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Despite a huge potential client base, Germany has proven reluctant to adapt its legal and tax systems to attract Islamic finance, which has enjoyed stellar success in Britain.

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However Islamic investment funds based abroad are beginning to make considerable inroads into the property market of Europe’s biggest economy.

What sets Islamic finance apart from other banking systems is that no interest is collected on loans, as this is seen as usury, a practice banned in Islamic law, and speculation.

The risks and rewards are shared between the bank and the client and debt levels are carefully monitored.

In recent years, Islamic finance has grown exponentially in the Middle East, Southeast Asia and Britain. Global assets held by Islamic banking institutions stood at nearly $500 billion in 2008, compared to $260 billion in 2004, according to management consultancy firm Booz and Company.

With some 3.5 million Muslims, mainly of Turkish origin, Germany offers enormous potential demand for banks providing retail Islamic financing, said Zaid el-Mogaddedi, president of the Institute for Islamic Banking and Finance in Frankfurt.

“But the German legal and financial system is not yet geared towards the development of Islamic finance. Politicians are very wary,” El-Mogaddedi said.

For their part, German banks have been quick to offer products that conform to Islamic Sharia law. But only outside Germany.

Deutsche Bank has been issuing “Sukuks” (bonds without interest payments) in cooperation with Saudi Arabian banks since 2005.

Dresdner Kleinwort, a subsidiary of Dresdner Bank, co-organised a similar issuance of one billion dollars in Bahrain in 2007, said Simon Grieser, company lawyer at Mayer Brown in Frankfurt.

However, the collapse of Commerzbank’s Al-Sukoor equity fund is a less heartening example. When it was wound up after five years, it had tapped a mere €4 million ($5 million), a long way from the amount it needed to make a profit.

“Unlike in Britain, not many rich families from the Gulf have settled in Germany and the Turkish community puts its money in savings banks like everyone else,” said Volker Nienhaus, president of Philipps University in Marburg and a researcher of Islamic finance.

On the other hand, Islamic investors are beginning to move into the German property market, if only tentatively.

Arab Investments, based in London, has already acquired €400 million worth of commercial property in Berlin, Dresden and Karlsruhe.

It expects to invest a further €300 million in 2009, says Lars-Oliver Breuer from the real estate company Savilles in Hamburg.

But the presence of Islamic funds on the German real estate market, which attracts between €20 billion and €60 billion of investment per year, remains “relatively small at the moment,” he added.

“There are enough German investors in the market” and the strong euro, even though it has weakened significantly recently, puts off Islamic investors, Breuer noted.

German officials are wary of Islamic finance because certain funds are said to be shaky and sometimes lacking in transparency.

An internal Deutsche Bank survey in 2007 showed that “the Islamic money market is based mainly on commodity trading by brokers who are not very reliable in certain cases.”

The survey also warned there concerns about a potential liquidity crisis surrounding Islamic banking.

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