Download Islamic Insurance takaful

ISLAMIC INSURANCE: TAKAFUL
 A majority of Shari'a scholars find conventional insurance inadmissible in
the Islamic framework. They have several objections against conventional
insurance because it practices the Islamic prohibited maisir, gharar, and riba.
 Insurance is permissible in Islam when undertaken in the framework of
takaful or mutual guarantee and ta’awun or mutual cooperation.
 Takaful is a form of insurance that is based on the system of solidarity,
cooperation, mutuality and shared responsibility among participants who
have agreed to share defined losses to be paid out of defined assets.
 Takaful is Islamic insurance based on the principle of mutual assistance and
protection of assets and property. It implies an agreement among a group of
members, known as participants, who collectively agree to guarantee each
member against potential loss or damage. The nature of such potential loss or
damage is clearly defined in the agreement.
 Under the arrangement, any participant who suffers such loss is compensated
in the form of financial assistance from a common fund established for this
purpose.
 The fund is created with contributions from participants and invested in
Islamically acceptable avenues. When invested prudently and profitably, the
fund generates income and grows.
 Takaful is originally seen as a non-profit activity. However, there is no reason
why takaful cannot be undertaken as a commercial venture.
 From the way takaful is being practiced currently, one can observe and
distinguish several alternative models and financial structures depending
upon who promotes and manages the fund and what constitutes income for
various parties involved in the process. These are discussed below.
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Tabarru'-Based Takaful
 Originally used in Sudan, the first financial structure or model of takaful
assumes a non-profit nature of takaful business. It is also called the tabarru'
model of takaful.
 Under this model, there are no returns for the promoters, and for the
policyholders.
 The initial contribution to organize the venture may come from the promoters
as qard-hasan.
 Participants make donation or tabarru' to the takaful fund, which is used to
extend financial assistance to any member in the manner defined in the
agreement.
 Temporary shortfalls are also met through qard hasan loans from promoters.
 In this arrangement, policyholders are the managers of the fund and the ones
with ultimate control.
 It may be noted that such an arrangement is closer to the ideal as compared to
profit-oriented takaful business.
 However, this also precludes large-scale expansion of takaful business. In
practice, such model can be seen in operation in social and governmentowned enterprises and programs operated on a non-profit basis. The
programs utilize a contribution that is 100% tabarru' or donation from
participants who willingly give to the less fortunate members of their
community.
Mudharaba-Based Takaful
 In this model, a clear distinction is made between the business of takaful or
insurance and the business of investing funds mobilized from policyholders
and/or the shareholders.
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 The takaful operator seeks no returns from managing the takaful business in
line with the spirit of takaful. However, it seeks returns from the business of
investing the takaful funds under a mudharaba agreement with the
policyholders for managing their funds.
 The policyholders assume the role of fund provider or rabb-ul-mal.
 As a mudharib, the takaful company receives its share of profits generated on
investments
 The major steps in this arrangement
1. Policyholders pay premium that is credited to a policyholders’ fund.
2. The takaful operator company’s shareholders contribute to a fund
called shareholder’s fund that is distinct from the policyholders’ fund.
3. The takaful operator invests the policyholders’ fund in Shari'a
compatible assets and investments in its capacity as mudharib.
4. Profits generated from investing the policyholders’ fund are shared
between the policyholders (rabb-ul-mal) and the operator (mudharib)
in an agreed ratio. The policyholders’ fund and the shareholders’ fund
are credited with their respective profit shares from investments.
Losses, if any, are charged to the policyholders’ fund.
5. In line with the rules of mudharaba, operational expenses relating to
the investments are charged to the mudharib, the takaful operator
company, and hence to the shareholders’ fund. The expenses charged
are the general and administrative expenses of the investment
department only, as distinct from general and administrative expenses
for the entire business.
6. General and administrative expenses in managing the operations other
than relating to investments are charged to the shareholders’ fund.
7. Takaful benefits are paid to beneficiaries as and when valid claims are
made depending upon occurrence of actual losses and damages.
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8. At periodic intervals, the net insurance or takaful surplus, which is the
difference between premium received and claims paid is computed;
policyholders receive full refund of insurance surplus if any; and are
required to make additional payment of deficit if any.
 Thus, the above arrangement ensures that the business of takaful remains a
non-profit one. The policyholders in a collective capacity receive what they
pay for. There are no profits to be made due to overpricing of the takaful
product. Profits are made out of investments only. Return for the takaful
company comprises the profit share as mudharib.
Wakala-Based Takaful
 In the wakala-based model, the takaful operator acts as the wakeel or agent
of the policyholders. As such, it is entitled to a known remuneration. It incurs
all the operational expenses on behalf of its principal.
 The distinct features of this model are:
1. Policyholders pay premium that is credited to a policyholders’ fund.
2. The takaful operator company assumes the role of an agent or wakeel
of the policyholders; its shareholders contribute to a fund called
shareholder’s fund that is maintained separately from the
policyholders’ fund.
3. The takaful operator invests the policyholders’ fund in Shari'a
compatible assets and investments in its capacity as agent or wakeel.
Profits generated from investing add to the policyholders’ fund.
4. All operational general and administrative expenses are charged to the
policyholders’ fund, since the takaful operator incurs the expenditure
on behalf of the policyholders in its capacity as agent or wakeel.
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5. The takaful operator receives a known remuneration that may be an
absolute amount or a percentage of the gross premium received.
6. Takaful benefits are paid to beneficiaries as and when valid claims are
made depending upon occurrence of actual losses and damages.
7. At periodic intervals, the insurance or takaful surplus, which is the
difference between premium received and claims paid, is computed;
policyholders receive full refund of insurance surplus if any; and are
required to make additional payment of deficit if any.
Major differences between conventional and Islamic insurance
 The major points of difference between conventional and Islamic insurance
may be summarized as under:
1. Conventional insurance is based on profit-motive and aims to
maximize returns to shareholders. The business of insurance is, in
essence, “owned” by shareholders of the insurer company.
Islamic insurance, on the other hand, is based on the motive of
community welfare and protection. The business of insurance itself is
non-profit. The insurer is now called the takaful operator who receives
a fair compensation, either through a share in returns on investment of
funds or through agency fees. The business of insurance is, in essence,
“owned” by policyholders and the operator company acts as the agent
manager.
2. In case of conventional insurance, insurer’s profits include
underwriting surplus, which is the difference between total premiums
received from and total claims and benefits paid to policyholders.
Essentially, profit comprises underwriting surplus plus investment
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income. The distribution of profits or surplus is a managerial decision
taken by the management of the insurer. As a result there is a conflict
of interest between shareholders of the insurer company and the
policyholders.
In case of Islamic insurance, on the other hand, the operator has no
claims in underwriting surplus. Further, it is the takaful contract, not
the management of the operator company that specifies in advance
how and when profit will be distributed. There is little room for
conflict between interests of shareholders of the operator company and
the policyholders.
3. In conventional insurance the investment of premiums is entirely at the
discretion of the insurer with no involvement by policyholders. As
such, investment usually involves prohibited elements of riba and
maisir.
In Islamic insurance, on the other hand, the takaful contract specifies
how and where the premiums would be invested. By definition such
investment would exclude prohibited areas.
4. In case of dissolution of the conventional insurance, reserves and
excess/surplus belong to the shareholders.
In case of dissolution of the Islamic insurance, however, reserves and
excess/surplus could be returned to participants, or donated to charity.
Most scholars would prefer the latter course of action.
5. The Islamic insurance company has an additional obligation of annual
payment of Zakat.
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