How amended financial law could revolutionise banking

A client transacting business at a counter in a banking hall. Parliament has passed a law, that experts say, will revolutionalise banking in Uganda. Ms Christine Alupo (inset), the director communications Bank of Uganda gives some insight on what is required for Islamic Banking as well as other products to be utilised. FILE PHOTOs

What you need to know:

New. Law introduces products such as Islamic Banking, among others.

Kampala. After nearly six years in the making, it took Members of Parliament a single day to pass amendments to the 2004 Financial Institutions Act.
The much-awaited reforms, expected to boost operations of banks in the country, were passed by the Parliament last Wednesday.
The legislators passed the Financial Institutions (amendment) Bill 2015 that introduces three new products: Islamic Banking, Bancassurance and Agent Banking, to Uganda’s banking sector.

“These amendments are a very welcome development in the banking sector as they enable enhanced latitude for the financial institutions to offer more and better and convenient services to clients thus enhancing financial inclusion. We are grateful to the legislators and Bank of Uganda (BoU) for this development,” Mr Fabian Kasi, the managing director Centenary Bank, told Daily Monitor.
The amendments await President Museveni’s approval before the implementation process begins.

Outdated law
At the time the proposed amendments were tabled in August 2015, state minister for Finance in charge of general duties Fred Omach said the Financial Institutions Act 2004 was outdated and did not provide an opportunity for the banking sector to explore new products.
“For instance, the Act does not permit the conduct of Islamic Banking, which has become a popular financial institutions business because of its late reliance of profits,” he told Parliament.

Additionally, banks were not allowed to appoint agents to work on their behalf as well as prohibited from selling insurance.
More so, the Financial Institutions Act 2004, did not have provisions for regulating mobile banking and mobile transactions.
“Also, due to the passage of time, some aspects of the Financial Institutions Act, 2004 have become outdated in light with the present day policies, international obligations, globalisation and technological developments,” the memorandum in the amendment bill reads.

Islamic Banking
To date, the Act completely prohibited any Islamic Banking practices in the country.
The passing of these amendments means that at least 11 commercial banks in the country can adopt the Islamic Banking model. The 11 banks had been lobbying BoU and ministry of Finance to amend the laws in order to cater for the Islamic banking model.
The Islamic Banking model follows the principles of Shari’ah, where the institution does not charge interest on money taken out by a borrower. BoU will issue regulations that will guide commercial banks on how to manage Islamic Banking.

“Under Islamic Banking, both depositors and borrowers enter into a sort of partnership with the commercial bank whereby the bank invests depositors’ money to share in the profits and borrowers similarly share in profits and losses with the bank,” Ms Christine Alupo, the director communications at BoU, told Daily Monitor.
According to the Ernst and Young’s World Islamic Banking Competitiveness Report 2014-15, globally assets held under Islamic Banking are about $800b (Shs2.7 trillion).

According to the report, Bahrain, Kuwait, United Arab Emirates, Malaysia, Saudi Arabia, Pakistan, Turkey, Qatar and Indonesia are the countries holding the bulk of the assets for Islamic Banking.
Kenya, the only other country, in East Africa, with Islamic Banking, amended its laws in 2010.
They have two dedicated banks that offer strictly Islamic Banking products and six conventional banks that offer both Islamic Banking and non-Islamic Banking products.

“It would be prudent for Uganda to follow the lead set by Kenya, which issued its first licences in 2010 when it amended its Banking Act to open the industry further. In just a few years, Islamic Banking has grown to account for about 2 per cent of the market in Kenya where around one in 10 citizens is a Muslim,” said Mr Herman Kasekende, the managing director, Standard Chartered Bank Uganda.
He added that the bank will be required to set aside a separate pool of funds that can be accessed under the Islamic Banking model. He notes that there could also be the entry of banks that exclusively deal with Islamic Banking.

The amended law provides for at least three models that adhere to the Shariah; Equity financing, where the bank holds a stake in the business venture. Lease based financing, which includes the bank purchasing an asset that can be leased to a client until the lease period is over. The third is sale based financing.
“Any Ugandan can choose how they would want to bank. For Islamic Banking, you must be willing to bring yourself within the environment of Shariah law. In other words, you have to adhere to the set standards or else you pick the conventional model where interest is charged,” says Ms Cecelia Muhwezi, the head of regulatory compliance at Standard Chartered Bank.

Banking revolution
Notably, commercial banks will now also be able to appoint agents across the country without necessarily having to set-up brick and mortar structures. Agency Banking allows commercial banks to use an agent to take deposits on their behalf or also provide a mechanism for withdrawals – a model similar to that of mobile money. Kasekende described this move as one that will “revolutionise banking in Uganda because agency banking allows us to be everywhere.”
“Banking through retail agents appeals to policy makers and regulators because it has the potential to extend financial services to the unbanked and marginalised communities,” he added.

Several banks have struggled to set up shop across the country due to the expensive cost of operating branches. This has partly been used to explain the sudden rise in mobile money accounts and sluggish growth of bank accounts.
“The amendments to the Financial Institutions Act should serve the banking sector well as they create more avenues for the sector to offer more financial products to customers. The amendments also serve to broaden the scope of the banking sector as a whole and this is good for the industry’s financial inclusion efforts as it helps to address the challenge of access to formal financial services,” says Mr Denis Kawuma, the head marketing and corporate communication at UBA Uganda.

Main principle
Islamic Banking is banking or banking activity that is consistent with the principles of sharia (Islamic law).
One such principle is the stand against interest charged on money such as loans and provision for sharing of profits and losses.

BOU insight

Ms Christine Alupo, the director communications Bank of Uganda gives some insight on what is required for Islamic Banking as well as other products to be utilised.

Will all banks in Uganda provide this service and what will the process be for applications by commercial banks to carry out Islamic Banking?

Commercial banks that are currently operating in the Ugandan market will have to decide whether or not they want to undertake Islamic Banking. Those that wish to provide Islamic banking services will be assessed for preparedness because BoU has to satisfy itself on their internal readiness. The bank will then be free to have an Islamic Banking window where they will offer Islamic banking products without restriction. If a new bank wants to come into the Ugandan market to provide Islamic Banking services, they would have to apply under the current law.

What sort of provisions will be put in place to ensure that there is no risk to the financial system once Islamic Banking starts being operational in Uganda?

All financial products regardless of their characteristics must conform with the risk management guidelines developed by BoU, even though Islamic Banking products per se do not introduce any risk to the financial system.

What are the advantages of adding Islamic Banking to the banking sector in Uganda?

Islamic Banking will be a positive complement to conventional banking by expanding the range of products available to the public and enhancing competition in the sector. This would support the Bank’s objectives of promoting financial Inclusion and deepening the financial sector. The other important advantage is that Ugandans who currently cannot borrow due to strict observance of Shari’ah law which prevents the paying interest will now be able to borrow to fund their aspirations.