Islamic Accounting and Financial Reporting - Essay Example

Islamic Accounting and Financial Reporting Table of Contents Introduction 3 Concept and Particular Features of Takaful Operations That Distinguish Them from Conventional Insurance Companies 4 Al-Gharar 5 Al-Maisir 5 Riba 6 Explaination About the Takaful Features and their Reporting Requirements Creating Conflict with IFRS 7 Conclusion 11 References 12 Introduction The accounting structure of a nation has long been witnessed to influence by numerous factors. These factors might comprise nature of ownership, political as well as regulatory structure, dimension of trade or business activities, degree of governmental involvedness, intensity of complexities within financial communities and the existence of a specific accounting legislation among others (Vejzagic, 2011). The financial performance and growth of the banking institutions have been observed to be developed in majority of Islamic countries across the world. However, in certain scenarios, the accounting principles in most of the Islamic countries have also experienced major complexities due to their dissimilarities prevailing within the globally accepted accounting standards (Yaya, 2004). In relation to conventional insurance principle, the primary objective of Shari’ah is generally identified to be a concept of survival of individuals. With regard to this particular notion, the primary objective of insurance industry in the Islamic countries is to protect each individual from various risks that are likely to link with their life, health and/or wealth. In the context of the Islamic law agenda, the term insurance is acceptable owing to the general standards and provisions of Sharia’ah’s law (Arbouna, n.d.). The primary purpose of this essay is to critically explore the particular features of Takaful operations that differs them from the conventional insurance firms. The study also explains the key factors and reporting requirements that are frequently observed to create various conflicts with International Financing Reporting Standard (IFRS) for insurance companies. Concept and Particular Features of Takaful Operations That Distinguish Them from Conventional Insurance Companies Term ‘Takaful’ is defined as a system in the Islamic insurance segment based on the guiding codes of ‘ta’awun” (mutual assistance) and ‘tabarru’ (voluntary contribution) (Matsawali & et.al, 2012). The Takaful industry in the Islamic accounting and reporting sector is often observed to experience rapid development in different nations since the previous few decades (Matsawali & et.al, 2012). In relation to the recent guidelines followed in the insurance sector, the Islamic insurance companies are able to formulate effective methods that are generally applied by conventional insurance companies to maximise profit and build strong relationship with a valid form of contract among both the parties involved in particular insurance. However, Takaful can be observed as such a system, which does not ensure offering adequate rights to the insurance companies to earn revenues, rather the benefits are mutually shared amid each participant involved in a particular contract (Arbouna, n.d.). Takaful operations incorporate numbers of key aspects that significantly distinguish them from the standards and guiding principles involved in the conventional insurance companies. According to the study conducted by different Islamic scholars, there are fundamentally three major features of Takaful operations that include Riba, Al-Gharar and Al-Maisir, which are distinguished from the companies practicing conventional insurance systems (Matsawali & et.al, 2012). These features have been discussed elaborately in the following. Al-Gharar Term ‘Al-Gharar’ significantly refers to ‘uncertainties’ within a particular and conventional type of insurance contract. In the context of a conventional contract of insurance system, the policyholders or the insured individuals are not informed regarding the process of sharing profits along with the investment functions within a particular insurance contract. On the other hand, the Islamic insurance system or Takaful depicts a dissimilar process against the process of sharing profits among the parties within the conventional insurance mechanism. According to Takaful operations, the system based on the concept of Mudharabah, which generally confirms that the distribution of profits are clearly outlined to each group or individuals of participants and operators relating to a particular insurance contract (Matsawali & et.al, 2012; Arbouna, n.d). Al-Maisir Al-Maisir is often regarded as a ‘gambling’ component and is subjected to derive from the element ‘Gharar’ in the conventional Islamic law. In the context of conventional insurance, the policyholders of a particular insurance are subjected to lose the premium amount, paid by the insured individuals if exists lower amount of risks or uncertainties. Despite the elements present in the Islamic insurance doctrine, the individuals or the policy holders must get involve in any type of misfortune whilst paying considerably a lower amount of premium of a particular insurance. In the context of Takaful, the policyholders or any other individual of a particular insurance contract often face less or no risks within the process. The participants of a insurance contract in Takaful operations are entitled to retrieve their postulated contributions that had been paid by the individuals. In terms of any uncertain factor, the policyholders or the insured individuals will be ensured to pay from his/her premium funds (Matsawali & et.al, 2012; Arbouna, n.d). Riba Riba can also be considered as a major feature, which significantly denotes the interest factor associated with the investment actions of the conventional insurance companies. The policy loan within the conventional insurance system significantly refers as an interest rate based financial activity, which considerably distinguishes the system with the conventional insurance policies. In relation to the Islamic policies, the investment activities that incorporate any type of interest rate are highly prohibited by the Takaful operators. The Takaful operations therefore, significantly prohibit any type of investment activity, which exist certain interest rates while paying premium of their insurance services. In this similar concern, it is often regarded that the existence of interest rate with the premium amount of a particular insurance service is subjected to prohibit by the Takaful operations (Matsawali & et.al, 2012; Arbouna, n.d). Takful operators are subjected to governmental doctrines and are highly complied with the policies along with the provisions of Shari’ah’s Supervisory Board. With regard to the key features of Takaful operations, it has been critically observed that the Islamic code of conduct within the insurance system ensures to promote mutual cooperation and protect the policyholders from mitigating adverse impacts impose by interest rates gambling and uncertainties linked with insurance services and practices. The operations that are performed by the Takaful insurance companies significantly distinguish from the conventional insurance policies and practices. In case of any surplus of profit in insurance service, the conventional service providers generally provide the premium amount to their shareholders. Whereas, the surplus amount or investment of Takaful Fund is generally observed to share amid the participants and the shareholders in a process called Wakal or Madhurba models (Bhatty, 2010). Explaination About the Takaful Features and their Reporting Requirements Creating Conflict with IFRS An auditor’s report is often viewed to be one of the crucial and widely considered financial elements, which delivers information about anticipation as well as assurance, through which diverse sorts of developmental decisions are derived from the financial statements that arrange by the auditors. Specially mentioning, the unswerving engagement of various stakeholders depends on the notion of audit quality. In certain cases, it can be apparently noted that the notion of audit quality is fundamentally based upon three fundamental aspects that include ‘inputs’, ‘outputs’ as well as ‘context features’ (International Accounting Standards Committee Foundation, 2007). In relation to the growing concern of auditing fraud and conduct of various unethical accounting practices, the financial institutions are highly observed to comply with globally accepted reporting languages. In this era of modernisation, the entire world is observed to interlinked with each other linked diverse financial terms. Identifiably, several developing nations are deliberately moving towards following the financial reporting regulations of “International Financing Reporting Standard” (IFRS) (Fearnley & Hines, n.d.). In relation to the primary features of Takaful operations, organisations have been significantly observed to highly focus on core objectives regarding the guiding principles of the same. In this regard, enhancing operational efficiency and building healthy as well as sustainable Takaful business and funds can be identified as the major objective of the Takaful operators. Additionally, safeguarding awareness and interest along with promoting uniformity of the insurance participants and their practices can also be observed as a key set of objectives of the operations that enable the Islamic nations to streamline their respective financial position without making any fraud in the accounting activities. However, in various cases, the features such as Al-Gharar, Al-Maisir and Riba have also major dissimilarities within the guiding principles of IFRS or other globally accepted accounting standards (Shafii & Zakaria, 2013). According to the principles of IFRS 4, insurance is termed as a valid contract in which the insurers are expected to accept significant level of risks from the policyholders through making mutual agreements regarding compensation. The compensation process of the policyholders is mutually agreed by the insurers, despite any type of uncertainty that adversely affects the policyholders. In relation to the insurance principles practiced in the Takaful operations, the system consists of two major stakeholders including Takaful Operators or shareholder and Takaful Risk Pool or the participants of the particular insurance contract with various motives. The process has been frequently observed to create a few numbers of common errors that are likely to build conflict among the insurers and the policyholders of an insurance agreement (Kassim, 2012). With respect to the reporting language of Takaful operations, operators generally provide insurance management services towards the participants for a specific amount, which is duly considered as a proportion of profit or investment income of the insurance service. In relation to the IFRS insurance guidelines, this specific process cannot be accepted as a valid method of insurance. In this regard, the agreement process in the insurance services under the Takaful operations has been witnessed to involve major complexities in comparison with the insurance companies with respect to IFRS principles. The Takaful Risk Pool of the insurance agreement has been apparently observed to accept the liabilities in order to compensate the participants even during the financial loss of the insurance company. According to the definition of insurance in the IFRS approach, this type of agreement process is generally accepted as a valid agreement, which can enable the Takaful operators to reduce conflicts (Bank Negara Malaysia, 2013; Kassim, 2012). In the context of controlling participant funds, Takaful operators are likely to set their contribution rates along with managing procedures and insurance underwriting qualities. Moreover, the operators also ascertain the procedure of surplus calculation and determine effective investment strategy regarding the Takaful funds. For examples, the Mudharabah and Wakala Fee model in the Takaful operations are the major approaches of the operators to determine sharing percentage of the Takaful funds. In this regard, the accounting principles and practices regarding the control measure of the participant fund may convey various types of conflicts on the operators, failing to ensure adequate transparency and accountability of the accounting practices. The process might also lead the Takaful operators to lose their potential shareholders and restrict their further growth in the global auditing and accounting industry (Bank Negara Malaysia, 2013; Kassim, 2012). In addition, Takaful operators are not liable to change the Wakala fee along with surplus sharing percentage of the participants’ funds for a long-term period. The process further increases the amount of risk for the operators, as they are not liable to change their profitability or levels of loss from the participants’ funds after determining the contractual terms along with conditions. In this regard, it can be critically assessed that the reporting requirements might not be fulfilled in accordance with the principles that might create conflicts with IFRS for insurance companies (Bank Negara Malaysia, 2013). Conclusion In relation to the modern auditing and accounting environment, the Islamic finance and Takaful operations have been observed as an emerging phenomenon towards substantially contributing to the global economy. With regards to the insurance segment, the Islamic Finance and Takaful can also be considered to have strong appeal in terms of maintaining ethical conducts along with maintaining adequate accountability, transparency and fairness in terms of serving economic activities. However, the features and their reporting requirements have been witnessed to overlook the standards that are globally accepted in auditing and accounting languages. In order to reduce the possible conflicts that might rise due to the deviation of the IFRS provisions, Takaful operators should highly focus on their requirements whilst reporting their financial statements. A combined and consolidated process in the financial statement procedures should implement by the Takaful operators in order to increase their level of integrity and ensuring adequate accountability along with reliability of accounting information. References Arbouna, M. B., No Date. Takaful Operation Falls under General Rules of Contracts. The Contractual Features and Mechanisms of Takaful (Islamic Insurance) Operation, pp. 1-23. Bank Negara Malaysia, 2013. Financial Reporting for Takaful Operators. Regulatory Process and Submission Requirements. [Online] Available at: http://www.bnm.gov.my/guidelines/02_insurance_takaful/04_reporting/Financial%20Reporting%20for%20TOs%20280613_Final.pdf [Accessed April 07, 2014]. Bhatty, A., 2010. The Growing Insurance of Takaful Insurance. Asia Regional Seminar Organised by OECD and Bank Negara Malaysia under the Sponsorship of the Government of Japan, Kuala Lumpur, pp. 1-9. Fearnley, S. & Hines, T., No Date. The Adoption of International Accounting Standards in the UK: A Review of Attitudes. Portsmouth Business School, pp. 1-33. International Accounting Standards Committee Foundation, 2007. Annual Report 2006. IFRS. [Online] Available at: http://www.ifrs.org/NR/rdonlyres/D95B6BF3-A12A-4C6C-BDA1-BDC98B4F2A45/0/IASCFoundationAnnualReportFinal.pdf [Accessed April 07, 2014]. Kassim, Z. A. M., 2012. IFRS 4 Phase I and II: The Issues For Takaful, Implications For The Mudharabah And Wakala Model. The Purpose of Financial Statements. [Online] Available at: http://www.actuarialpartners.com/wp-content/uploads/2012/09/Sept19_IFRS4.pdf [Accessed April 07, 2014]. Matsawali, M. S. & et.al, 2012. A Study on Takaful and Conventional Insurance Preferences: The Case of Brunei. International Journal of Business and Social Science Vol. 3, No. 22, pp. 163-176. Shafii, Z. & Zakaria, N., 2013. Adoption of International Financial Reporting Standards and International Accounting Standards in Islamic Financial Institutions from the Practitioners’ Viewpoint. Middle-East Journal of Scientific Research, Vol. 13, pp. 42-49. Vejzagic, M., 2011. The Concept of Corporate Reporting from an Islamic Perspective: An Overview. Academia. [Online] Available at: http://www.academia.edu/1327908/The_Concept_of_Corporate_Reporting_from_an_Islamic_Perspective_An_Overview [Accessed April 07, 2014]. Yaya, R., 2004. Would the Objectives and Characteristics of Islamic Accounting for Islamic Business Organizations Meet the Islamic Socio-Economic Objectives? JAAI, Vol. 8, No. 2, pp. 141-163. Read More