DESPITE the postponement by South Korea’s National Assembly’s Strategy and Finance Committee of pushing through a vote to approve a bill aimed at facilitating tax neutrality for the issuance of sukuk at end December 2009, local supporters of the introduction of Islamic finance products are confident that the delay is a minor setback.
They stress that the postponement was more due to the timing of the vote which comes amid increasing political squabbling between the Grand National Party and Democratic Party, especially over controversial policy issues relating to the introduction of tough new income and corporation taxes which have been opposed by trade union leaders. Bankers in Korea stress that the vote stands a better chance of taking place in February 2010 when Parliament reconvenes.
The bill is a prerequisite to the launch of Islamic finance products such as sukuk, Ijara (leasing) and other products in Korea. According to Lee Do Heon, managing director, Global Business Department, Korea Investment & Securities Co. Ltd., the current regulatory hurdles which prevent the facilitation of Islamic financial products in Korea are typical of those in conventional financial markets. “The main hurdles,” he explained, “are taxation issues relating to double stamp duty, value added tax (VAT) and capital gains; and the definition of what constitutes a security. From a conventional point of view, sukuk for instance, may look like asset-backed securities or like investment certificates. There must be a standard guideline that sukuk is considered as securities. There are also other challenges on the commercial banking side. In a conventional mortgage, for instance, it is like lending with collateral. But in the Islamic mortgage of Diminishing Musharaka the bank must purchase the property and co-owns the asset or property with the mortgagee. The bank then rents out its share of the equity to the mortgagee. Under Korean legislation, commercial banks are not allowed to buy properties for purposes other than headquarters and branches etc. Fortunately, these issues have been recognized by the Financial Supervisory Service of Korea and the central bank.”
Korea is a relatively latecomer to Islamic finance in East Asia. But following the stated ambitions of neighboring countries such as Hong Kong, Singapore that are trying to establish themselves as international Islamic capital markets hubs, Seoul is similarly trying to promote Korea as a future Islamic finance hub. Kim Jong Chang, governor of the Financial Supervisory Service of Korea, the financial services regulator, believes that Islamic finance is a good innovation in the global financial market and has stressed that the Korean government is committed to facilitating it in Korea. Korea believes that the global financial crisis has shown that financial services cannot be divorced from the real economy and sees an ideal fit between its vast industrial base and Islamic finance.
Indeed, in late November 2009 the Korea Exchange (KRX) and Bursa Malaysia hosted the inaugural KRX-Bursa Malaysia Islamic Capital Market Conference in Seoul which was widely attended by local investment bankers, advisers, issuers and institutional investors and by visiting delegates of the MIFC initiative, which comprised senior management of Bank Negara Malaysia, the central bank; Securities Commission Malaysia and Bursa Malaysia.
The conference indeed was co-organized in support of the Malaysia International Islamic Financial Centre (MIFC) initiative, which aims to share Malaysia’s Islamic finance experience and to promote the opportunities in the Malaysian Islamic capital market landscape.
Malaysia acknowledges Korea as a potential Islamic financial market and welcomes Korea’s participation in shaping the Islamic finance landscape together, via leveraging on Malaysia’s more than 30 years of experience in developing the world’s most comprehensive Islamic financial system.
Dato’ Yusli Mohamed Yusoff, chief executive officer of Bursa Malaysia Berhad, is confident that “the conference will stimulate interest in the Shariah-compliant products which are currently in demand from investors who are seeking returns from alternative and ethical investments. In addition, this visit by the delegates from the MIFC will pave the way for more opportunities to exchange ideas in Islamic finance and forge greater working relations between Korea and Malaysia for the interest of growing this important industry. We are confident that the Malaysian and Korean authorities as well as KRX and Bursa Malaysia would be able to leverage on our respective strengths in the establishment of an Islamic capital market in Korea.”
Discussion centered around the liberalization of Islamic financial markets, investment and business opportunities in Islamic capital market, the Islamic finance landscape and framework as well as the growth of Islamic finance products in Asia and globally.
“The Korean sovereign wants to issue a sukuk and the country’s corporates are already preparing. What we offer is a platform for Korean issuers to issue non-ringgit sukuk in Malaysia. But we want those issuers to be able to issue in Malaysia and Korea,” said Raja Teh Maimunah, global head of Islamic markets at Bursa Malaysia.
One of the most important challenges, according to Lee Do Heon, is awareness and trying to help Korean customers understand what the principles of Islamic finance are. For example, in the case of sukuk of which most of the standard structures is an Ijara, the initial paper should be a solid one backed by underlying core assets. From a Korean issuers’ point of view it looks as if it is an accumulation because they are selling core assets. “We are trying to convince them that it is not. Also for Shariah equity funds we try to explain to them that it is more like a socially responsible investment with lower leveraging. So what we are trying to do is to explain the Shariah financial principles but in terms of a Korean and conventional financial nomenclature. We are also promoting real transactions which are acceptable to both Islamic investors and Korean customers. There are still some regulatory hurdles in Korea, so it will take a little bit more time to close Shariah-compliant transactions,” he added.
While the complexity of the issues may have been cited as a potential cause of a drag in passing the legislation, local bankers stress that they are far less complex than the conventional derivatives and bubbles that have bedeviled the global financial system over the last two years.
On the other hand, potential Korean issuers like some others in East Asia may be waiting for the sukuk market to recover in terms of pricing and yields before they decide to take the plunge. There is evidence that this is already happening both in the Asian sukuk and GCC sukuk markets. The recent $850 million IDB sukuk and the $1.5 billion Petronas EMAS sukuk were both competitively priced and were much in demand by Asian investors, and were not surprisingly well oversubscribed.
It will be interesting to see what the tax implications are in the proposed Korean sukuk bill. It is likely that the government will opt for sukuk to be sold through SPVs (special purpose vehicles) but it will have to plug a potential tax loophole or abuse of the proposed law in the case of companies with no intention of selling sukuk setting up SPVs to take advantage of the low or non-existent capital gains tax. It is likely that the bill will only allow sukuk Al-Ijarah and Mudarabah structures.
Several Korean companies including GS Caltex, Korean Air, Hyundai, Samsung and others are reportedly exploring the possibility of raising funds from the sukuk market. South Korean Chaebols including Lucky Goldstar, Samsung, Korea Shipping and several others have in the past accessed Islamic commodity Murabaha facilities structured through London. — M.P.
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