Islamic Finance
Chapter Six: Takaful (Islamic Insurance)
McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.
What Is Takaful?
• Answer
• Takaful means ‘guaranteeing each other’
and is based on the principles of Ta‘awun
(mutual co-operation) and Tabarru
(donation), where a group of Takaful
participants (policyholders) agree between
themselves to share the risk of a potential
loss to any of them, by making a donation of
all or part of their Takaful contribution
(premium) to compensate for a loss.
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What Is Takaful?
• In conventional insurance the risk is
transferred from the policyholder to the
insurance company which brings the
elements of uncertainty and chance in the
contract as one of the two parties makes a
loss. Takaful is a structure in which the risk
is shared between all participants,
removing the elements of uncertainty and
gambling from the contract.
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How Does Takaful Work?
• Answer
• The participants of Takaful each pay a
Takaful contribution, based on their
individual risk and the likelihood of making
a claim, to create a Takaful fund. The
nature of the risk covered and the period of
cover are specified in the Takaful contract
(insurance policy).
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Takaful fund
• The Takaful fund is invested strictly in Halal
activities under non-interest-bearing conditions in
order to maximise the fund value in a Sharia’a-
compliant manner.
• If it is ascertained that the Takaful fund is over-
funded; the amount by which the Takaful fund is
over-funded will be distributed to eligible Takaful
participants by way of a participation discount (in
addition to any No Claim Discount) from
participants of next year’s Takaful contribution.
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Is the Concept of Insurance Haram in Islam?
• Answer
• The concept of insurance is not haram in
Islam when undertaken in the framework of
Takaful or mutual co-operation and
solidarity. Contrary to conventional
insurance, Takaful does not contain non-
permissible elements such as gharar
(uncertainty), gambling and investing in
interest-bearing instruments.
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Why Is Conventional Insurance Considered Haram
for Muslims?
• Answer
• Conventional insurance is based on a
contract of exchange (sale) between the
insurance company and the insured
person. This contract is void because it has
one or all of the following elements, which
are not permissible from a Sharia’a
perspective:
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Conventional Insurance voidance
• Gharar (uncertainties): Conventional insurance has an
element of gharar due to the promise to pay a sum of
money upon the occurrence of unexpected events.
• Maisir (gambling): Existence of gharar (uncertainties)
leads to Maisir (gambling) in conventional insurance. The
insured may either lose all the premiums he has paid or
be compensated for the losses he incurs for the insured
event.
• Riba (usury/interest): The investments of insurance funds
in interest-bearing securities such as bonds and stocks
which do not comply with Sharia’a principles poses a
major problem for Muslims who purchase conventional
insurance.
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What are the main principles of Takaful?
The principles of Takaful are as follows:
• Policyholders cooperate among themselves for their
common good.
• Every policyholder pays his subscription to help those that
need assistance.
• Losses are divided and liabilities spread according to a
community pooling system.
• Uncertainty is eliminated in respect of subscription and
compensation.
• No members derive an advantage at the cost of others.
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What Are the Differences between Takaful and
Conventional Insurance?
• Answer
• The major differences can be summarised as below:
•
Takaful Conventional insurance
Contract The contract among This is a contract of exchange,
participants of the Takaful that is, a sale and purchase
fund is the contract of agreement between the insurer
Tabarru (donation, gift) (the company) and the insured
and therefore is about co- upon which the insured buys and
operation and mutual the insurer sells the policy.
help amongst them.
Takaful contracts are very
transparent.
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What Are the Differences between Takaful and
Conventional Insurance?
Takaful Conventional insurance
Responsibility Participants are responsible Non-Takaful companies, other
for providing for protecting each other than mutual companies,
protection through Tabarru (donation, provide protection in return for
gift). The Takaful operator premiums. Policyholders have
only manages the Takaful no relationship amongst
operations on behalf of themselves though they
participants. contribute to the same
insurance fund.
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What Are the Differences between Takaful and
Conventional Insurance?
Takaful Conventional
insurance
Surplus The Takaful surplus Any surplus belongs to
belongs to the the insurer.
participants. A portion of
the surplus is to be
distributed back to the
participants.
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What Are the Differences between Takaful and
Conventional Insurance?
Takaful Conventional
insurance
Liability of the insurer/ The Takaful operator, The insurer is
operator acting on behalf of the responsible for paying
participants, pays claims claims from its assets
from the Takaful fund (insurance funds and
shareholders’ fund)
Investment All funds are invested in Funds received may be
Sharia’a-compliant invested in both Sharia’a
investments and non-Sharia’a
investments
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How Does the Mudaraba Takaful Model Work?
• Answer
This is a PLS model. The participant and the
Takaful insurer share the surplus. The sharing of
such profit (surplus) differs on the basis of a ratio
mutually agreed upon between the contracting
parties. Generally, these risk-sharing
arrangements allow the Takaful insurer to share in
the underwriting results from operations, as well as
any favourable performance returns on invested
premiums.
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How Does the Wakala Takaful Model Work?
• Answer
• This is a fee-based model. Co-operative
risk-sharing occurs among participants
where a Takaful insurer simply earns a fee
for services (as a Wakeel, or ‘Agent’) and
does not participate or share in any
underwriting outcomes. The insurer’s fee
may include a fund management fee and a
performance incentive fee.
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How Does the Waqf Takaful Model Work?
• Answer
• Unlike the Mudaraba and Wakala models, Waqf
operates as a social/governmental enterprise,
and programmes are operated on a non-profit
basis. Under the Waqf model, any surplus or
profit is not owned directly by either the insurer or
the participants, and there is no mechanism to
distribute any surplus funds. In effect, the insurer
retains the surplus funds to support the
participant community.
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What Are the Two Separate Funds in Takaful?
• Answer
• Firstly, there is a Takaful (or policyholders’) fund and
secondly, there is an operator’s (or shareholders’) fund.
The Takaful fund operates under pure co-operative
principles in a way similar to conventional mutual
insurance entities. Underwriting deficits and surpluses are
accrued over time within this fund, to which the operator
has no direct recourse.
• As a result, the Takaful fund is effectively ring-fenced and
protected from the default of the operator’s fund.
Management expenses and seed capital are borne by the
operator’s fund, where the main income takes the form of
either a predefined management fee (to cover costs) or a
share of investment returns and underwriting results (or a
combination of both).
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What Is Family Takaful?
• Answer
• Family Takaful provides members with protection
and long-term savings. Members, or their
beneficiaries, will be provided with financial
benefits if they suffer a tragedy. At the same time,
they will enjoy long-term personal savings
because part of their contribution will be
deposited in an account for the purpose of
savings. Members will be able to enjoy
investment returns from the savings portion
based on a pre-agreed ratio.
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How Does Family Takaful Work?
• Answer
• When members participate in family Takaful, they will
contribute a certain amount of money to a Takaful fund.
They will undertake a contract (aqd) for part of their
contribution to be in the form of a participative contribution
(Tabarru’) and the other part for savings and investment.
• The contribution in the form of Tabarru’ will be placed in a
fund (participants’ special account [PSA]) that will be used
to fulfil any obligation of mutual help, should any of the
participants face misfortune arising from death or
permanent disability.
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How Does Family Takaful Work?
• If members survive until the date of maturity of the plan,
they will be entitled to share the net surplus from the fund.
• The Takaful operator will invest the savings and
investment contribution (participant’s account [PA]), and
the profit will be shared between the member and the
Takaful operator according to a pre-agreed ratio.
• The Takaful operator will invest the savings and
investment contribution (participant’s account [PA]), and
the profit will be shared between the member and the
Takaful operator according to a pre-agreed ratio.
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What is General Takaful?
• Answer
• This is to cover everyday risks including the
following:
• Motor insurance Cars, motorcycles, taxis,
commercial vehicles and vans, industrial and
agricultural vehicles.
• Building insurance Residential properties
including houses, flats and holiday homes,
commercial properties including offices, shops
and factories and community buildings including
mosques and schools.
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What is General Takaful?
• Contents insurance
Household contents, personal effects and
valuables.
• Business insurance
• Business premises – fire and theft, and so on.,
stock, equipment and materials, employer’s
liability, public liability, loss of revenue,
professional indemnity, import/export and the
transportation of goods.
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Takaful: Islamic Insurance
• ‘’Tie your camel first and then put your trust in Allah’’.
Hadith of prophet Muhammad
• This Hadith implies the need for Muslims to mitigate risk.
• Takaful emphasises unity and cooperation among
participants. The objective of Takaful is to pay a defined
loss from a defined fund. So Takaful is insurance
practised under Sharia’a principles.
• Takaful is not a new concept – it had been practised by
the Muhajirin of Mecca and the Ansar of Medina following
the Hijra of the Prophet over 1400 years ago.
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SHARIA’A LAW AS APPLIED BY TAKAFUL
OPERATORS
• 1- Principles of Contract
• An insurance policy binds the parties unilaterally by an
offer and an acceptance based on the principles of
contract. The fundamentals required in an insurance
policy are the parties to the contract, legal capacities of
the parties, offer and acceptance, consideration, subject
matter, insurable interest and good faith. These concepts
are found in most forms of contract law.
• Basis in Islam
• A contract is a promise by an offer and an acceptance,
which must be fulfilled as Allah has commanded to the
effect:
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SHARIA’A LAW AS APPLIED BY TAKAFUL
OPERATORS
• O ye who believe! Fulfil your obligations.
Surah al-Ma’idah, 5:1
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2-Principles of Liability
• An insurance policy covers losses arising from the death,
accident, disaster and other losses to human life, property
or business. The insurer (insurance company) undertakes
in the policy to compensate against the losses to the
agreed subject matter. Such undertaking is considered as
vicarious liability.
• Moreover, the rights and obligations in an insurance policy
mainly arise from the law of contract. For example, in the
case of a motor accident, the operator (insurance
company) is liable on behalf of the person who causes
that accident (the insured), to compensate the victim.
Here, the operator is bound by the terms stipulated in the
proposal to pay that compensation under the principles of
vicarious liability under the law of tort.
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3-Principle of Utmost Good Faith
• In an insurance contract, for the enforcement of the policy,
the parties involved in it should have good faith.
Therefore, nondisclosure of material facts, involvement of
a fraudulent act, misrepresentations or false statements
are all elements that could invalidate a policy of
insurance.
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4-Principles of Wakala (Agency)
• The appointment of the agent by the
insurer and the broker by the insured is of
utmost importance. In fact such
appointments are widely practised for the
purpose of making the transaction and
dealings between the insurer and the
insured more effective.
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5-Principles of Dhaman (Guarantee)
• In an insurance policy the insurer undertakes to provide
material security for the insured against unexpected future
loss, damage or risk. The idea of such a guarantee is
justified by the principles of Dhaman (guarantee) under
Islamic law, and in Islamic Fiqh, insurance can only be
classed under Dhaman. This is governed by some
essential Sharia’a conditions, including that the guarantor
can only take upon himself a liability that has fallen, or
may possibly fall, upon a person or property. Thus the
Dhaman or guarantee may only be payable to the victim
or, if the victim dies, to his legal heirs, according to their
respective shares in the inheritance.
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6-Principles of Mudaraba and Musharaka
• A Sharia’a-based insurance policy is a transaction wherein
both parties agree that the participant pays regular
contributions and the operator invests the accumulated
contributions in a lawful business. Both the insured and the
operator share the profits in an agreed portion.
• The insurance policy also operates on the basis of the
principle of Musharaka because both the operator and the
participants are partners in the policy run by the Takaful
operator.
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7-Principles of Rights and Obligations
• An insurance policy is based on the
principles of rights and obligations arising
from concerns for humanity and nature. It is
logical and natural for every person in
society to feel obliged to provide material
security and protection as a right for
themselves, their property and family, the
poor and helpless, widows and children,
faced with unexpected perils and dangers.
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Principles of Rights and Obligations
• Basis in Islam
• The Prophet also emphasised the importance of
providing material security for widows and poor
dependents in the following Hadith:
• Narrated by Safwan bin Salim, the Prophet said:
‘The one who looks after and works for a widow
and a poor person, is like a warrior fighting for
Allah’s cause or like a person who fasts during the
day and prays all the night . . .’.
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8-Principles of Humanitarian Law
• One of the purposes of humanitarian law is to
inculcate mutual understanding in the community,
to protect against unexpected loss, damage or
other forms of risks or hardships. Hence, an
insurance policy contributes towards alleviating
hardships for a person arising from unexpected
material risks, which is of course within the scope
of the principles of humanitarian law.
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8-Principles of Humanitarian Law
• Basis in Islam
• This aspect has been justified in the following
Hadith of the Prophet, which reads:
• Narrated by Abu Huraira . . . the Holy Prophet
said . . . ‘whosoever removes a worldly grief from
a believer, Allah will remove from him one of the
griefs of the Day of Judgment. Whosoever
alleviates a needy person, Allah will alleviate from
him in this world and the next . . .’.
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9-Principles of Mutual Cooperation
• In a Takaful policy, both the operator and the
participant mutually agree to lawful cooperation in
which the participant provides capital (through the
payments of contributions) to the operator
(insurance company), enabling the insurer to
invest the accumulated contributions in a lawful
business (on the basis of Mudaraba). Meanwhile,
the insurer, in return for the payments of the
contributions, mutually agrees to compensate the
insured in the event of an unexpected loss or
damage or risk to the subject matter.
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9-Principles of Mutual Cooperation
• Basis in Islam
• Such mutual cooperation among the parties in an
insurance policy has been justified by the Divine
principles of mutual cooperation, solidarity and
brotherhood.
• Allah commanded:
• ‘Help one another in righteousness and piety, but
do not help one another in sin and transgression’.
• Surah al-Ma’idah, 5:2
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DEFINITION OF RETAKAFUL (REINSURANCE)
• Reinsurance is a financial indemnity contract,
according to which the conventional company
or Takaful operator pays to the reinsurance
company a portion, agreed upon from prescribed
premiums, in return for the commitment of the
insurance company to cover its portion of the risks
of the direct insurance company. Reinsurance is
best thought of as insurance for insurance
companies.
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RETAKAFUL
• ReTakaful (Islamic reinsurance) is a risk hedging
method in which the Takaful operator resorts to
either a conventional reinsurer or a ReTakaful
operator to reinsure original insured risks against
an undesirable future situation if the risk insured
were above the normal underwriting claim.
• Thus, a Takaful operator may, based on limited
financial resources, hedge against possible
incapability to meet all Takaful insurance
protection from a financially capable reinsurer.
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How a RETAKAFUL work?
• the Takaful holders are individuals or companies
that buy the Takaful products (either General
Takaful or Family Takaful products) and pay an
agreed-upon premium (contribution) to the Takaful
operator to protect them from unforeseen risk and
also extraordinary losses. The Takaful operator will
take a portion of money from the Takaful fund and
pay a premium (contribution) to the ReTakaful
operator to get reinsurance protection to spread its
risks. Reinsurance contracts may cover a specific
risk or a broad class of business.
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Similarities between conventional and Takaful
reinsurance
• 1-Reinsurance in conventional insurance companies and
Takaful operators is between two parties: the reinsurance
company and the insurance company/Takaful operator.
• The reason for resorting to reinsurance by conventional
companies and Takaful operators is the inability of the
insurance companies to insure high-risk projects. They
both wish to get coverage from the reinsurance company
enabling them to handle the huge risks where financial
indemnities could exceed the capabilities of the insurance
companies themselves.
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Similarities between conventional and Takaful
reinsurance
• 3- With regard to the payment of indemnities, in
cases of the risks insured in the reinsurance
contract, the relationship is established between
the reinsurance company and the conventional or
Takaful operator only. The insured does not have
any rights with the reinsurance company,
because his relationship is restricted to his
insurer.
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Similarities between conventional and
Takaful reinsurance
• 4- According to the reinsurance contract, the
reinsurance company is committed to paying the
financial indemnities to the conventional insurance
company or Takaful operator, according to the
conditions agreed upon between the two parties.
• 5- The reinsurance company provides the
conventional company and the Takaful operator
with financial statements: reinsurance
commission and reinsurance profit commission.
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Thank you
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