Capital Adequacy Requirement for Sukuk

Top 20 FREQUENT WORDS

assets 103 suk<U+016B>k 99 iifs 83 risk 75 investment 74 originator 64 estate 62 credit 56 exposures 49 securitisation 43 asset 38 issuer 38 ifsb 34 holders 27 shar<U+012B> 27 funds 26 structure 26 underlying 25 ij<U+0101>rah 24 investors 22

DOCUMENT KEY POINTS

• islamic financial services board exposure draft capital adequacy requirements for suk k securitisations and real estate investment comments on this exposure draft should be sent to the ifsb secretariat not later than may at email ifsb sec ifsb
• org or facsimile december

• about the islamic financial services board ifsb the ifsb is an international standard setting organisation that promotes and enhances the soundness and stability of the islamic financial services industry by issuing global prudential standards and guiding principles for the industry broadly defined to include banking capital markets and insurance sectors
• the standards prepared by the ifsb follow a lengthy due process as outlined in its guidelines and procedures for the preparation of standards guidelines which involves among others the issuance of exposure drafts holding of workshops and where necessary public hearings

• siregar a bank indonesia members mr khalid hamad abdulrahman hamad central bank of bahrain mr hamid tehranfar central bank of the islamic republic of iran dr sami ibrahim al suwailem islamic development bank mr ibrahim ali al qadhi central bank of kuwait mr bakarudin ishak bank negara malaysia mr azhar kureshi state bank of pakistan mr mu jib turki al turki qatar central bank mr chia der jiun monetary authority of singapore mr osman hamad m
• cordewener bank for international settlements pengiran haji ismail plw pengiran haji yusof ministry of finance brunei mr ahmad soekro tratmono bank indonesia mr ahmad fahad al manayes central bank of kuwait mr muhammad said abdul wahab el saka kuwait finance house kuwait dr hamim syahrum ahmad mokhtar bank negara malaysia mr alaa eldin mohamed aly el ghazaly qatar central bank mr khalid abdullrahman abahussain saudi arabian monetary agency mr elhadi salih mohamed salih central bank of sudan mr peter casey dubai financial services authority united arab emirates in alphabetical order of the country the member represents i

• for real estate investment this standard deals primarily with the following issues a capital requirements for an iifs that invests its own funds in real estate investment activities and b the capital treatment of exposures in real estate investment activities where an iifs either commingles the funds of investment account holders iah with those of shareholders and other non profit sharing investment account holders or otherwise invests the funds of unrestricted investment account holders uiah

• while it may initially appear that suk k structures that are not based on partnership interests mush rakah or mu rabah have real assets at their core a detailed analysis of the commercial terms and legal structure shows that in fact any one of the three following situations may exist a an asset backed structure that meets the requirements for being an asset backed structure as assessed by a recognised external credit assessment institution ecai this structure would leave the holders of suk k to bear any losses in case of the impairment of the assets

• in conventional securitisations the structure is normally such that the originator transfers the beneficial rights in or title to the assets to the issuer on behalf of the investors who do not hold such rights directly but have beneficial ownership through their legal relationship to the issuer
• in such legal environments it may not be possible to transfer beneficial title in the assets to the investors or to ensure that the investors are able to exercise these rights for example to repossess ij rah assets in case of default

• the parties in a securitisation structure include the originator the issuer and the investors in addition to which the following may be involved one or more credit rating agencies to rate the securities suk k an investment banker to act as an adviser or to place the securities with investors and in conventional securitisations an institution that acts as a provider of credit enhancement
• such a securitisation may offer the iifs one or more of the following benefits i increased liquidity since a relatively illiquid asset such as an asset held as lessor in an ij rah or ij rah muntahia bittamleek imb is converted into cash paid by the investors in the suk k and a credit enhancement in a securitisation is a contractual arrangement whereby an iifs retains or assumes some part of a securitisation exposure and thereby provides some degree of added protection to the other parties

• the obligation of the relation to the spe if the underlying circumstances originator usually obligor by all payments due rentals are fixed resulting from a maintains the compelling the from the obligor will then iifs holding breach of certain business obligor to be paid by the the suk k will be representations relationship with repurchase the obligor directly to exposed to rate of and warranties
• table risk exposures from the various perspectives originator servicer issuer spe holder risks related to service default default bankruptcy liquidity repurchase where the if the obligor fails spe is generally the suk k holder undertaking underlying assets to pay the coupon incorporated as a will be subject to binding promise are consumer payments the bankruptcy remote liquidity risk linked there is still suk k holders or vehicle to mitigate associated with the the originator is a dependence on the spe on their bankruptcy risk

• in this capacity the maturity of the exercise a clean originator is lease term the up call and the referred to as a suk k holders or holders of the servicer and the spe on their suk k being despite satisfaction behalf will have a cancelled may not of all the regular right to take legal make the return securitisation action against the they are expecting
• thus while suk k based on financial assets are not tradable the latter may be combined in a pool with non financial assets that can act as a basis for tradable suk k provided the proportion of non financial assets neither debt nor cash in the pool is not less than a certain acceptable minimum ratio in accordance with shar ah rules and principles

• true sale means that one has transferred the economic value of assets from one party to another in a way that prevents the creditors or liquidator of the seller to claim the assets from the buyer thus creating bankruptcy remoteness for the assets
• from the shar ah perspective there are four key criteria for a transaction to be considered as a true sale that transfers beneficial title a the transfer must be such that it cannot be recharacterised by a court or other body as a secured loan or otherwise be avoided in a bankruptcy or insolvency proceeding involving the originator of the assets such as pursuant to a fraudulent transfer in anticipation of bankruptcy or a preference payment

• in a synthetic securitisation the credit risk of an underlying pool of exposures is transferred in whole or in part through the use of credit derivatives or guarantees that serve to hedge the credit risk of the exposures by transferring significant credit risk to investors as holders of the securities
• in the case of bankruptcy remoteness the conditions that must be met are as follows a if there were a bankruptcy of the issuer the assets of the issuer would be distributed in accordance with law or a court order rather than in accordance with the contractual arrangements involving the issuer

• while it is clear that the tradability of suk k is often a key issue and is of fundamental importance if an iifs is acting as a sponsor of an asset backed securitisation programme involving assets of a customer this section of the standard does not deal with the issue of whether the suk k satisfy the shar ah criteria for being tradable as this is unrelated to the capital treatment of the underlying exposures by the originator
• where an iifs holds suk k of which it is the originator it may not apply a risk weight to such suk k that is lower than its own risk weight even if the suk k have an ecai rating that maps into a lower risk weight

• assuming that the originator derecognised the percentage of the asset that was securitised the capital treatment of the originator s residual equity share would be either a deduction from its capital or a risk weighting of
• collateral refers to that used to mitigate the credit risk of a securitisation exposure rather than the underlying exposures of the securitisation transaction subject to fulfilling criteria in paragraphs to above

• the existence of such a cash flow signifies that the iifs is providing financing to the customer for the asset while the absence of such a cash flow indicates that the iifs has invested in the asset on its own account or in its own and its unrestricted iah accounts
• investment in real estate refers to the iifs investing its own and or customers funds in real estate assets or in partnerships in real estate for commercial purposes to achieve profits from property development or to benefit from asset price appreciation

• in the case of a non binding promise to purchase an asset in mur bahah or to lease an asset under a contract of imb the circumstance that gives rise to the risks is the possibility of loss on disposal of such an asset or from having a property vacant over a certain period or from a significant drop in prices during the holding period
• investments in real estate a that is holding the assets a at any stage of the development process or even completed properties can be generally characterised as risky in that there is a high degree of variability or uncertainty of returns on invested funds as well as a risk of a significant loss of capital

• it may also set the financial conditions and managerial resources of the iifs in order to ensure the iifs s ability to support real estate investment activities determine that the iifs is adequately protected from litigation risk and set robust risk management stress testing and valuation processes and appropriate practices with regard to the iifs commingling its funds with those of the uiah
• in this context it is recommended that the supervisory authority include inter alia the following restrictions or prudential limits a limitation of total real estate exposures financing plus investment to of its capital base with a limit on individual real estate investment exposures

• in order to protect the interests of uiah when employing their funds iifs are expected to limit the investment of such funds in real estate assets to a maximum of of such funds
• if the iifs exceed the maximum limit of the iifs shall inform their supervisory authority and submit a corrective action plan to restore the exposure of such funds within the limit

• profits generated by that enterprise or activity are shared in accordance with the terms of the mu rabah agreement while losses are to be borne solely by the capital provider unless the losses are due to the mu rib s misconduct negligence or breach of contracted ter miss mur bahah a mur bahah contract refers to a sale contract whereby the iifs sell to a customer at an agreed profit margin plus cost selling price a specified kind of asset that is already in their possession
• ij rah an ij rah muntahia bittamleek or ij rah wa iqtina is a form of lease contract muntahia that offers the lessee an option to own the asset at the end of the lease period bittamleek either by purchase of the asset through a token consideration or payment of the market value or by means of a gift of contract

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DOCUMENT WORD ANALYSIS

Main Category

AlHuda Material\sukuk islamic

KeyWords

asset invest risk ici rate investor origin credit financi structur securitisation NA iif required exposure fund estate servic NA legal

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DOCUMENT REFERENCES

Number of Pages

21

Published Date

2007-12-14 20:47:51

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