27 December 2017, Kuala Lumpur – The Islamic Financial Services Board (IFSB) has announced the issuance of a Working Paper titled ‘Recovery, Resolution and Insolvency Issues for Institutions offering Islamic Financial Services (IIFS)’ (WP-07).
WP-07 sheds light on several legal, structural and operational issues in the context of recovery, resolution and insolvency for IIFS and endeavours to make policymakers, regulators, deposit insurance providers and individual institutions aware of these challenges. While observing that the overarching issue for the resolution and insolvency of IIFS from a structural, procedural and juridical perspective is the requirements of Shariah, the working paper examines these aspects in greater detail. As a result, the working paper reiterates the need to harmonise Shariah principles of recovery and resolution plans as well as bankruptcy and insolvency frameworks that are currently embodied in the existing legal systems.
On the issuance of this paper, the Acting Secretary General of the IFSB, Mr. Zahid ur Rehman Khokher stated: “WP-07 represents the third and final paper in the IFSB’s working paper series on financial safety nets.” He observed that “in the IFSB-IDB-IRTI joint report on Islamic Finance and Global Financial Stability issued in April 2010, effective crisis management – including recovery and resolution framework – was considered a key building block of Islamic financial infrastructure, in addition to the Shariah-compliant lender-of-last-resort facility and Shariah-compliant deposit insurance schemes”. He further noted, “While the latter two safety nets have been addressed by the IFSB in earlier working papers WP-01 (April 2014) and WP-06 (March 2016), we are glad that this cross-sectoral study offers deep insights on various dimensions of resolution and insolvency issues faced by institutions offering Islamic banking, Islamic capital market and takaful services as well as their products”. With the completion of this research series, Mr. Zahid announced, “Soon, the IFSB plans to commence work on providing more detailed guidance on the implementation of key pillars of financial safety net for Islamic finance industry, thus strengthening the IFSB’s role in promoting the stability and resilience of this sector globally”.
WP-07 also examines the applicability of the Financial Stability Board’s Key Attributes of Effective Resolution Regimes for Financial Institutions and other relevant international standards on this subject for IIFS and identifies the gaps in their implementation, since these international standards do not take cognisance of unique characteristics of these institutions. Overall, the objectives of WP-07 are to:
(a) review the requirements of a robust recovery and resolution framework through literature review and jurisdictional analysis;
(b) consider and analyse key recovery, resolution and bankruptcy principles in the context of Islamic finance industry practices and Shariah requirements; and
(c) indicate specific issues that require further consideration by regulatory authorities/policymakers and IIFS regarding recovery, resolution and bankruptcy.
Furthermore, WP-07 examines the possibilities of adopting self-insured structures and mechanisms to help safeguard the IFSI. In this regard, bail-in features embedded in Additional Tier 1 and Tier 2 sukuk from regulatory and Shariah perspectives are discussed in detail. The paper also attempts to investigate whether the bail-in concept of a mandatory debt write-down by a resolution authority is compatible with Shariah.
WP-07 also examines the treatment of investment account holders in an insolvency and the treatment of the profit equalisation reserve (PER) and investment risk reserve (IRR) funds in this scenario. The discussions also highlight Shariah debates as to whether any profit-sharing investment accounts should be afforded Shariah-compliant deposit insurance scheme, given their risk-sharing nature. The paper also focuses on recovery and resolutions aspects for debt-based contracts in Islamic finance, since a majority of global Islamic banking assets are based on these contracts.
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