Takaful business is still at its introductory stage whereby there were 60 Takaful operators (including under windows) worldwide (in 23 countries). There is a huge potential which must be explored by Muslims to take the advantage of this opportunity. A lot of effort, studies, compromises to be endured and must be undertaken to promote more Muslim participations in Takaful services. Business Model e.g. Sales agency model which can result in quantum-leap growth should be explored by scholars and put into practical applications to cover the needs of various levels of society.
Over time, greater understanding on the concept of Islamic insurance has emerged as the concept of Takaful, based on the contract of Tabarru’ (donation) and Mudharabah (profit sharing).
Islamic scholars has began to agree on the viewpoint that Takaful is compliant to Shariah principles, with various Shariah councils and Islamic Conferences endorsing the Islamic values in the operation of Takaful. Malaysia, for example, has embraced the concept of Takaful, and this was seen when the Takaful Act was introduced in 1984 to formulate best practices and operational models for Takaful. Countries like Indonesia and the UAE has started embracing Takaful while more conservative Islamic countries such as Pakistan will take time to embrace the concept of Takaful.
Main objections to conventional insurance
As the concept of insurance did not exist in the time of the prophet, many scholars are not in agreement whether insurance is permissible or prohibited in Islam. While pro-insurance scholars agree that insurance provides protection which is beneficial to the public, the Malaysian National Fatwa Council deemed insurance, especially life insurance, as a Fasid practice which is prohibited (Haram) as it contains elements of Gharar, Maisir and Riba’.
Takaful aims to resolve the following elements which exists in conventional insurance.
Gharar – Gharar is defined as “uncertainty” where the results are hidden or not known, and in an insurance contract, the uncertainty are as follows:
- Uncertainty in the outcome – The contract is deemed invalid as neither the insurer nor the insured knows the outcome of the contract
- Uncertainty in the existence – The contract is deemed as invalid as the insured do not know if there will be compensation as the outcome of the contract is not known
- Uncertainty in the Results of the exchange – The contract is deemed invalid as at the point the contract is made, the result of the exchange is still uncertain.
- Uncertainty in Contract Period – The contract is deemed invalid as the time frame of the contract is not known, especially in instances of life insurance.
Maisir – Maisir is defined as “gambling” where in the context of insurance, the benefit is derived on luck. If the mishap happened to the insured, the insurer loses while if no mishap occurs, it is the insured that loses.
Riba’ – Riba is explicitly prohibited in Islam. Generally, Riba is defined as “interest” or “late payment” which is above the agreed payable sum of two similar product i.e. gold against gold, silver against silver or, more appropriately in modern times, money against money.
Definition of Takaful
Takaful is a form of mutual assistance (Ta’awun) in furthering good virtues by helping others who are in need or in hardship. It can also be further explained as participants mutually contribute, as a donation, for the purpose of mutual indemnity to other participants in cases of peril or harm.
The AAOIFI definition is as follows:
“Islamic insurance is a system through which the participants donate part or all of their contributions which are used to pay claims for damages suffered by some of the participants.”
Origins of Takaful
The alternative to conventional insurance, Takaful, is based on the concept of Ta’awun meaning mutual assistance. This concept pre-dates the Islamic era when the rough model of Takaful was practiced by Arabic tribes, holding to the principle of pooled resources to help the needy on a voluntary and gratuitous basis. Among the examples of early Takaful were the merchant of Mecca pooling funds for victims of natural disasters and assistance extended to families of murder victims.
Origins of Bloodrite in Islam
Before the arrival of Islam, bloodrite has been common practice to revenge those who were killed. This is an early form of insurance by way of mutual protection with a group of people taking steps to cover the losses incurred due to the death of an individual in the tribe, either revenge by bloodletting or payment of “blood money”. This concept of compensation is known in its arabic term as “maaqil” and affirmed by the Prophet (PBUH).
Originally, bloodrite has no commercial value or transaction involved, but has over time evolved into a social institution to mitigate the burden of its members. However, in the conventional term, insurance has evolved into a capitalist-based commercial enterprise where losses were projected and allocated for.
The concept of Takaful has also been incorporated in its earliest form in the constitution of Medinah by the Prophet (PBUH) where social insurance by the Jews, Christians and Ansars were introduced, the responsibility imposed among the immigrants for their word, and the provision for ransom for the rescue of life of a prisoner.
Takaful Referenced with the Quran and Sunnah
The word “Takaful” does not appear in the Quran but conceptually has origins from the word “Ta’awun” which means mutual assistance. The prophet also clarified that some of the virtuous pre-Islamic practices are Islamic and can be adopted on the basis of “assisting one another”.
The Prophet also highlighted in one of his sunnah that although the life of a muslim is pre-determined and asked to accept misfortunes as destiny, he/she should not be a passive victim of circumstances. Muslims are asked to take all precaution to guard oneself from misfortune, and one of the ways to mitigate this is by way of Takaful.
The concept of Takaful
The principles of guarantee, derived from the word “Kafala”, is the basis of Islamic insurance i.e. Takaful. Takaful means that the majority guarantees the loss of the minority i.e. the majority shares the burden of the unfortunate minority via the pooling of funds. This form of co-operative insurance is already in existence in several countries, permissible by Shariah.
Furthermore, this principle is further enhanced to incorporate the concept of “Tabarru’” meaning donation, which explicitly mentions that the money collected is to be used for the purpose of assisting “fellow participants who require assistance according to the terms agreed as long as these terms are not in conflict with the Shariah”. Taking into account these basic Takaful concepts, practitioners have taken the step further to expand the model into a more commercially viable model of Takaful.
This model of Islamic Insurance follows closely the concept of cooperative insurance, where a group of subscribers contribute to a pool of funds.Whenever one of the members makes a legitimate claim, they draw money out of the pool. In the meantime, the funds in the pool are invested in an Islamic manner and without exposing the policy holders to any extra significant risk. Unclaimed profit are then distributed among the policy holders.
Controversies and Refutation in Takaful
Prominent writer, Prof Dr Mohd Ma’sum Billah, in his writing on ulama acceptance to the concept of Takaful, has categorised ulamas broadly into three categories in respect of their stand on the validity of insurance:
- Those that rejects insurance entirely;
- Those that accepts general insurance but rejects life insurance; and
- Those that accept insurance so long as they are in conformity with Shariah.
Some of the misconception invalidating insurance from the Islamic viewpoint are as follows:
- Insurance contains the element of riba whereby amounts are added to the premium contributed
- There is an element of betting involved i.e. the participants hopes for material gain from his contribution
- There are elements of uncertainties or Gharar
- There are elements of gambling (Maisir)
- There is no justification for insurance from the Quran or Sunnah
- Insurance is contrary to Tawakkul i.e. putting one’s trust in others instead of Allah (S.W.T.)
- There are claims that life insurance means to ensure one’s life against death
- There are some contradiction to the concept of Wasiyah (bequest) and Mirath (inheritance)
In support of the above arguments, some verses from the Quran and the Sunnah were quoted.
For instance, in the case of Riba [‘…Allah (S.W.T.) has permitted trade and prohibited Riba’……”] and in the case of uncertainties (Gharar) [“…The Holy Prophet (S.A.W.) had prohibited transaction with Gharar”]. Similarly with respect to the argument that insurance does not derive from divine principles the following verse has been put forth [“If anyone desires a system other than Islam never will it accepted from him”].
Prof Dr Ma’sum Billah has however put forth his case that Islam does not prohibit insurance. In support of his ideas, he has offered the following for the readers consumption:
- The Islamic insurance does not contain Riba but is based on the concept of al-Mudharabah which basically means profit sharing
- Life insurance is not meant to determinate one’s life expectancy, or to promote the idea that participants are protecting his/her life, rather the participants and the insurance operator work hand in hand to provide for unexpected calamities, which is allowed in Islam.
- There is no element of gambling (Maisir) in insurance. In gambling, the gambler hopes to gain materially at the expense of other co-gamblers whereas in insurance co-operation is emphasized for the benefits of all parties involved.
- There are no uncertainties or Gharar in insurance as the insurance contract is definite and certain.
- In response to claims that there is no divine justification for insurance per se, the author has pointed out provisions in the Quran as well as Sunnah on the concept of co-operation and concept of Al-Mudharabah financing
- The insurance scheme does not contravene the concept of Tawakkul (submission to God). It merely expound that man is to endeavour before submitting to God.
The case for Takaful insurance is about providing a viable solution for the mutual protection. Prof Dr Ma’sum Billah offered the arguments that Takaful concepts are well supported by Quranic verses or Sunnah wherever applicable. For instance, in support of his argument that Islam allows Takaful (which means shared responsibility or shared guarantee) operators and participants to work hand in hand to provide for unexpected calamities, the author quoted the Prophet’s hadith
‘…Narrated by Abu Hurarira r.a.h. the Holy Prophet (S.A.W.) said: Whosoever removes a wordly grief from a mu’min’, Allah (S.W.T.) will take away from him one of the grieves of the hereafter. Whosoever alleviates a needy person, Allah(S.W.T) will alleviate from him both the world and the hereafter…..”
Similarly, to shed light on the concept of Tawakkul, the Prophet’s hadith was quoted i.e.
“…The Holy Prophet (S.A.W.) told a Bedouin Arab who left his camel untied, trusting to the will of Allah (S.W.T.), “tie the camel first then leave it to the will of Allah (S.W.T)….
Prof Dr Ma’sum Billah further augmented his arguments on the validity of Islamic insurance by pointing out that the foundation of Islamic insurance is derived from the Arab custom (“urf”) of Al-Aqila. So long as the urf does not contravene any provisions in the Quran or Sunnah, the urf is permissible.
Islamic Insurance is also based amongst others on the doctrine of Masalih al-Mursalah or public interest. The primary purpose is to lessen the burden of members of the community caused by the occurrence of certain loss or damage. The Holy Prophet (S.A.W.) said
“Narrated by Saad bin Abi Waqas r.a.h. The Holy Prophet said: It is better for you to leave your offspring wealthy than to leave them poor asking others for help….”
The basic notion of Takaful is to provide an avenue to share responsibility, solidarity and mutual cooperation to safeguards participants against a defined risk. Based on this, Shariah ruling that came to support the concept of Takaful placed the following conditions which must be adhered to:
- Takaful doesn’t protect, but ensures financial security.
- The concept of shared responsibility, mutual cooperation and solidarity makes it more significant compared to conventional insurance
- Takaful transaction is free from element of uncertainty, unjust enrichment, riba, all of which makes Takaful invalid.
Concepts of beneficiaries in Takaful
Beneficiary in a policy is usually determined on the test of whether the person has an insurable interest on the subject matter. This is determined under the following principles:
- Al Milkiyah (ownership)
- Al Mirath (inheritance) and
- Al Wasiyah (bequest)
Under Takaful, the benefits of the policy are the sole ownership (Al Milkiyah) of the policyholder while he/she is alive, except in instances of waqaf (charitable trust). Under waqaf, the property becomes the ownership of Allah and no longer belongs to an individual.
After death, the principle of sole ownership remains true but the benefits of the policyholder is moved to the beneficiaries of the properties left by the policyholder, as follows:
- the total benefits are calculated together with other wealth held by the policyholder
- the total wealth is used to pay off any outstanding debts by the policyholder as debts to other individuals is considered as “debt to creatures”, which needs to be settled immediately
- the surplus is to be used to pay off any funeral expenses, which should be separated from the distributable surplus
With the distributable surplus, the distribution will be made according to the principles of bequest (Al Wasiyah) and inheritance (Al Mirath) respectively.
- Al Wasiyah
Of the surplus properties, only up to 1/3 of the surplus can given away via a “will”. This is to reduce the possibility of injustice where the policyholder, while is the full owner of the benefits of the policy when alive, may choose to “will away” the whole surplus properties to third parties or in favour of certain heirs and not in favour of the policyholders rightful heirs. Therefore, under Islamic law, only 1/3 can be given away as per policyholder’s bequest.
- Al Mirath
After deduction for payment of debt, funeral expenses and execution of the policyholder’s will, the remaining property is to be distributed to the living heirs according to Islamic law, based on the pre-determined share, guided by the provisions in the Quran.
Features Comparison between Takaful and Conventional Insurance
In general, a conventional insurance operates on a bilateral arrangement, where there are gharar element where the premium collected is used to qualify the payout in the event of death (where death itself is uncertain). However, for a Takaful contract, based on the contract of Tabarru’ (donation), it becomes a unilateral arrangement where some degree of uncertainty is tolerated.
Ta’awuni Model (Co-operative Insurance)
- Originating from Sudan and Saudi Arabia, this model emphasises cooperation where donors contribute to the fund, which is used to generate profits (in net surplus situations after deduction of claims). The profits will be shared accordingly between the operators and the contributor
- However, the profit to be distributed does not include deduction of expenses (such as staff costs, establishment and administrative expenses) which means the profit distributed to customers are actually “gross profits”. The expenses will instead be deducted from the operators share of profit, which means the returns to the operators is the net profit, after deduction of expenses.
Wakalah Model (Agency)
Wakalah is the contract of agency where the company appoints representative, either full-time or part-time, to sell the Takaful product. The model operates as follows:
- The agent is responsible to identify potential participants and disseminate information regarding the product concept and policy to avoid misconceptions. The agent can also collect the contribution on behalf of the company. The major difference between a conventional insurance agency and a Takaful agency is that in a conventional agency, the agent is only entitled to commissions whereas a Takaful agency views its agents as employees of the company, thus entitled to a salary.
- In this model, the expenses such as agent’s salary will be deducted upfront from the Takaful pool of funds. The net funds (underwriting surplus) will be used for investments and the profits will be distributed accordingly. This model is applicable for both general Takaful and family Takaful (with minor variation).
Tijari Model (Business)
- Commonly used in Malaysia, this model uses both the Pure Mudharabah and Modified Mudharabah approach.
- The family Takaful portion of the business uses the Pure Mudharabah approach where the participants are entitled to 100% of the surplus as no operational expenses are deducted i,e, participants enjoy the gross surplus of the funds.
- As for the general Takaful, the Modified Mudharabah approach is used where deduction of expenses in taken into consideration, which will result in a more expensive premium contribution from participants as to cover operational expenses.
Operational Flow of a Takaful product (inclusive distribution, rewards and expenses)
General Structure of Takaful Company
A Takaful General Manager oversees 4 major departments i.e. Family Takaful, General Takaful, Finance & Administration, and Marketing Division.
Life Takaful Division (Family Takaful)
Consist of two classes i.e. individual Takaful and group Takaful. Individual Takaful protects the individual participants while a group Takaful protects an individual and also his/her family or other groups from a defined risk. The contribution paid will be divided into 2 distinct account with principles of Mudharabah in one and Tabarru’ in the other.
General Takaful Division
The operation of the contributions is managed by 3 different functions, defined as underwriting, claim and re-Takaful. The various underwriting plans are grouped into several main classes i.e. fire Takaful, motor Takaful, miscellaneous or accident Takaful, and equipment all-risk Takaful
Finance & Administration Division
The finance division is divided into 2 key parts i.e. “Investment” and “Account”. For “Investment”, the division is responsible to invest the contribution paid by participants to earn profits, which will be distributed to participants based on the Mudharabah principle. For “Account”, the division manages the different accounts in the company’s book such as Participant’s Account (PA) based on the Mudharabah principle and the Participants’ Special Account (PSA) based on the Tabarru’ concept.
The Administration division caters for other functions in the company such as employees, business transactions and other matters, including reporting and recording. Key factor in this division is trust (amanah) and well trained people
The company’s marketing division is responsible in planning the promotion of Takaful products and services, either using agency or corporate promotion.
The claims procedures falls under two categories which are payable or not payable, and quantum. To determine whether a claim is payable, the following are considered: whether the policy is enforced (expired or not); whether the risk is covered; whether there is a warranty or limitations based on regulations and; whether there is excess. To determine the quantum and avoid excess in claims, the company considers whether the cover is adequate and whether it meets all other conditions, such as self-insurance conditions.
Various companies use various accounting treatment such as cash-basis, actual realised profit and accrual-basis. Although not widely acceptable, the accrual-basis method is used by Takaful Nasional in Malaysia based on estimates on the quantum of cover.
Use of Marketing Executives in Agency
One of the main issues facing the “agency” model is that the belief that the salary of the agents should not be deducted from the participant’s pool of funds. However, the Tijari model recognises that the agents have completed their task on behalf of the company and a sum is allocated to the agents. To resolve this, the agents are termed as Marketing Executives where their roles and responsibilities are the same as an agent.
Recent developments in Takaful products
Hybrid model is the combination of both Wakala and Mudaraba models.
In this model, the participants and the fund operator sign two contracts, i.e. Wakala and Mudharabah.
Mechanisms of the Hybrid model:
- The Participants enter into Wakala and Mudharabah contracts with the Takaful Operator. As per the Wakalah contract, the Participants are the Principal and the Takaful Operator is the Agent for execution and investment depending on the mandate. And as per the second contract ie Mudharabah, the Participants are the Rab-al-Maal (Fund Provider) and the Takaful Operator is the Mudarib (Manager).
- The Participants entrust their monies to the Takaful Operator as contribution into Takaful fund under the contract of Tabarru (donation). Instead of paying “premiums” in a conventional insurance structure, the Participants are providing “contributions” taken as donations into the pool of funds.
- Depending on structure or specific feature (as outlined in the investment deeds of each Takaful package), the contributions of the Participants will be allocated according to different lines of business.
- The Takaful Operator manages the money contributed by the Participants in Takaful Fund and maintains two separate accounts, namely Participant’s Account (PA) and Participant’s Special Account (PSA).
- The Participant’s Account (PA). – Mudharabah
- The amount of allocated contribution received from Participants are deposited into the PA and invested into Shariah-compliant business. The intention of this investment is to generate as much returns as possible for the account.
- Under the Mudaraba contract, the Takaful Operator is entitled to a share of profit realised from the PA invested in any Shariah-compliant business, for a percentage share of profits agreed.
- The profit or loss realized (i.e. Profit- Operational Expenses) from the amount invested in Shariah-compliant business is transferred to P&L account for distribution to Participants. This realised profit or loss can either be cash or accrual returns/losses.
- The Net Profit is shared between the Participants and the Takaful Operator based on the upfront/agreed ratio mentioned earlier. This sharing can be in the form of partial cash payout to Participants, or re-investment into the PA for purpose of generating further profit.
- In event of losses, the PA will bear the loss of capital and Takaful Operator is not required to compensate for the losses. The losses is therefore borne by the Participants in the PA.
- The Participant’s Special Account (PSA) – Wakalah
- The amount received into PSA account is taken as “donation” i.e. Tabarru’. The Takaful Operator will be appointed as an Agent i.e. Wakil under the contract of Wakalah for the purpose of managing the pool for capital preservation and any low-risk investments.
- Under Wakalah contract, the Takaful Operator is entitled to a predetermined Wakala fee which is deducted from the contribution paid by the Participants allocated to the PSA. This amount is fixed and has no bearing on the returns on the PSA funds utilisation (therefore the Agent is entitled to this fee regardless if there is any returns on the PSA or otherwise).
- The Participants “insured losses” arising from the hardship experienced by the Participant, if any, can be claimed by the Participants from the amount in PSA and the amount remaining in PSA after paying the claims made by the participants is transferred to Reserves account.
- The Net Reserves from PSA (i.e. Reserves- Operational Expenses) will remain in the PSA as tabarru’. Further, it is the responsibility of the Takaful Operator to distribute the Net Reserves to the Participants as per their contributions for any claims.
- It is to be noted that losses, if any, is completely borne by the Participants.
- Additionally, the fund operator does not share the Reserve amounts of the part of the contributions that remain after paying the claims. The only returns for the Takaful Operator earns is the fixed Wakalah fee.
- Overall mechanics – The Hybrid Structure aims to maximise the best of both Wakalah and Mudharabah, where Participants are able to enjoy profit sharing as well as preservation of their contributions in the overall “Tabarru” fund.