose that John Consumer lives paycheck to paycheck. John has no credit card. He can’t afford to buy that nice flat-panel television he wants. So he visits his local Rent-A-Center or Aaron’s store, picks out at TV, signs a rent-to-own contract, and takes the TV home, and makes monthly payments while the store remains the legal owner of the merchandise until John has paid off the terms and owns the TV outright.
In the process, John has spent more money in total payments than he would have if he’d been able to buy the TV set upfront, as is the case when any purchase is financed over time. But that’s okay with him because he got a product he could not afford otherwise. And it’s okay with the store because they made a little profit in the transaction, which is why they’re in business.
On its face, the rent-to-own approach or installment sale approach is somewhat similar to the sharia financial device known as murabaha. Vogel & Hayes define murabaha as:
A sale contract which fixes the price in terms of the seller’s cost plus a specified percentage markup. The seller must disclose all items of expense which are included in the cost if these are not known through custom.*
However, several distinctions between murabaha and Western style rent-to-own agreements come to mind immediately:
- There is no fundamental effort by rent-to-own sellers to introduce an alternative set of orthodox religious financial laws to Western markets in order eventually to replace them.
- Rent-to-own is just one way out of many available to Western consumers to finance their purchases. Buyers without enough cash on hand still have options including credit cards, conventional loans, leases, ordinary renting, and lay-away. Western financial laws do not force people into rent-to-own agreements.
- Rent-to-own options are typically designed for items like furniture, electronics, and major appliances. The free market has determined that for more expensive items such as homes and commercial property, traditional interest-bearing traditional loans are a more responsible way of factoring in the time value of money over the life of the loan. Murabaha, however, is often applied to big ticket items such as home mortgages, interbank and business-to-business transactions, and commodities trading.
The “profit” or markup added to murabaha transactions is often criticized by Muslim traditionalists as a smokescreen for riba (interest), which is banned by the Koran. However, many sharia advocates stand by murabaha since it is their likeliest way to supplant conventional financing methods.
Next week, Money Jihad will evaluate the #1 biggest difference and danger that murabaha presents relative to the conventional loan process.
* Vogel, Frank and Hayes, Samuel, Islamic Law and Finance (Boston: Kluwer Law International, 1998).