PIDM’s Differential Levy System to Encourage Sound Risk Management Among Malaysian Insurers
The framework for the differential levy system has been much awaited by the insurance industry and will be implemented by Perbadanan Insurans Deposit Malaysia (PIDM) starting from 2013. The new framework, replacing the flat rate levy system, is seen as mo
Rafiz Azuan Abdullah writes about the much awaited framework for the differential levy system by the insurance industry that will be implemented by Perbadanan Insurans Deposit Malaysia (PIDM) starting from 2013. Find out what this new framework is all about.
PIDM is the Government agency established under Akta Perbadanan Insurans Deposit Malaysia to administer the national Deposit Insurance System (DIS) and the Takaful and Insurance Benefits Protection System (TIPS). Our statutory mandate requires us to contribute to the stability of the Malaysian financial system by administering these two financial consumer protection systems, as well as promoting sound risk management among our member institutions. The administration of these protection systems is funded by premiums paid by PIDM member institutions, which comprise commercial and Islamic banks, takaful operators and insurance companies. PIDM is also the resolution authority that has wide powers to intervene early and resolve troubled member institutions. Through the establishment of differential premium systems for its members, PIDM strives to reduce risks to the financial system by providing incentives for sound risk management among our member institutions. It also introduces the element of fairness so that institutions with lower risk profiles need not bear the same premiums or levies as those with higher risk profiles. The implementation of the Differential Premium System (DPS) for DIS in 2008 has seen notable improvements in operational and risk management capabilities among member banks, and we expect that over time, the introduction of the Differential Levy System (DLS) for TIPS will further enhance the risk profiles of our insurer members. Similar to the DPS, the DLS is designed to differentiate insurer members according to their risk profiles which will
result in differential levy rates. Regulations for the DLS come into operation this year for conventional insurer members, as provided for under the PIDM Act 2011 (section 77) which gives PIDM the authority to determine premiums by establishing a system with the relevant criteria to classify them into different categories. Insurer members will have to improve the overall aspects of their businesses in order to achieve the best rated category and be subjected to the lowest levy rate. As a result, insurer members will have greater incentives to enhance their risk management practices, which is in line with PIDM’s statutory mandate.
Malaysian Insurance Landscape and DLS Development
The design and development of the DLS presented PIDM with a number of challenges. Unlike insurance guarantee schemes in other jurisdictions, TIPS not only provides protection to conventional insurance policy owners, but also takaful certificate owners. Further, our insurer members may be licensed to carry general, life, or a composite business comprising both general and life insurance within a single entity. In addressing the challenges faced in the development of our DLS, PIDM engaged local insurance industry experts who contributed both regulatory and private sector perspectives to work with us. With their collaboration and valuable feedback, we developed a methodology that incorporated workable quantitative and qualitative measures that are not only fair for insurer members but also meet the objectives of the system.
The DLS assessment methodology uses a combination of quantitative and qualitative criteria, similar to the approach adopted in the DPS for the DIS. This methodology is more effective and comprehensive than an approach that emphasises either quantitative or qualitative criteria. Our combined approach aims to ensure a DLS framework that is not only objective and transparent but also forwardlooking. As such, a larger weightage of 60% is assigned to the quantitative criteria while the remaining weightage of 40% is applied for the qualitative criteria. The DLS framework introduces a unique twodimensional approach in the assessment of quantitative criteria, termed as the “matrix
PIDM’s statutory mandate requires us to
contribute to the stability of the Malaysian financial system … as well as promoting sound risk management among
our member institutions. approach.” One of the dimensions is the measure of capital strength and the other comprises operational performance and business sustainability of insurer members. The assessment of the operational performance and business sustainability include measures of business growth, business stability, operational efficiency and profitability. The matrix denotes two levels of importance guided by the level of the capital measure, where those scoring below a determined point would need to strengthen capital buffers; while scoring above this point would require better management of operational performance and business sustainability. On the other hand, the qualitative criteria comprise the supervisory rating of insurer members and any other material information that would have implications on the well-being of the insurer members. The advantage of a qualitative approach is that it can provide important information on the current and future risk profiles of insurer members, which may not be captured by quantitative factors alone. The combination of the quantitative matrix and the qualitative score results in the ultimate score of an insurer member, denoted as the ‘DLS Score’. In the case of a composite insurer member, the total quantitative scores for its general and life insurance businesses will be apportioned using the net premiums of the respective businesses to derive its quantitative score. The DLS score will then translate into a levy category for the insurer member, which determines the levy rate for the computation of the amount payable to PIDM for the corresponding assessment year. Insurer members will be classified into four categories based on their DLS Score with category 1 representing the best category and category 4 being the worst. A DLS rate is prescribed in relation to each category according to different types of insurance businesses, either life or general insurance business.
Impact on Insurer Members
Insurance companies and takaful operators have been in favour of a DLS concept since the implementation of TIPS in 2011 as it provides greater fairness than a flat rate levy system. The introduction of the differential system is also timely given the stability of the industry’s operating and supervisory environment. The key benefits of the DLS framework lie in its objectivity and transparency and insurer members will know which areas they must focus on to achieve a higher score and improve their overall risk. We are confident that the DLS will result in greater levels of improvement in risk management practices, ultimately contributing to enhancing the stability of the financial system.
The DLS framework for TIPS is currently applicable only to conventional insurer members, whilst a framework for takaful operators is being designed to cater to new developments in the takaful operational landscape, especially with the implementation of the Risk-Based Capital for Takaful Operators by Bank Negara Malaysia.
DLS Framework Methodology and Criteria