The IFSB issues Working Paper on Issues Arising from Changes in Takâful Capital Requirements
Date posted: 18 July 2018
18 July 2018, Kuala Lumpur - The Islamic Financial Services Board (IFSB) is pleased to announce the issuance of its eighth Working Paper series titled, 'Issues Arising from Changes in Takāful Capital Requirements' (WP-08). It is also the first dedicated IFSB Working Paper on the takāful sector.
The Working Paper aims at studying the potential issues in relation to the solvency requirements of takāful, such as surplus, capital instruments, and qard. It also identifies regulatory and stability issues arising from global capital regulation for the insurance sector and their implications on takāful solvency requirements.
The Secretary-General of the IFSB, Dr. Bello Lawal Danbatta stated, “Although, the IFSB has previously issued seven working paper series on different topics in Islamic finance, WP-08 represents the first IFSB's working paper that addresses issues specifically to takāful industry. In the development of our technical work involving standard-setting and research, we are taking a comprehensive, cross-sectoral approach in which three key sectors under our mandate – Islamic banking, takāful and Islamic capital market – are being focused simultaneously”. He further added, “This research has been conducted in an area of takāful sector regulation where only limited studies are currently available. Given the rapidly growing size of this sector and increasing importance being given to strengthen solvency of takāful undertakings, this paper offers deep insights, backed by industry wide survey and empirical analysis”.
The survey was participated by fifty-seven institutions including regulatory and supervisory authorities and takāful operators (TO), which highlighted practices concerning the implementation of qard, the wakālah fee and profit-sharing ratio, surplus distribution and capital instruments.
The Working Paper identifies differences and gaps in the developments of capital requirements regulation across the jurisdictions that participated in the survey, and shows that the level of policyholders' protections depend on the strength of capital requirements' regulation. Lack of appropriate guidelines specific to the takāful industry in most jurisdictions leaves opportunities for takāful operators to exercise inappropriate discretion in aspects that require regulatory guidelines and supervision. This practice raises concerns for an increased risk of insolvency and a potential threat to consumers' confidence in the industry. Appropriate guidelines that recognise the specific structures and processes of takāful undertakings are recommended for the assessment of the capital requirements.
The analysis in the paper also found that wakālah fees deducted from participants' contributions and muḍārabah profit shares charged to the participants' risk fund (PRF), combined with the surplus distribution to the takāful participants, constitute major outflows from the PRF and impact negatively on the solvency and underwriting capability of the PRF. The continued deficits of the PRF of many takāful undertakings are attributable to the magnitude of wakālah fees and muḍārabah profit shares paid to the TO. This situation presents a scenario in which takāfuloperators routinely rely on qarḍ to meet the obligations of takāful participants. Maintaining adequate reserves in the PRF should be the utmost priority of the TO. The paper highlights measures to control market practices that are capable of affecting the strength and stability of the PRF.
This paper emphasises the need to adopt a common framework that recognises the different characteristics of capital instruments that qualify to absorb losses at different financial stages, particularly in the run-off and wind-up phases. While acknowledging the fact that takāful sector's regulatory landscape is still evolving and spreading across jurisdictions, the paper stresses that an appropriate capital requirements framework is essential for the industry to build on and further strengthen its position and achieve a more resilient, competitive and inclusive industry. The findings of this paper will thus provide the basis to the IFSB for the revision of its existing solvency standard for takāful undertakings.
The working paper is available for download from the IFSB website: www.ifsb.org.
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