Legal Regulatory Framework of Takaful Industry in Malaysia

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 • Key Features & Factors Shaping the Framework • Main Aspect of Legal & Regulatory Framework • Updates & Recent Development of Industry 2

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 3

Instituting core components of financial system Comprehensive System Specificities Legal & Regulatory Framework Consumer protection & expectation Complementarities & fair competition 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 - Legal framework that provides greater flexibility to expand develop 4

Addressing specificities… Underlying principles Islamic concept of pooling Tabarru’ together a sum of contribution for Mutual consideration of protection for cooperation Comprehensive System oneself and fellow participants Legal & Regulatory Framework Contracts Rel. with participants Participants & Operator Tabarru’ and mutual cooperation Wakalah, Mudharabah & other contracts e. g. waqaf and musyarakah • Define the basis of LEGAL & REGULATORY framework for takaful business – Specificities E. g. Ownership of takaful fund – belongs to participants, as oppose to insurance company whereby the fund belongs to shareholders Consumer protection & expectation Shariah compliant investme nt Non guarante ed benefits Treatmen t of Expenses Complementarities & fair competition Profit sharing contract Underlyin g principles & contracts Surplus sharing practices Loss to be borne by participa nt Multiple models adopted 5

Two-tier Shariah framework Shariah Advisory Council Authoritative body on shariah matters relating to Islamic finance and takaful matters Comprehensive System Shariah committee part of internal governance to ensure compliance with shariah 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 Consumer education Fostering greater awareness and understanding of risks and rights with regard to takaful products Disclosures to consumers Ensuring that participants have access to accurate, timely and relevant information Competency of Intermediaries Greater supervisory oversight is required to ensure proper selling practices in view of non-guaranteed nature of benefits Fair Treatment • Tax neutrality • Supervisory approach • Governance structure • Market outreach 6

Legal framework • Parameters with dedicated boundary Conduct of Takaful Business • Licensing • Establishment and maintenance of takaful fund • Requirement to conduct takaful business – – • Allocation of surplus • Requirements as to assets of takaful fund • Intermediaries • Shariah requirement • Actuarial investigation & report Capital requirement, annual registration fee, statutory deposit, surplus of asset over liabilities Eligibility criteria Ø Financially sound and competent institutions Ø Managed by qualified and competent management team • Governance – – Returns, Investigation, Winding Up & Transfer of business • Annual accounts & audit Legal & Regulatory Framework – Establishment of Shariah Committee Directorship for takaful operators Ø Board responsibilities and oversight management accountability Ø Appointment of Chairman, directors and CEO Ø Structure of duties of board committees Role of the Appointed Actuary Ø Duties and responsibilities of the appointed actuary Ø Reporting requirement by the appointed actuary • Power of investigation 7

Regulatory framework Broad Objective v Establish and promote sound and credible takaful sector that conforms to Shariah tenets Main Thrust v Ensure prudent management of takaful fund with high standard of corporate governance v Safeguard participants’ and other stakeholders’ interests v Facilitate the intermediation role of financial system in economy v Maintain public confidence as takaful operators are custodians of public fund Legal & Regulatory Framework Allow flexibility on various business models whilst ensuring prudent management of takaful fund and fairness among stakeholders • 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 Management of takaful fund • Commission • Underwriting • Management expenses • Investment • Protection (PSA) • Retakaful • Savings (PA) • Reserves Surplus and deficit of fund • Surplus: - Sharing - Non-sharing • Treatment in case of Deficit • Claims Variation in the treatment of contribution depending on the model Takaful practice is consistent with international best practices 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 - 9

Guiding Principles Principle 1 Principle 2 Principle 3 Principle 4 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 10

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 Market Share (%) ‘ 86 ‘ 90 ‘ 95 ‘ 00 ‘ 05 ‘ 06 Net contributions 3. 8 4. 1 5. 3 5. 4 6. 7 Assets 3. 7 5. 0 5. 3 5. 6 5. 7 6. 1 New entrants of takaful players to intensify the competition and advancement of the industry Syarikat Takaful Malaysia Berhad 1984 Takaful Nasional Sdn. Berhad 1993 Mayban Takaful Berhad 2002 Takaful Ikhlas Sdn. Berhad 2003 CIMB Aviva Takaful Berhad 2005 Prudential BSN Takaful Berhad 2006 HSBC Amanah Takaful Berhad 2006 Hong Leong Tokio Marine Takaful Berhad 2006 MAA Takaful Berhad 2007 11

Latest Development v Expanding retakaful market - enhancing industry’s growth frontier & strengthen underwriting capacity of takaful industry • • v Awarded 2 new retakaful licences to reputable reinsurers to conduct retakaful family and general business opening for new retakaful licence with up to 100% foreign shareholding Attract takaful players to conduct international currency takaful business • 10 -year tax holiday • 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 • Approved five takaful operators to conduct international currency takaful business 12

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 § 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. . . § 18

Shifting to new paradigm of innovation. . . 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