Economic Risk Factors of Islamic Securitization in the Shari’ah View

ISLAMIC SECURITY NEEDS MORE THINKING

Securitization is a process that has been widely used by Islamic Financial Services Institutions (IIFS) in substantial volumes for many years, primarily for cash equivalence and marketability purposes. In other words, sukukization is a process of immediate liquidation, direct access to capital markets, creation of a secondary market, and risk segmentation, often simply referred to as sukuk.

The overall process will be organized or ‘securitized’ by an SPV (special purpose vehicle) structured by an IIFS. Sheikh Taqi Usmani’s pronouncement (2008) stating that most of the Sukuk issued in the market defied Islamic norms has aroused strong emotions. To some, it seemed rushed, poorly thought out and contrary to the needs of the Islamic capital market. In the opinion of others, however, it was nothing short of a much-welcome and long-awaited breath of fresh air for the industry. Some critics, who questioned the validity of Sheikh Usmani’s pronouncement, argued that personal opinion runs counter to the Accounting and Audit Organization for Islamic Financial Institutions (AAOIFI) decision on the permissibility of sukuk as set out in its Shari’ ah Standard 13 (Resolution to the Fiqh Academy on Securitization).

The view expressed in this article is that rather than contradicting each other, AAOIFI Shari’ah Standard 13 on securitization and the actual application of sukukization, which is contested by respected Shari’ah scholars calling for a royal Sukukization; actually they both agree with each other, even though it hasn’t been explicitly stated.

Further analysis reveals that the general sukuk structures allowed by the AAOIFI are theoretical models that the industry rarely if ever follows. Realizing this fact, rather than there being any conflict, Shari’ah scholars have simply presented the same point of view, albeit expressed differently. In other words, his point of view points out what cannot be done, while the AAOIFI reaffirms this and completes the picture by explicitly describing in AAOIFI Shari’ah Standard 17 what should be done.

RISK FACTORS AND ELIGIBLE ASSETS FOR THE ISSUANCE OF SUKUK

In short, non-Shari’ah compliant securitization cannot be structured if it does not meet the strict conditions set by standards 17 and 13 (AAOIFI). Therefore, the key conditions set out by AAOIFI Shari’ah Standard 17 are that sukuk, to be negotiable, must not represent accounts receivable or debt, except in the case of a business or financial entity selling all its assets, or a portfolio with a permanent financial position. obligation, in which some debts, incidental to physical assets or usufruct, were included involuntarily, in accordance with the guidelines mentioned in the AAOIFI Shari’ah Standard (21) on financial documents.

A combination of a Musharakah and an Ijarah constitute a single unit of a “Contract”. This concept is elaborated by means of an example. Person I is interested in buying a house (“homeowner”) but does not have enough cash to make the purchase. The I person then goes to an originator, who enters into a Musharakah with the home owner to buy the home.

In this example, both parties have ownership of the property that has been purchased. Both parties have the risk of depreciation in the price of the home and also the possibility of benefiting from the potential appreciation in the value of the property they purchase. The property relationship in the property is equivalent to the relationship of the initial contribution percentage; Assignor’s initial contribution is the amount of the contribution made by the Assignor as a percentage of the total purchase price and similarly for the Owner. The result of the Musharakah is a symbiotic relationship between the Owner of the House and the Originator. Musharakah allows the Owner to purchase a property that he would not have been able to do without the Originator’s partnership.

Musharakah allows the originator to act as an investor, we will describe in more detail later how the originator benefits from the partnership (Farhan, Malik 2010).

Z = Total purchase value of the house
I = Owner’s Initial Contribution
Y = Initial Contribution of the Originator
Z = i + y

The second stage of the Agreement involves an Ijarah between the Home Owner and the Originator. In this lease, the Owner acts as the Lessee and pays the Originator (Landlord) for the Usufruct of the Originator’s portion of the property. The rental rate used to form the Ijarah is derived from market rates, which in turn are a product of a number of macroeconomic factors. The Owner has the option to make payments to partially purchase the Real Estate Property from the Originator, it should be noted that it is an option and not an obligation for the Owner.

Since the lessor in Ijarah is the owner of the leased property, he can sell the property, in whole or in part, to a third party who can buy it and can replace the seller in the rights and obligations of the lessor with respect to the purchased part of it. the active. (Muhammad Taqi Usmani, Introduction to Islamic Finance). Below we show how the Ijarah is placed in a securitization vehicle.

SUKUKIZATION OF CONTRACTS IN UNIFIED TRUSTS

Musharakah and Ijarah are combined to form a single Contract. These Contracts are then placed in a remote Bankruptcy entity, ie, the Unitized Trust. Figure 3 below shows the schematic showing a series of Deeds combined to form a Unified Trust. The Manager acts as Agent on behalf of the End Investors and the Issuer to collect rent and principal payments from Owners. In return, the manager charges a nominal fee that is paid out of rental payments made by homeowners (Farhan, Malik 2010).

Once the Unified Trust has been formed, it issues a number of Securities to the End Investors. The Securities issued by the Unified Trust form the Sukuk. Sukuk is backed by the ownership interest in the properties and rental income is the periodic earnings received by Sukuk holders. The Issuer, which can be a Bank or a Financial Company, is responsible for originating the Contracts. The Issuer also maintains an interest in the Unitized Trust, in order to ensure that the Issuer and the End Investors do not have any conflicts of interest. Having the Issuer’s participation in the Unified Trust ensures that the interests of the Issuer and the End Investors are aligned.

The following figure shows the full framework of the proposed Sukukization structure. It begins with the Originator (Issuer) working with individual Owners to originate the Contracts. These contracts are then placed in a unitized trust that holds ownership interests in the purchased properties and receives periodic income from the owners. The Administrator is responsible for servicing all payments of this structure and may be the same entity as the Issuer. The Unified Trust issues Sukuk securities representing ownership interests in purchased properties and lease income from the Owners’ usufruct.

CONCLUSION AND FUTURE PERSPECTIVES

The Sukukization structure proposed in this article behaves like a Hybrid of Agency and Non-Agency Mortgages. It carries similar credit risk to a Non-Agency Mortgage but behaves like an Agency Mortgage in terms of vertical ditches.

In this article, a framework has been established to develop a Sukukization structure in order to finance the Housing Mortgage Market. An effort has been made to address all plausible issues related to the development of an Islamic property market securitization vehicle. The structure is designed to fully comply with the mandates of the Islamic Shari’ah and, at the same time, take advantage of the progress made in the Western world in the development of a securitization market (Farhan, Malik 2010).

There are still some factors that require more work. In the event of a significant property price appreciation, it would always be in the owner’s interest to pay the full equity instead of refinancing. The refinance would involve sharing the proceeds from the property with the Unitized Trust. This problem can be solved by limiting the amount of the prepayment to a certain percentage for each year without the option to carry it over to the next year. As an example, if the term of the Ijarah is 5 years, then the maximum prepayment could be set at 20% per year. This would ensure that both the homeowner and the end investor participate in the property’s price appreciation.

The development of a stable Sukukization structure for the housing market would greatly benefit both home buyers and real estate investors. It would provide homebuyers with access to reasonable, interest-free financing to purchase their homes. Having a Unitizing Trust as your Musharakah partner would provide additional security against the risk of default.

For real estate investors, it would allow them to invest in a relatively liquid product. It allows investors to share in the potential upside in property prices while providing stable periodic cash flows through Ijarah.

A well-refined property market would attract global investors looking to make Shari’ah-compliant, interest-free investments. Such a basic framework has been provided in this article, which can be further advanced to suit the requirements of a certain country or region. I will focus in the next part on trading such Sukukization on the secondary market.

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