5.1.1. Application

This Chapter applies to an AIFC-Incorporated Takaful Operator.

5.1.2. Overview

(1) The capital requirements for the shareholders’ fund of the Takaful Operator must be reflective of the risks directly borne by the Takaful Operator, whilst the capital requirements for the individual Takaful Funds managed by it must be reflective of the risks borne by those Takaful Funds.

(2) If the Eligible Capital available in a Takaful Fund is not adequate to meet the applicable capital requirements as defined in the TRR Rules, the resulting deficit in capital should be considered as an estimate of the potential Qard that may need to be extended by the Takaful Operator to ensure capital adequacy of the relevant Takaful Fund.

(3) The Eligible Capital available in the shareholders’ fund of a Takaful Operator must only be available to support risks borne by the Takaful Operator as well as any potential Qard it may need to provide to its Takaful Funds, as described in (2) above.

(4) The Eligible Capital available in a Takaful Fund must only be used to support the risk exposures of that Takaful Fund and should be available only to reduce the potential Qard that may need to be extended by its Takaful Operator.

(5) The capital adequacy and other prudential requirements as well as the methodologies for determining them, as specified in the TRR Rules must be applied to the Takaful Operator or to the individual Takaful Funds it manages, as applicable in the relevant context, to achieve the overall objectives of the TRR Rules and to comply with the specific Rules 5.1.2 (1) to (4).

(6) All references to a Takaful Operator or an AIFC-incorporated Takaful Operator in the TRR Rules specifying capital adequacy and other prudential requirements must be read as referring also to a Takaful Fund.

5.2.1. Obligation to calculate Eligible Capital

An AIFC-Incorporated Takaful Operator must calculate its Eligible Capital on an ongoing basis in accordance with the Rules set out in Schedule 3 (Calculation of Eligible capital)

5.2.2. Obligation to calculate MCR

An AIFC-Incorporated Takaful Operator must calculate its Minimum Capital Requirement (MCR) on an ongoing basis in accordance with the Rules set out in Schedule 4 (Calculation of Minimum Capital Requirement (MCR)).

5.2.3. Obligation to calculate PCR

• (a) calculate its Prescribed Capital Requirement (PCR) at least once a year in accordance with the Rules set out in Schedule 5 (Calculation of Prescribed Capital Requirement (PCR)); and
• (b) recalculate its PCR without delay if its risk profile deviates significantly from the risk profile detailed in its last reported PCR.

5.3.1. Approval by AFSA

The AFSA may, by written notice, allow an AIFC-Incorporated Takaful Operator to use its own internal model to calculate a component or components of its PCR.

Guidance

Note that the AFSA is not currently in a position to consider applications for the use of internal models. The AFSA will notify Takaful Operators when this position changes.

5.3.2. Criteria for approving use of internal models

The AFSA will only consider allowing an AIFC-Incorporated Takaful Operator to use its internal model if it is satisfied that the model:

(a) operates within a risk management environment that is conceptually sound and supported by adequate resources;

(b) addresses all material risks to which the AIFC-Incorporated Takaful Operator could reasonably be expected to be exposed and is commensurate with the relative importance of those risks, based on the AIFC-Incorporated Takaful Operator’s business mix;

(c) is closely integrated into the day-to-day management process of the AIFC-Incorporated Takaful Operator;

(d) is supported by appropriate audit and compliance procedures;

(e) is subjected to, as a minimum, three tests: “statistical quality test”, “calibration test” and “use test”, the results of the which demonstrate that the model is appropriate for regulatory capital purposes; and

(f) is subject to adequate processes established by the AIFC-Incorporated Takaful Operator to validate the accuracy of the calculations made using the internal model, as well as for monitoring and assessing its ongoing performance.

5.3.3. Statistical quality test

An AIFC-Incorporated Takaful Operator seeking approval for its internal model must demonstrate:

(a) that the PCR or component(s) of the PCR calculated using the internal model addresses the overall risk position of the AIFC-Incorporated Takaful Operator subject to the nature, scale and complexity of the AIFC-Incorporated Takaful Operator and its risk exposures;

(b) the theoretical validity of the internal model including:

1. (i) the suitability of model structure, data (including completeness and accuracy), and estimation within the AIFC-Incorporated Takaful Operator’s business context;
2. (ii) the appropriateness of the internal model basis within the industry context, including methodological benchmarking to alternatives and best practice;
3. (iii) the appropriateness of the parameter estimations. It should be demonstrated that the parameter estimations are appropriate within the market and industry context and parameter uncertainty is addressed to the extent possible; and
4. (iv) the consistency, soundness and justification of the methodologies, distributions, aggregation techniques and dependencies (within and among risk categories) adopted.

(c) the analytical validity of the internal model including:

1. (i) the statistical process for validating that the results of the model are fit for the purpose for which they are used;
2. (ii) the implementation of the model given the theoretical basis, goodness of fit, forecasting capability for out-of sample observations (backtesting), sensitivity to changes in key underlying assumptions and stability of outputs;
3. (iii) the backtesting applied at various levels of the business activity;
4. (iv) the sensitivity analysis undertaken, which should validate the parts of the internal model where expert judgement is used and should examine whether the model output is sensitive to changes in key assumptions;
5. (v) the convergence of the model to demonstrate that model outputs are statistically significant;
6. (vi) the processes of monitoring the model’s performance; and
7. (vii) where possible, benchmarking the model results and techniques with peers, available literature and research.

5.3.4. Calibration test

An AIFC-Incorporated Takaful Operator must demonstrate that the PCR or component(s) of the PCR produced by its internal model is consistent with the specified modelling criteria.

5.3.5. Use test

(1) An AIFC-Incorporated Takaful Operator must demonstrate that the internal model (its methodologies and results) is fully integrated within its risk and capital management and system of governance processes and procedures.

(2) An AIFC-Incorporated Takaful Operator’s Governing Body is required to:

(a) have overall control of and responsibility for the construction and use of the internal model for risk management purposes;

(b) have sufficient understanding of the model’s construction at appropriate levels within the AIFC-Incorporated Takaful Operator’s organisational structure;

(c) have an understanding of the consequences of the internal model’s outputs and limitations for risk and capital management decisions.

(3) An AIFC-Incorporated Takaful Operator must have adequate governance and internal controls in place with respect to the internal model.

5.3.6. Documentation

(1) An AIFC-Incorporated Takaful Operator must document, at a minimum:

(a) the design, construction, modelling criteria and governance of the internal model;

(b) the justification for and details of the underlying methodology, assumptions and quantitative and financial bases;

(c) if applicable, why it has chosen to only use a partial internal model for certain risks or business lines; and

(d) if applicable, the reliance on and appropriateness of the use of external vendors/suppliers.

(2) The documentation must be sufficiently detailed to demonstrate compliance with the statistical quality test, calibration test and use test.

(3) The documentation of the internal model must be timely and up to date.

5.3.7. Ongoing validation and supervisory approval of the internal model

An AIFC-Incorporated Takaful Operator using an internal model must:

• (a) monitor the performance of its internal model and regularly review and validate the ongoing appropriateness of the model’s specifications against the criteria set out in 5.3.2 to 5.3.5;
• (b) notify the AFSA of material changes to the internal model made by it for review and continued approval of the use of the model for regulatory capital purposes;
• (c) properly document internal model changes;
• (d) report information necessary for supervisory review and ongoing approval of the internal model on a regular basis, as determined appropriate by the AFSA

5.4.1. Obligation to maintain Eligible Capital at or above MCR

An AIFC-Incorporated Takaful Operator must at all times have Eligible Capital equal to or higher than the amount of its MCR.

5.4.2. Obligation to maintain Eligible Capital at or above PCR

An AIFC-Incorporated Takaful Operator must at all times have Eligible Capital equal to or higher than the amount of its PCR.

5.4.3. Non-Compliance with the PCR

If an AIFC-Incorporated Takaful Operator becomes aware that it does not have, or there is a risk that within the following three months it will not have, Eligible Capital equal to or higher than the amount of its PCR, it must:

(1) immediately inform the AFSA;

(2) within one month, submit to the AFSA for its approval a short-term realistic plan which complies with the requirements of TRR 5.4.6 (Contents of recovery plans and finance schemes);

(3) within six months (or such longer period as the AFSA may specify), take the measures necessary to achieve the re-establishment of Eligible Capital covering the PCR, or the reduction of its risk profile to ensure compliance with the PCR; and

(4) take such steps (if any) as the AFSA may require, which steps may be specified by the ASFA as in addition to, or instead of, the measures in (3).

5.4.4. Non-Compliance with the MCR

If an AIFC-Incorporated Takaful Operator becomes aware that it does not have, or there is a risk that within the following three months it will not have, Eligible Capital equal to or higher than the amount of its MCR, it must

(1) immediately inform the AFSA;

(2) within two months, submit to the AFSA for its approval a short-term realistic plan for infusion of additional Eligible Capital which complies with the requirements of TRR 5.4.6 (Contents of recovery plans and finance schemes);

(3) within six months (or such longer period as the AFSA may allow), take the measures necessary to achieve the re-establishment of the level of Eligible Capital covering the MCR, or the reduction of its risk profile to ensure compliance with the MCR; and

(4) take such steps (if any) as the AFSA may require, which steps may be specified by the ASFA as in addition to, or instead of, the measures in (3).

5.4.5. Other regulatory actions not precluded

The fact that an AIFC-Incorporated Takaful Operator has Eligible Capital equal to or in excess of its PCR or its MCR does not preclude the AFSA from intervention, or from requiring action by the AIFCIncorporated Takaful Operator for other reasons, such as weaknesses in the risk management or governance of the Takaful Operator.

5.4.6. Contents of recovery plans and finance schemes

Any recovery plan or finance scheme must as a minimum include:

(a) estimates of management expenses, in particular current general expenses and commissions;

(b) estimates of income and expenditure in respect of direct business, reinsurance acceptances and reinsurance cessions;

(c) a forecast balance sheet;

(d) information about the AIFC-Incorporated Takaful Operator’s overall policy regarding reinsurance; and

(e) such other information as the AFSA may specify in writing.

5.4.7. Eligible Capital below the level of the Capital Floor

If at any time an AIFC-Incorporated Takaful Operator becomes aware that it does not have Eligible Capital in excess of the amount of the Capital Floor specified in Schedule 4 (Calculation of Minimum Capital Requirement (MCR)), it must immediately

• (a) stop effecting new Contracts of Takaful; and
• (b) inform the AFSA.

5.5.1. Tier 1 Capital not to be reduced without approval

An AIFC-Incorporated Takaful Operator must not reduce the Tier 1 Capital component of its Eligible Capital without the prior written approval of the AFSA.

5.5.2. Capital plan to be provided

When seeking approval for a reduction of its Tier 1 Capital under TRR 5.5.1 (Tier 1 Capital not to be reduced without approval), an AIFC-Incorporated Takaful Operator must provide to the AFSA a capital plan that has incorporated the effects of the proposed reduction and:

• (a) demonstrates that the AIFC-Incorporated Takaful Operator will remain in excess of its MCR for 2 years without relying on new capital issues;
• (b) is consistent with the AIFC-Incorporated Takaful Operator’s business plan; and
• (c) takes account of any possible acquisitions, locked-in capital in subsidiaries and the possibility of exceptional losses.

5.5.3. Notice to be given of proposed reduction of Tier 2 Capital

An AIFC-Incorporated Takaful Operator must notify the AFSA of its intention to reduce its Tier 2 Capital at least 6 months before the actual date of the proposed reduction, providing details of how it will meet its MCR after the proposed reduction.

5.6.1. Dividends and distributions to be reported

An AIFC-Incorporated Takaful Operator must report to the AFSA all dividends and other distributions to shareholders within 15 business days following the declaration of the dividend or distribution.