ISLAMIC FINANCE TRANSACTIONS IN TURKEY YONCA FATMA YÜCEL BANKING REGULATION AND SUPERVISION AGENCY

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1 ISLAMIC FINANCE TRANSACTIONS IN TURKEY YONCA FATMA YÜCEL BANKING REGULATION AND SUPERVISION AGENCY

2 ISLAMIC FINANCE Equity Fairness Profit and Loss Sharing Participatory Real Transactions

3 ISLAMIC FINANCE At the beginning Faith based financing system providing alternative products to those available in the conventional financial markets. Through these transcendence, competitive alternative to conventional products attractive to Muslims and non- Muslims.

4 ISLAMIC BANKING Basic principle of Islamic banking is the sharing of profit and loss and the prohibition of usury. This principle encompasses prohibition of interest and sharing of profit. The distinctive elements of Islamic finance could be listed as follows: Its ethical element (the prohibition of usury and exploitation of the borrower) The preference for trading in real assets (rather than synthetic products) Partnership between the investor and investee Its governance structure (requiring a Shariah Council).

5 LIQUIDITY MANAGEMENT Islamic banking has some shortages in comparison with their conventional counterparts. In the conventional banking system with a well developed interbank money market, a variety of instruments are available for the banks. Access to interbank money markets for short-term borrowings gives considerable flexibility to banks to adjust their short-term cash flows. Existence of secondary markets for financial instruments is also an important source of liquidity. However, this conventional mechanism of liquidity management including interbank market, secondary market financial instruments and facilities from the central bank as the lender of last resort are all based on interest and therefore, not acceptable for Islamic financial institutions.

6 International Islamic Liquidity Management Corporation (IILM) IILM has been established to assist institutions offering Islamic financial services in addressing their liquidity management issues in an efficient and effective manner. This institution addresses one of the fundamental problems of Islamic financial institutions: the provision of adequate liquidity in times of stress. Once there is an international lender-of-last-resort facility (to complement and not to replace existing nationalfacilities), the provision of Islamic financial services will be carried out with an increased confidence.

7 International Islamic Liquidity Management Corporation (IILM) The instruments of the IILM will be utilized in liquidity management as eligible collateral for interbank transactions and central bank financing, or through trading of IILM instruments (either within the same country or crossborder) in the secondary market. As the IILM is intended to facilitate cross-border liquidity management, its instruments shall be denominated in major reserve currencies. This is to ensure access to a large pool of global investors and broaden the range of its holders, thereby enhancing the prospects for active secondary market.

8 PARTICIPATION BANKS IN TURKEY Definition Some Indicators Funding Methods

9 PARTICIPATION BANKS IN TURKEY Banking Law Numbered 5411 Under Article 3 of Banking Law Numbered 5411; Participation bank : The institutions operating primarily for the purposes of collecting fund through special current accounts and participation accounts and granting loan pursuant to this Law and the branches in Turkey of such institutions established abroad. Under the Part Five is titled Provisions Regarding Collection of Deposits and Participation Funds of Banking Law defines acceptance of deposits and participation funds, withdrawal of deposits and participation funds, statute of limitations, insurance of deposits and participation funds, deposits and participation funds not covered by funds.

10 PARTICIPATION BANKS IN TURKEY Under the Article 60, Acceptance of Deposits and Participation Funds : Other than credit institutions and those authorized by special laws, no real or legal person, essentially or secondarily by assuming a profession, shall accept deposits or participation funds. Neither shall they make announcements to the public by notice or advertisement using commercial titles or other expressions nor terms that give similar impressions thereof. Providing in return a receipt, participation certificate, bond or other similar document instead of an bank book is not an obstacle to considering the money accepted as deposit or participation fund acceptance. In private and public institutions and undertakings, the funds and foundations established for the purposes of providing health and social assistance, retirement, reserves and savings, which only belongs to the employees, and money collected exclusively from the members of foundations for these purposes as well as the transactions of insurance companies shall not be considered acceptance of deposit or participation fund in the enforcement and interpretation of this Law.

11 PARTICIPATION BANKS IN TURKEY When the credit institutions established in Turkey keep books or documents, and employ personnel to collect deposits or participation funds from people residing in Turkey on behalf of their undertakings abroad or other banks or financial institutions abroad, direct their customers to their subsidiaries or other banks or financial institutions abroad through paying charges, commissions, premium, etc. to their personnel on the deposit and participation fund to be collected for such undertakings abroad or other credit institutions or financial institutions or through having such institutions advertised or promoted by their personnel, collect deposits and funds for institutions established abroad using such methods, then the deposits and participation funds collected as such shall be considered non-permitted deposit and participation fund acceptance under this article. Credit institutions shall classify deposit accounts and participation fund accounts according to maturity and type as determined by the Central Bank upon receiving the views of the Board and shall separate their saving deposit accounts and participation funds belonging to real persons from other accounts. The provisions of this article shall not be applied to capital market instruments issued in accordance with the provisions of Capital Market Law No

12 Number of Banks in Turkey and Their Market Shares Number Market Share in Assets % Dec-2009 Dec-2010 Jun2011 Dec-2009 Dec-2010 June-2011 Deposit Banks ,7 92,6 92,8 Participa tion Banks ,3 4,2 D&I Banks ,3 3,1 3 Total

13 BalanceSheetof Participation Banks Million TRY /08 Liquid Assets Securities Portfolio Loans Fixed Assets Other Total Assets Deposit Shareholders Equity Other External Funds

14 Typesof Funding

15 ISLAMIC FINANCIAL INSTRUMENTS IN TURKEY Undersecretariat of Treasury has started the issuance of Revenue Indexed Bonds, which are purchased by the participation banks. SUKUK

16 SUKUK IN TURKEY As it is known, another kind of interest-free security, which could be useful for participation banks especially in their liquidity management, is a specially designed financial certificate, called Sukuk. Sukuk Communique was prepared by Capital Markets Board of Turkey on the dated 1 April Sukuk Communique includes provisions about certificates and Special Purpose Vehicle (SPV) instruments. These certificates are basically called lease certificates as the Sukuk communique is based on ijara Sukuk. This regulation permits the issuance of rent certificate, which are very similar to asset-backed securities. We believe that such interest-free securities, which could also be traded in secondary markets, is very beneficial for the participation banks in their liquidity management operations.

17 Legal Framework Redefinition of Asset: The asset is defined by the Sukuk Communique as all sorts of goods which are movable or not movable and intangible assets to be pruchased or leased by the Asset Leasing Corporation (Art.3. L) In order for PBs and non-bank corporates to increase their issuance possibilites, the definiton should be further extended to include the Murabaha and smilar receivables. Paving The Way For Head-Lease/Sub-Lease Structure : Classical Sale &Leaseback model is the only structure proposed by the mentinoned Communique. However Head lease (50 to 100 years)/sublease (3-5-7 years) would be an other option to enable the structuring. To prevent any tax burden, the tax exemption should be recognized to the HL/SL Structure.

18 Legal Framework Redefinition of the Originating Institution: The Article 3. E. Of the mentioned Communique requires that the originating institution should be joint stock company which is an obstacle in front of prospective issuances by the State-owned institutions. Leasing Law : According to the Article 18 of the Leasing Act (Numbered 3226) the assets subject to the Lease Agreement can solely be transferred to another leasing company if only there is an article in the Lease Agreement allowing the subject transfer.

19 Legal Framework Finance Bill in February 2011: The Finance Bill 2011 in February includes tax neutrality measures for Sukuk Al-ljara thus paving the way for a spate of corporate Sukuk issuances in Turkey. Elimination of the obstacles before Sukuk offerings under Turkish legal and tax systems have been targeted by the aformentioned regulations. Under the Finance Bill a number of amendment has been done in İncome Tax Law, Corporate Tax Law, VAT Law, Stamp Duty Law and Charges Law to elliminate the tax obstacles in front of Sukuk Issues in Turkey. A limited Legal Framework: The existing legislation sounds limited in enabling the corporates to make use of different sukuk structures such as Mudaraba, Musharaka, Salam or Istithna.

20 Recent Developments in TURKEY Moody s upgraded actuel its outlook for Turkey s sukuk issue to positive and gave it a Ba1 rating on the heels of news that The Turkish Treasury had mandated three intenational banks, Citigroup, HSBC and Liquidity House (A Kuwwait Finance House Subsidiary) to issue sukuk-certificates -Lease Certificate in the international capital markets.

21 Recent Developments in Turkey New issuances Sukuk (Lease Certificate) issuing on the dated Sept.18,2012 Sukuk issuing Turkish Lira based on the dated Oct.3, 2012

22 Thank you.

Diversification of Islamic Financial Instruments in Turkey

Republic of Turkey Undersecretariat of Treasury Diversification of Islamic Financial Instruments in Turkey Utku ŞEN Treasury Expert 9 th MEETING OF THE COMCEC FINANCIAL COOPERATION WORKING GROUP October