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PROCESS AND PROCEDURESFROM CONVENTIONAL TO ISLAMIC BANKING
AMIR ALFATAKH YUSOFISLAMIC 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-KhalijiCommercial 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 ParRecent developments on
Shariah views or Business Practices = on
par with conventional features & global
standards
Islamic Banking to the ForefrontFor 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 BankingDesire 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 ReligionBetter 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 / ShariahConsultancy / 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
MarketDemand
There is a sizeable demand for Islamic
products, based on a more ethical & fair adoption of
banking practice
ShariahCompliance
Shariah requirements allow for “compliant” activiteswhich allows for a bigger access to investors.
§ Asset Backed transactions – Not overly-geared as deals are based on 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 Shariahrequirements 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 on their financing
iii. Fair terms and conditions = maximisefinancial 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 GAPCONVERSION TO ISLAMIC BANKS
ROAD TO COMPLIANCE
CONVENTIONAL BANKING STRUCTURE
Customer Deposits
Invest / Utilise
Interest Income
Under the Conventional Banking, the modus operandi 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
Infrastructure: Conventional Bank Description: Islamic Banking products offered via Conventional Banking channelsAdvantage: Low cost, existing infrastructureDisadvantage: Dependent on Conventional BankConversion Complexity: Low.
WindowsInfrastructure: Islamic Subsidiary leveraged on Conventional Bank (parent)Description: Islamic Banking products offered via Conventional Banking channels & Standalone BranchesAdvantage: Medium cost, existing infrastructure. Independent ManagementDisadvantage: High cost to set up Islamic BranchesConversion Complexity: High
SubsidiaryInfrastructure: Islamic Bank Description: Islamic Banking products offered via Islamic Banking channelsAdvantage: Standalone Management & Banking Infrastructure. Disadvantage: High Operating costsConversion Complexity: Medium
Full Fledged
ISLAMIC BANKING WINDOWS
• Management Team = ConventionalBanking Structure
• Conventional Core Banking System• Terminologies change + enhancementsSystem
• Document Enhancements to ShariahcontentsDocuments
• Identify Shariah touch-points to enhance processesProcesses
• Design based on Islamic contractsAqad
• Separate Treasury structure to be built and managed independentlyTreasury
• Separate General Ledgers to be built and flow through into different booksAccounting
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 = IslamicBanking Structure
• Conventional Core Banking System• Terminologies change + enhancementsSystem
• Document according to Shariah contentsDocuments
• Identify Shariah touch-points to enhance processes (leverage)Processes
• Design based on Islamic contractsAqad
• Separate Treasury structure to be built and managed independentlyTreasury
• Separate General Ledgers to be built and flow through into different booksAccounting
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 = IslamicBanking Structure
• Islamic Core Banking SystemSystem
• Document according to ShariahcontentsDocuments
• Shariah based processesProcesses
• Design based on Islamic contractsAqad
• Islamic Treasury structureTreasury
• General Ledgers for Islamic transactionsAccounting
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 ShariahCommittee
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 PrincipalPost-Judg: Up to 8.0% x new Principal
In-Ten: Up to BR+3.5% or CR x O/S PrincOff-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 on the operations of Islamic Banking business is the establishment of the ShariahGovernance Framework (SGF)
ii. SGF governs the operations of the Islamic Banking business including all review and oversight 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
ShariahCompliance
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 ISLAMICBANKING
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
DraftRobust discussion on structure
ConceptDetailed and specific instructions
Policy
Looking at Market Needs for design
IdeaBased on principles and competition
DevelopCatering for specific needs via new design
Enhance
Shariah looks at existing regulations
GuidedQuestions the status quo and directs compliance
DiscussProvides 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
UN
DER
STAN
DIN
G
REQ
UIR
EMEN
TS
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