On, 20th September 2017 ,The Undersecretariat of Treasury of Turkish Prime Minister’s Office published a circular on ‘’Working Principles and Operating Procedures for Participation Insurance’’ ( hereinafter reffered as ‘’Islamic Insurance’’ or ‘’Tekaful’’). The circular sets out rules and working principles for the Insurance companies who practice Islamic Insurance (Taqaful) in Turkey.
With Islamic Law (Sharia’a) constituting the foundation of such financial activities , Islamic Insurance deviates from the Conventional Insurance practices by not employing methods such as interest, risk, qumar etc. Owing to the unique nature of Islamic Finance in general, Turkish insurance laws that are in force inevitably fell short on satisfying the needs with regards to Islamic Insurance practice. Therefore, a regulation in this area was much needed.
In parallel with the rising global demand for Islamic Finance practices (%17 average growth annually) financial institutions and investors have been quick to grasp the potential that Turkish insurance market possesses. With a muslim majority population, banks that operate according to Islamic Finance Principles called Participation Banks (‘’Katılım Bankaları’’) have already been well established in the financial market and active in the market for more than a decade. In general, these banks owns insurance companies as subsidiaries and are operating in the insurance sector. However, these insurance companies refrain from identifying themselves as a participation insurance company (Katılım Sigortacılık Şirketi, Tekaful) or in other words Islamic Insurance. Although it is common practice amongst these Insurance companies to collect premiums from investors and market Tekaful Insurance products along with conventional insurance products. The rules laid out in the circular aims to regulate the Islamic insurance business and prevent the conventional insurance companies from selling Islamic insurance products without fully complying with the Sharia law.
Rules laid out in the circular will come into force 3 months after its publication date (20th December 2017) and Islamic insurance companies are expected to be fully compliant.
Participation Insurance (Islamic Insurance)
According to the definition found in the circular Participation Insurance is :
Art. 3 (f) ‘’Contribution into a risk fund created for ensuring the compensation of indemnity claims and/or savings payments regarding claims made by the participants themselves or by the other participants, an insurance type based on cooperation amongst its members by mutual participation of the risk and where the said fund is managed by an authorized insurance company according to Islamic finance principles.’’
In Turkish financial market, participation insurance had not been regulated until the circular was published. In current practice, instead of forming a new company specifically designed for participation insurance, insurance companies have been employing the so-called ‘’window model’’. Insurance companies that have been operating on the ‘’window model’’ had taken advantage of the lack of legal framework by employing clever marketing methods where they could sell participation (Islamic) insurance products along with the conventional insurance products at the same stall to their clients.
However, as we mentioned at the beginning of this article Islamic insurance principles differ fundamentally from the conventional insurance practice, therefore these two different type of insurance must be traded separately in order for policyholders to know exactly which type of policy they are investing into. The main purpose of the circular is to regulate operating principles for those insurance companies who take Islamic law principles as a reference while conducting business within the market.
With regards to those insurance companies that are formed in line with the 5684 numbered Insurance Law and operating under the so-called ‘’window model’’ are given a time period of 3 years to change their status and form a new company designed specifically for participation insurance activities.
Provisional Art. 1 (2) of the circular states that : ‘’ Companies which are formed pursuant to the rules set out in 5684 numbered Insurance Law and using the window model are allowed to operate for a further 3 years from the date that this circular comes into force; the Undersecretariat could extend this period for a further 2 years’’.
By this rule conventional insurance companies that collect premiums from its participants (policyholders) according to Islamic law principles are now forced to form a new entity where the sole practice would be participation insurance.
Also, according to the provisional Art. 1 (3) of the circular : ‘’ Companies formed pursuant to 5684 numbered Insurance Law and who operate with the window model are required to notify the Undersecretariat of Treasury and the Union ( Turkish Union of Reassurors and Pension Companies) without any delay’’. The said rule obligates the insurance companies who start operating in the market under the window model to notify the authorities regarding their status. However, as the circulate does not mention any sanctions for non-compliance it is vague as to what type of penalties will be applied in case an insurance company fails to do so.
According to the new circular, participation insurance companies are required to choose one management model out of three and clearly communicate the chosen model of management to their policyholders under their insurance policies. According to Art. 4(2) these models are :
- Mudarabe : Mudarabe is an Islamic contract based on a financial partnership in which one party (an investor or policyholder) gives money to another (a fund manager) for the purpose of investing it in a business or economic activity. The investor puts up all the capital, and the fund manager provides expertise and know-how to help that activity to be successful. Both parties share the profits based on a predetermined ratio, but only the investor can lose the initial capital if the activity fails to be successful.
- Vekalet : In Islam, vekalet (wakala) is a contract in which one entity works as an agent for another entity or person. In the case of a wakala-based tekaful product, the tekaful operator works as an agent on behalf of the tekaful participants, who are also called the principals or the policyholders.
- Hybrid Model : Tekaful hybrid(Karma) model is a combination of Mudarabe and Vekalet models. Under this model the insurance company is indemnified on a predetermined rate by its participants in exchange for managing the risk fund and overseeing technical matters regarding the insurance investment. By this arrangement, an agency fee can be remunerated as upfront charges from the tekafül fund by the operator whilst at the same time the operator will have the right to profit-sharing on returns on the investment of the tekafül fund in accordance with the Mudarabe contract.
In addition to these 3 models, a new model could be employed by the participation insurance company with the condition that the new model is approved by the Danışma Komitesi (Sharia Board) of the said company.
Danışma Komiteleri (Shari’a Board)
The new circular stipulates that each company must have a Danışma Komitesi (Consulting Committee also called as Shari’a Board) to act as a compliance board. According to the Art. 8 (1) : ‘’ Companies who operate in Participation Insurance area shall form a consulting committee which will oversee and ensure that the practices carried out are in line with the Islamic law principles and participation insurance rules.’’
The purpose of the Danışma Komitesi (Shari’a board) is to oversee the policies and procedures employed by the company, buy reassurance and participation reassurance (retekafül) ,to approve and to evaluate whether the practices carried out by the insurance company comply with the participation insurance principles and Islamic finance principles. Art. 8 (5) of the circular makes it obligatory for companies to elect a sharia board and publish its members through their website.
Prior to the circular, such committee did not exist in the insurance companies. Foreign investment funds especially from the gulf countries who were eager to invest in participation insurance companies in Turkey were in doubt for investment due to the non-existence of such a committee as these committees constitute the main pillar of Islamic finance. Hopefully, with the circular coming into force the investors will feel more secure when considering investment options to the Turkish Participation Insurance companies.
Future of Participation Insurance in Turkey
With the positive changes that the circular imposes on the participation insurance companies, the Islamic insurance sector in Turkey is envisaged to reach the global standards in terms of business operation and market regulation. This approach shall be construed as a reassuring measure for the investors who are considering investing in the Turkish financial markets. Also it is important to remember that a new Reassurance system (Retekafül) would be an inevitable need for the participation insurance companies in the future to reinsure their risks according to the Islamic financial principles.