Legal & Regulatory Framework of Takaful Industry in Malaysia

Wan Mohd Nazri Wan Osman Bank Negara Malaysia International Takaful Summit 1 November 2007 1

Legal & Regulatory Framework of Takaful Industry in Malaysia

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Key Features & Factors Shaping the Framework

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Main Aspect of Legal & Regulatory Framework

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Updates & Recent Development of Industry

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Tremendous prospect of Islamic Finance & takaful moving forward…Industry is reaching mainstream relevance...

Strong domestic IF – Growing diversity of players & sophistication of products

• Domestic IBIs (2 Islamic banks, 8 IS, 1 window) • Foreign IBIs (3 IBs, 5 windows) • Takaful operators (4 domestic, 5 foreign participation) • Retakaful operators (3) • Fund managers

Comprehensive System Specificities Legal & Regulatory Framework Consumer protection & expectation Complementarities & fair competition High potential for international business – Increased linkages & dramatic global IF growth

• • • • Increasing world’s wealth provides larger source for Islamic finance to capitalise on Positive economic growth, coupled with Asia’s booming economies Savings rates of Middle East and developing Asia countries are on upward trend, Total HNWI’s wealth also expanding and thus, provides potential for Islamic finance

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Instituting core components of financial system Comprehensive System Specificities Legal & Regulatory Framework Consumer protection & expectation Complementarities & fair competition

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The importance of greater inter-linkages among core components

Create synergy for Islamic financial system Enhance resilience and robustness to withstand financial shocks and increase the overall stability of Islamic financial system -

Conducive environment for an efficient mobiliser of resources and a source of economic growth

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Legal framework that provides greater flexibility to expand and develop 4

Addressing specificities… Underlying principles

Tabarru’ Mutual cooperation

Islamic concept of pooling together a sum of contribution for consideration of protection for oneself and fellow participants Contracts

Rel. with participants

Tabarru’ and mutual cooperation

Participants & Operator

Wakalah, Mudharabah & other contracts e.g. waqaf and musyarakah

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Define the basis of LEGAL & REGULATORY framework for takaful business

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E.g. Ownership of takaful fund belongs to participants, as oppose to insurance company whereby the fund belongs to shareholders – Comprehensive System Specificities Legal & Regulatory Framework Consumer protection & expectation Complementarities & fair competition Shariah compliant investmen t Non guarante ed benefits Treatment of Expenses Profit sharing contract Underlyin g principles & contracts Surplus sharing practices Loss to be borne by participan t Multiple models adopted 5

Two-tier Shariah framework Shariah Advisory Council

Authoritative body on shariah matters relating to Islamic finance and takaful matters

Shariah committee

part of internal governance to ensure compliance with shariah

Comprehensive System Specificities Legal & Regulatory Framework Consumer protection & expectation Complementarities & fair competition Market Conduct & Consumer Protection Availability of Channels to resolve disputes

Dispute resolution mechanisms that offer speedy resolution of dispute

Disclosures to consumers

Ensuring that participants have access to accurate, timely and relevant information

Consumer education

Fostering greater awareness and understanding of risks and rights with regard to takaful products

Competency of Intermediaries

Greater supervisory oversight is required to ensure proper selling practices in view of non-guaranteed nature of benefits

Fair Treatment

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Tax neutrality Supervisory approach

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Governance structure

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Market outreach 6

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Legal framework Parameters with dedicated boundary Legal & Regulatory Framework Conduct of Takaful Business

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Licensing

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Establishment and maintenance of takaful fund

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Allocation of surplus

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Requirements as to assets of takaful fund

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Intermediaries

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Shariah requirement Returns, Investigation, Winding Up & Transfer of business

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Annual accounts & audit

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Actuarial investigation & report

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Power of investigation

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Requirement to conduct takaful business

– Capital requirement, annual registration fee, statutory deposit, surplus of asset over liabilities – Eligibility criteria  Financially sound and competent institutions  Managed by qualified and competent management team •

Governance

– – Establishment of Shariah Committee Directorship for takaful operators  Board responsibilities and oversight management accountability  Appointment of Chairman, directors and CEO  Structure of duties of board committees – Role of the Appointed Actuary  Duties and responsibilities of the appointed actuary  Reporting requirement by the appointed actuary

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Regulatory framework Legal & Regulatory Framework Broad Objective

 Establish and promote sound and credible takaful sector that conforms to Shariah tenets

Main Thrust

  Ensure prudent management of takaful fund with high standard of corporate governance Safeguard participants’ and other stakeholders’ interests  Facilitate the intermediation role of financial system in economy  Maintain public confidence as takaful operators are custodians of public fund

Allow flexibility on various business models whilst ensuring prudent management of takaful fund and fairness among stakeholders

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Maintain and ensure fairness in “pricing”, managements and terms of contract Balance between profit maximisation and prudent management of fund to ensure sufficient level of reserves while meeting expectations of shareholders Disclosure requirement with the objectives to enhance corporate governance and protect interest of participants 8

Broad Operational Business Flow of Takaful

Acceptance of contributions

• Commission • Management expenses • Protection (PSA) • Savings (PA)

Variation in the treatment of contribution depending on the model Management of takaful fund

• Underwriting • Investment • Retakaful • Reserves • Claims

Takaful practice is consistent with international best practices Surplus and deficit of fund

• Surplus: - Sharing - Non-sharing • Treatment in case of Deficit

Various approaches in treatment of surplus and deficit of takaful fund

TRANSPARENCY AND FULL DISCLOSURE OF TAKAFUL BUSINESS OPERATION - IFSB Working Group on Corporate Governance for Takaful -

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Principle 1 Principle 2 Principle 3 Principle 4

Guiding Principles

Conformity with Shariah principles

operational framework with essential features of takaful and comply with Shariah tenets

Strengthening of takaful funds

prudent management of takaful funds and operational framework to meet obligations of takaful funds

Maintain and ensure fairness

protect participants’ interest and fulfill participants’ reasonable expectations

Disclosure and transparency

to enhance the corporate governance and protect the interests of the relevant stakeholders

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Malaysian Experience

Robust growth over the last 20 years, with market share of 6.1% and growing at 17.9% in terms of total asset

Assets ‘86 ‘90 ‘95 ‘00 ‘05

8,000.0

7,000.0

6,000.0

5,000.0

4,000.0

3,000.0

2,000.0

1,000.0

0.0

Assets 3.8

3.7

4.1

5.0

5.3

5.3

5.4

5.6

5.4

5.7

New entrants of takaful players to intensify the competition and advancement of the industry '90 '92 '94 '96 '98 '00 '01 '02 '03 '04 '05 '06 General Family Syarikat Takaful Malaysia Berhad

‘06 6.7

6.1

1984 Takaful Nasional Sdn. Berhad 1993

Net Contributions

Mayban Takaful Berhad 2002 2000.0

1800.0

1600.0

1400.0

1200.0

1000.0

800.0

600.0

400.0

200.0

0.0

Takaful Ikhlas Sdn. Berhad CIMB Aviva Takaful Berhad Prudential BSN Takaful Berhad HSBC Amanah Takaful Berhad 2003 2005 2006 2006 Hong Leong Tokio Marine Takaful Berhad 2006 '90 '92 '94 '96 '98 '00 '01 '02 '03 '04 '05 '06 General Family MAA Takaful Berhad 2007

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Latest Development

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Expanding retakaful market enhancing industry’s growth frontier & strengthen underwriting capacity of takaful industry •

Awarded 2 new retakaful licences to reputable reinsurers to conduct retakaful family and general business

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opening for new retakaful licence with up to 100% foreign shareholding 

Attract takaful players to conduct international currency takaful business •

10-year tax holiday

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Provide support and enabling platform in the origination, issuance and trading sukuk both in Ringgit and multi-currencies to precipitate more investment avenues for takaful and retakaful companies

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Approved five takaful operators to conduct international currency takaful business

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Collaborative efforts of key stakeholders are critical to ensure success of further expansion of the industry at domestic and international level.

THANK YOU 13

Capital adequacy and solvency needs to take into account variations in takaful models………..

Supervisory Approach……………… In the event of deficits in underwriting account, operator needs to provide interest-free loan to make good of the deficit Policyholders are required to make good of the deficits whilst operators act only as administrator of the funds Greater need for active policyholders representation on the oversight of the takaful operators 14

Existing sphere of innovation is limited...

Replication approach Customers demand Shariah flexibility – dharurah/ maslahah Existing spheres of IF Innovation… Basic operating environment

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Tax treatment Regulatory & supervisory framework Corporate governance principles Risk Management requirements Near like-to-like parity with conventional offerings except… Distinct products and services:

 Sukuk Ijarah  Musyarakah Mutanaqisah (Diminishing Partnership)  Exchangeable sukuk  Musyarakah venture to undertake development of real estate  Islamic profit rate swap   

Relegation of Shariah as product shaper instead of environment shaper Non convergence industry vs. Shariah scholars expectation Islamic finance as mere follower...

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Shifting to new paradigm of innovation...

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Shariah-based solution

Move away from “replication approach” to maximize potential benefits & prospect of IF Reflect adherence to Shariah principles in form, substance and values...

Shift from Shariah-compliant products to Shariah-based solution Build distinct capabilities underpinned by Shariah values

Innovation Paradigm Shift Comprehensive approach

    Comprehensive risk management infrastructure Sound corporate governance & disclosure Expertise in real business activities – technology know-how Regulatory requirement – capital & liquidity 

Proactive Alliance

More proactive engagement and collaboration among stakeholders – regulators, Shariah scholars, practitioners, industry sponsors, researchers and academics

to maximize existing infrastructure & funding opportunities … 19