PROCESS AND PROCEDURES AMIR ALFATAKH YUSOF ISLAMIC BANKING FROM - - PowerPoint PPT Presentation

PROCESS AND PROCEDURES

FROM CONVENTIONAL TO ISLAMIC BANKING

AMIR ALFATAKH YUSOF ISLAMIC BANKING

SPEAKER PROFILE

1. Started in Conventional Banking Sales for OCBC Bank Retail, Business Banking and Corporate Banking, Kuala Lumpur Main Branch (1997-2003) 2. Grabbed opportunity to become OCBC Bank Islamic Banking Windows (IBW) Product Developer (2003-2005) 3. Led the Islamic Banking Personal Financial Services to build business (2005-2006) 4. Jumped : Kuwait Finance House (2007), ABN AMRO for IBW (2007-2008), Al-Khaliji Commercial Bank Qatar (2009-2011), AmIslamic Bank (2011-2012), Standard Chartered Saadiq (2012-2015) 5. Now Acting Country Head for IBW UOB Bank (2016-Present), recently launched IBW business (July 2016) 6. Committee Member of AIBIM’s Qard WG, Investment Account WG, Tawarruq WG. Industry awareness task-force for BNM. IBFIM trainer (Deposits & Financing products). 7. Maintains a free-to-use website Islamic Bankers Resource Centre (http://islamicbankers.me) AMIR ALFATAKH UITM, HULL (UK), IIUM

INTRODUCTION TO ISLAMIC BANKING INDUSTRY

OUTLOOK BEYOND 2017

INTRODUCTION

On Par

Recent developments on Shariah views or Business Practices = on par with conventional features & global standards

Islamic Banking to the Forefront

For some time now, Islamic Banking has been the focus of the Banking world, arising from greater acceptance and faster growth in the industry than the conventional space. There is also greater awareness on the structures being offered

Ethical Banking

Desire to include Islamic Banking as “Ethical Banking” in practice puts responsibility to Shariah Committee to re-look at banking rules more carefully

Segment Banking, Not Religion

Better understanding that Islamic Banking is NOT religion banking, especially for non-Muslim customers. It is an alternative model or infrastructure, that follows certain rules which complies with the requirements of the Shariah

THE GLOBAL ARENA

Islamic Assets in 6 core markets (Qatar, Indonesia, Saudi Arabia, Malaysia, UAE, Turkey) set to show double digit growth in 2016. The YOY growth is expected to sustain at 16%-17% growth until 2020. Malaysia is expected to sustain the 2015 growth of 11% for 2016- 2017

Source: World Islamic Banking Competitiveness Report (EY2016)

The Global Profit of Islamic Banks set to TRIPLE and is in line to reach USD$1.6 trillion in Assets by 2020.

OPPORTUNITIES ABOUND

• Middle East
• North Africa
• South East Asia (+Malaysia)

Highest Growth

• Eastern Europe / Turkey
• Hong Kong / Singapore
• United Kingdom

Emerging Markets

• China
• Western Europe
• Russia

Untapped Potential

§ Overseas work opportunities for Islamic Banking Specialists (4-6 years background) § Active hiring of experienced individuals esp for short-term contracts in Middle East § Consultancy work / start-ups § Support Areas – Legal / Advisory / Shariah Consultancy / Operations / IT § Growth in Islamic Financial Institutions:

§ Local Islamic Banks § Locally Incorporated Foreign Islamic Banks § Islamic Subsidiaries of Local / Foreign Banks § Development Financial Institutions (DFI) § Islamic Banking Windows of Conventional Banks § Islamic Investment Banks § Takaful Companies

GROWTH OF ISLAMIC BANKING

BECOMING AN ISLAMIC BANKING HUB

There is an on-going push by BNM to position Malaysia as the foremost leader in Islamic Banking products and services: ü Clear Guidelines ü Business-Friendly ü Close Supervision ü SAC Oversight BNM target for the industry : 40% of all Banking Assets to be booked under Islamic Banking by 2020

ISLAMIC BANKING FINANCIAL INSTITUTIONS (MALAYSIA)

excluding DFI & IBW

1. Affin Islamic Bank 2. Al Rajhi Banking & Investment Corp 3. Alliance Islamic Bank 4. AmIslamic Bank 5. Asian Finance Bank 6. Bank Islam 7. Bank Muamalat 8. CIMB Islamic 9. HSBC Amanah 10. Hong Leong Islamic Bank 11. Kuwait Finance House 12. Maybank Islamic 13. OCBC Al Amin 14. Public Islamic Bank 15. RHB Islamic Bank 16. Standard Chartered Saadiq

BUT WHY IS ISLAMIC BANKING GROWING?

BNM Push

Strong support and incentives given by government to support the BNM vision and desired infrastructure

Market

Demand

There is a sizeable demand for Islamic products, based on a more ethical & fair adoption of banking practice

Shariah Compliance

Shariah requirements allow for “compliant” activites which allows for a bigger access to investors.

§ Asset Backed transactions – Not

• verly-geared as deals are based
• n real assets

§ Prudent products – the limited range of “sophisticated” products limits the risks § Financing of stable activities – real economies § Growing Confidence – removal of many contentious conventional and “old skool” Islamic Banking practices § Demand by Customers

DEMAND BY THE CUSTOMERS

MUSLIM CUSTOMERS

i. Greater awareness of Shariah requirements in Banking ii. Comfort of being involved in Shariah-compliant businesses only iii. Good measure of fairness iv. Prefers “simple to use” products

NON-MUSLIM CUSTOMERS

i. Attractive features of Islamic Products (at par) ii. Reasonable treatment for penalties

• n their financing

iii. Fair terms and conditions = maximise financial benefits iv. No inclination to religion, just on features and benefits

FUN FACT : ON AVERAGE, NON-MUSLIMS MAKES UP TO 80% OF CUSTOMERS-BASE FOR ISLAMIC BANKING

11% 54% 35%

Non-Muslims

BANK NEGARA MALAYSIA AS THE DRIVER

ISLAMIC FINANCIAL SERVICES ACT 2013 (IFSA)

i. The Islamic Financial Services Act 2013 (IFSA) was introduced to re-align all the existing Acts governing Islamic Banking into a single Act. ii. The scope of business has been re-defined to encompass all entities offering Islamic product and services iii. Some contracts nature were also re-defined iv. The responsibilities of all the stakeholders in an Islamic Banking business is emphasized, especially Shariah Committee

BNM POLICY DOCUMENTS & GUIDELINES

i. Since 2013 when IFSA was introduced, BNM had released multiple Guidelines and Concept Papers to be discussed with the industry players ii. Comments and feedback on the intended guidelines were received from the various industry players iii. Shariah Advisory Council (SAC) of BNM is also consulted before the paper is finalised. iv. The final version : Policy Documents are introduced to Banks to comply

BRIDGING THE GAP CONVERSION TO ISLAMIC BANKS

ROAD TO COMPLIANCE

CONVENTIONAL BANKING STRUCTURE

Customer Deposits Invest / Utilise Interest Income

Under the Conventional Banking, the modus

• perandi is:
• 1. Shareholders gives capital
• 2. Bank receives customer deposits & invest
• 3. interest received are distributed
• 4. Customer request for loans
• 5. Bank borrows interbank funds
• 6. Bank lends the funds at an interest rate
• 7. Customer pays interest + principal

Interest Income Customer Lending Interbank Borrowing

TREASURY FUNCTION

A conventional bank is designed to have 2 main functions i.e. 1) Collect Deposits and 2) Give Loans. As such, income and pricing becomes important when introducing their products.

ISLAMIC BANKING STRUCTURE

In Islamic Banks, while income and pricing remains important, there is also consideration on why a product is launched and the impact it has on

• customers. Not all fees can be charged, and not all features can be used

in Islamic Banking. The Islamic Banking Model itself is not a standalone arrangement. THE MOST SUITABLE APPLICATION IS THE MUDHARABAH There is linkage between Sources and Application of Funds

Sources of Funds Pool of Funds Application of Funds Islamic Banking Contracts Income from Activities Distribution of Income (less Expenses)

TREASURY

• Manage liquidity end to

end

• Invest in compliant

instruments

• Manage cost of funds

OPERATIONS

• Detailed workstream
• Commodity Desk
• Sequencing & Aqad

Completion LEGAL

• Contractual Relationships
• Aqad & Transactional

Documents

• Islamic Terms &

Conditions SHARIAH REVIEW & AUDIT

• Execution of documents
• Completion of Aqad
• Shariah Non-Compliant

Events SHARIAH COMMITTEE

• Deliberation of New

Products & Issues

• Decisions on SNC Events
• Approval of Products,

Processes, Structures

CONVERSION TYPES

Inf Infrastr structur ucture: Conventional Bank De Descr scrip iptio tion: Islamic Banking products offered via Conventional Banking channels Ad Advanta ntage: Low cost, existing infrastructure Disa Disadvanta ntage: Dependent on Conventional Bank Con Conver version

• n Compl

Complexity: Low.

Windows

Inf Infrastr structur ucture: Islamic Subsidiary leveraged on Conventional Bank (parent) De Descr scrip iptio tion: Islamic Banking products offered via Conventional Banking channels & Standalone Branches Ad Advanta ntage: Medium cost, existing infrastructure. Independent Management Disa Disadvanta ntage: High cost to set up Islamic Branches Con Conver version

• n Compl

Complexity: High

Subsidiary

Inf Infrastr structur ucture: Islamic Bank De Descr scrip iptio tion: Islamic Banking products offered via Islamic Banking channels Ad Advanta ntage: Standalone Management & Banking Infrastructure. Disa Disadvanta ntage: High Operating costs Con Conver version

• n Compl

Complexity: Medium

Full Fledged

ISLAMIC BANKING WINDOWS

• Management Team = Conventional

Banking Structure

• Conventional Core Banking System
• Terminologies change + enhancements

System

• Document Enhancements to Shariah

contents

Documents

• Identify Shariah touch-points to enhance

processes

Processes

• Design based on Islamic contracts

Aqad

• Separate Treasury structure to be built

and managed independently

Treasury

• Separate General Ledgers to be built

and flow through into different books

Accounting

Conversion into Islamic Banking Windows are mainly the following: 1. New documents 2. New processes 3. New systems

Leverage Structure Allocated Capital Shared Balance Sheet

ISLAMIC BANKING SUBSIDIARY

• Management Team = Islamic

Banking Structure

• Conventional Core Banking System
• Terminologies change + enhancements

System

• Document according to Shariah contents

Documents

• Identify Shariah touch-points to enhance

processes (leverage)

Processes

• Design based on Islamic contracts

Aqad

• Separate Treasury structure to be built

and managed independently

Treasury

• Separate General Ledgers to be built

and flow through into different books

Accounting

Conversion into Islamic Banking Subsidiary are mainly the following: 1. New documents 2. New processes 3. New systems 4. New governance 5. Migration to Islamic (optional) 6. Vesting Order

Leverage Structure Capital from Parent Standalone Balance Sheet

ISLAMIC BANK (FULL FLEDGE)

• Management Team = Islamic

Banking Structure

• Islamic Core Banking System

System

• Document according to Shariah

contents

Documents

• Shariah based processes

Processes

• Design based on Islamic contracts

Aqad

• Islamic Treasury structure

Treasury

• General Ledgers for Islamic

transactions

Accounting

Standalone Structure Standalone Capital Standalone Balance Sheet

Conversion into Islamic Bank (Full Fledge) are mainly the following: 1. New documents 2. New processes 3. New systems 4. New governance 5. New Capital 6. Migration to Islamic (mandatory) 7. Vesting Order 8. Sell of Conventional Portfolio

EXAMPLES OF KEY DIFFERENCES (PRODUCT)

While most of the features between Islamic Banking and Conventional Banking products are the same, there are differences arising from Shariah requirements that provides better justice and fairness to the customers. Shariah Committee plays an Important role to regulate the rules against business requirements. Consideration of fair-play and justifiable charges forms part of the decisions made by Shariah Committee For each product, Shariah Committee is responsible to assess the features, conditions, operations, and fees & charges.

Calculation of Installment and Profit Calculation based on Base Rate + Margin Calculation based on Base Rate + Margin, capped to the Maximum Ceiling Rate Facility Amount Over Financing Period Increases as amount is compounded and capitalised as new Principal Amount Capped at the Maximum Selling Price agreed in the Aqad Early Settlement Charges Based on Lock-in period, ES charges = 1.0% of the Amount Settled Not Allowed (unless to recover actual costs incurred) Penalty Rate (Punitive) on Non Performing Accounts Pre-Judg: Up to BR+3.5% x new Principal Post-Judg: Up to 8.0% x new Principal In-Ten: Up to BR+3.5% or CR x O/S Princ Off-Ten : IIMM Rate x O/S Balance Late Payment Charges 1.0% on the amount in arrears compounding into new Principal 1.0% on the amount in arrears non- compounding into Principal

SHARIAH AS THE ULTIMATE LINE OF DEFENSE

WITH GREAT POWERS COMES GREAT RESPONSIBILITIES

i. IFSA 2013 outlined the roles and responsibilities of bank’s Shariah Committee ii. Shariah Committee are required to discuss, deliberate and decide on all matters pertaining Islamic Banking in the bank iii. Responsibility is on the Shariah Committee to make quality decisions, backed by proper research and robust deliberations iv. Stiff penalties for negligence : RM25 million fine and/or 8 years jail

SHARIAH GOVERNANCE FRAMEWORK (SGF)

i. One of the important requirements by BNM

• n the operations of Islamic Banking business

is the establishment of the Shariah Governance Framework (SGF) ii. SGF governs the operations of the Islamic Banking business including all review and

• versight functions in the bank

iii. SGF outlines the roles and responsibilities of Shariah Committee and all other internal committees for Islamic Banking iv. Detailed requirements to be set by bank.

CHALLENGES AND ISSUES

MAKING THINGS WORK WITHOUT COMPROMISE

DECISION CONSIDERATION

VIABLE ISLAMIC FINANCIAL INSTITUTION Expenses Shariah Compliance Profitability

• How much capital do we need?
• How much system enhancement must we do?
• What do we do with existing customers who do not want to convert?
• Can we legally auto convert existing customers?
• How do we treat Shariah non-compliant income?
• What products should we develop?
• How do we sustain profitability?
• How do we create awareness on Shariah?

EVOLUTION OF ISLAMIC BANKING

Since the introduction of Islamic Banking Act in 1983, the industry has slowly evolved in terms of the following: v Guiding principles of Islamic contracts by BNM v Suitability of products towards customers needs v Operational efficiency of Islamic products and services v Shariah increased depth and quality of decision making

Principles discussed with industry

Draft

Robust discussion on structure

Concept

Detailed and specific instructions

Policy

Looking at Market Needs for design

Idea

Based on principles and competition

Develop

Catering for specific needs via new design

Enhance

Shariah looks at existing regulations

Guided

Questions the status quo and directs compliance

Discuss

Provides solutions based on specific research

Research

OPERATIONALISING REQUIREMENTS

EXTERNAL

• BNM Policy Documents
• IFSA
• Laws of Malaysia
• Best Practices

INTERNAL

• Shariah Rules
• Internal Guidelines
• Custom (Urf)
• Customer Needs

UNDERSTANDING REQUIREMENTS

Policy & SOP Product Design Processes & Controls Documents Operations System Accounting & Finance

Ensuring the requirements are captured into the products and processes

OPERATIONAL CHALLENGES IN ISLAMIC BANKING

vThe key challenge in Islamic Banking is the BALANCE between Shariah Requirements & Business Needs vAdditional Shariah Requirements becomes a RISK for the Bank if fail to be observed vInadequate Controls, Human Error and Wrong Understanding of Requirements often leads to SHARIAH NON COMPLIANT EVENTS (SNCE) vWith IFSA 2013, Banks do not have a choice but to comply

Shariah Business

SUMMARY

Strong push from BNM for Islamic Hub Demand for Islamic Banks = consistent Various Options Available for Conversions Islamic Banking Windows : Small but Efficient Islamic Banking Subsidiary : Teenage Participant Islamic Bank : Independent Entity Decision on which Model = careful thinking

There is a lot of opportunities for the development of Islamic Banks over conventional banks. Due to the interest in Islamic financial institutions (especially from Middle East), Malaysian Financial Institutions find ways to offer an alternative structure under Islamic Finance. However, the Shariah Compliant requirements must remain valid to attract investors.

THANK YOU FOR LISTENING

QUESTIONS AND ANSWERS