Indonesia’s takaful industry faces challenges in the short to medium term from a requirement that stipulates that shariah business units (SBU) of conventional insurers need to spin off into standalone entities, said Fitch Ratings.
Only a few SBUs have separated from insurers, even though the deadline for submitting revised spin-off plans to the regulator is on 17 October 2021.
Most insurance firms are struggling to spin off their SBUs in the short term due to high capital requirements and operating expenses and the implications for profitability and financial viability are unclear. Ultimately, the takaful sector could benefit from rising sector capitalisation and as more insurers prioritise takaful.
The regulations are driven mainly by shariah requirements and could affect takaful firms’ operating and credit profiles. Despite the pressures, Fitch expects the takaful sector’s performance to remain steady during 2021-2022.
To support the transition, the Indonesian House of Representatives in 2020 approved the 7th ASEAN Framework Agreement on Services (AFAS) protocol, which aims to partner ASEAN general shariah insurers with domestic players under the spin-off programme. The rating agency expects the partnerships to provide capital inflow from ASEAN insurers to support the spin-offs in the long term as well as provide the necessary know-how.
The government has exempted new shariah entities from the 80% limit on foreign ownership and has allowed certain services to be shared between the new takaful firm and the original insurer for up to three years, subject to the Financial Services Authority’s (OJK) approval. This would help reduce the operating expenses of new takaful firms. However, evidence of capital inflow from ASEAN insurers has so far been limited.
Life insurers with SBUs would not benefit from the AFAS protocol, which applies only to non-life insurers.
Some insurers with small SBUs may close their takaful business.
SBUs dominate the Indonesian takaful market, with 42 takaful and three retakaful windows at the end of July, compared with 13 full-fledged takaful companies and one retakaful company. More than 70% of all takaful operators are required to spin off their SBUs by the 2024 deadline, but only five have done so since 2014.
Failure to spin-off the SBUs by October 2024 would lead to OJK revoking the business licences of the shariah units. OJK asked insurers to submit spin-off plans for their Islamic insurance units by 17 October 2020, with revisions allowed until 17 October 2021. The spin-off plans will include insurers’ decisions on whether to separate their SBUs or transfer existing portfolios to full-fledged shariah insurers and withdraw their SBU licences. M