An Overview of Takaful Industry and Challenges Facing Industry

Durham Islamic Finance Autumn School
2011 in Istanbul
An Overview of Takaful Industry and Challenges

Facing Industry

21st September 2011
Istanbul, Turkey

Dr. AbdulRahman Tolefat, Chairman
Presented at the

Durham Islamic Finance Autumn School 2011
jointly organised by
Durham Centre for Islamic Economics and Finance and
ISAR-‐Istanbul Foundation for Research and Education
Istanbul Commerce University, Istanbul
19th-‐22nd September 2011
Agenda Outline
Insurance under Islamic Law
Takaful Concept
Takaful Structure
Differences between Takaful and conventional
Regulatory Challenges
Assets Management Challenges
Retakaful Challenges
AbdulRahman Tolefat-An Overview of

Takaful Industry and Challenges Facing
Industry 1
2011 in Istanbul
• Is the insurance concept acceptable under the

Islamic law?

Concept of risk mitigation by adopting law of large
number has been widely used and practiced.
Islamic Law encourages and accepts the concept

of insurance
Islamic law is against the methods and the means that
is used in commercial insurance
Investment
Insurance contract

Industry 2
2011 in Istanbul
Almost all the prohibi7ons on financial transac7ons can

be raised from:
Riba Interest in investment or borrowing
Gharar Uncertainty in outcome of the contract
Commutative contract Affected
Donation contract Not Affected
Mutual insurance
Insurance contract Accepted

Investment Prohibited
Commercial Insurance
Insurance contract Prohibited

Investment Prohibited

Industry 3
2011 in Istanbul
Agenda Outline
Takaful Concept
Takaful Structure
WHAT IS TAKAFUL?
Derived from the verb “Khafel”
Means in Arabic:
- Joint guarantee
- Mutual cooperation
- Solidarity

Industry 4
2011 in Istanbul
Pact among group of

participants who agree to
jointly guarantee each
other should any member
suffer a loss or misfortune
in the future
Takaful company is hybrid of a mutual and a

commercial form of the company
Mutual Commercial
Cont…

Industry 5
2011 in Istanbul
Segrega7on between policyholders funds and

shareholders fund.
Shareholders Policyholders
fund fund
Premiums should be paid on a dona7on basis to the

par7cipants funds.
Premium Contribution

Industry 6
2011 in Istanbul
Company acts as an Agent on behalf of par7cipants

to manage takaful funds.
Company Operator
Agenda Outline
Takaful Concept
Takaful Structure

Industry 7
2011 in Istanbul

Structure
of General Takaful
Contributions
(premiums)
Wakalah
(Agency) Fee Participants
Fund
Shareholders
Fund
Investment Profit Investment Retakaful

Share
Claims
Surplus Share
Profit Operating Expenses
Shareholders
fund investment
Reserves
Operating
Expenses
Surplus
Profit
Dividends

Industry 8
2011 in Istanbul
The Sources of Income for Takaful Company

1 Wakalah (agency) fee.
General 2 sharing in underwriIng surplus.
Takaful 3 sharing in profit from investment.

Important comments on General Takaful structure
Agency Fee Commissions and management expenses will

(Wakalah) be paid to shareholders fund. (25% -‐ 35% of
contribuIons)

Operating The expenses related to policyholders should be

deducted from takaful fund such as legal expenses.
expenses
The other expenses such as management salary,
offices rent and others, related to the company
should be deducted from shareholders fund.

Industry 9
2011 in Istanbul
Important comments on General Takaful structure
Investment The profit sharing raIo should be pre

Profit Ratio agreed and determined by the company
and accepted by Shari’ah Board.

Surplus (1) To all participants in the takaful pool.
(2) To only those have not incurred any claims
during the operating year.
What if there is a surplus in Fire and Marine

general funds while a deficit occurs in Motor fund?
How shall the company distribute profit?

Structure
of Family Takaful
(Life Insurance)

Industry 10
2011 in Istanbul
Contributions
(premiums)
Wakalah(Agency) Participants Special

+other Fees Fund (Protection
Fund)
Participants fund Shareholders
(Saving Fund) Fund
Investment Retakaful
Investment Profit
Share Claims
Investment
Surplus Share Operating
Profit
Profit Expenses
Shareholders
fund
investment Reserves
Distribute profit
Operating
for each
Expenses
participant Surplus
Profit Dividends
The Sources of Income for Takaful Company
1 Wakalah (Agency) fee + other fees.
2 Sharing in underwriting surplus from SPF.

Family
Takaful 3 Sharing in profit from investments of SPF.
4 Sharing in profit from investment of Participants fund.

Industry 11
2011 in Istanbul
Option(2):
Interset free loan Participants
Shareholders
fund fund
Option (1):Pay
additional
premiums
Insurance
Investment
operation
Participants
(Policyholders)
Deficit
Agenda Outline
Takaful Concept
Takaful Structure

Industry 12
2011 in Istanbul
Takaful Conventional
Premiums " Premiums owned by " Premiums owned by

policyholders insurance company
" A combination of " An exchange

donation and Agency contract (sale and
Contract or profit sharing purchase) between
contract. insurer and insured
" Assets must be " No restriction apart

Investment invested in Shari’ah from those imposed
compliance for prudential
instruments reasons.
" Takaful operator act " Insurer is liable to

an agent. If there is a pay the insurance
Insurer deficit in takaful benefits as promised
funds, the operator from its assets.
expected to provide
interest free loan
" Participants mutually " Policyholders pay

expected to share the premiums to the
Policyholders surplus or pay the insurer. Therefore,
deficit. However, in the insurer bears any
practice usually deficit and gains any
shareholders provide surplus
free interest loan.

Industry 13
2011 in Istanbul
" Access to share " Access to share

capital and Islamic capital and debt with
Access to financing possible use of
capital instruments by subordinated debt.
takaful operator.
" Elected by " Elected by

shareholders. shareholders.
Board of However, a
committee to protect
Director participants interest
might be formed.
" The company is " No need to form
required to form a the Shari’ah
Shari’ah Board. Board
" Elements of " Elements of

Conflict of interest Conflict of interest
Corporate between between
Governance shareholders and shareholders and
policyholders are policyholders are
very high. less than takaful.
" Two income " One income

statements one for statement and
Accounting participants and the balance sheet for
other for he company.
shareholders.

Industry 14
2011 in Istanbul
Family Life
" According to " The policyholder
inheritance law for nominates the
participants fund. beneficiary.
Beneficiary
" Beneficiary for risk
protection fund
" The operator can not " The company

Delay in charge interest.
premium However, charge charges an interest
payment would be
implemented.
Agenda Outline
Takaful Concept
Takaful Structure

Industry 15
2011 in Istanbul
Industry’s Growth and Challenges
Growth of Takaful
Demographic Growth Economic Growth Islamic Assets Growth
Critical Factors
Human Rescores Distribution ReTakaful

Challenges
Asset Management Regulatory Product Development
Hybrid structure creates more elements of conflict Contributions

in interests (premiums)
Wakalah
(Agency) Fee Participants
Fund
Shareholders
Fund
Investment Profit Investment ReTakaful

Share
Claims
Surplus Share
Profit Operating Expenses
Shareholders
fund investment
Reserves
Operating
Expenses
Surplus/Deficit
Profit
Dividends

Industry 16
2011 in Istanbul
Corporate Governance
Who is protecIng the interests of ParIcipants?
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• Regulator:
• There are two parties:
_ The regulation needs to be
adapted to cater for unique
characteristics of Takaful.
– Regulator- the current
regulations & supervision.
(Corporate Governance and
Business Conduct) • Shari’ah Board:
_ The shari’ah Board does not
have the right competencies to
– Shari’ah Board- from the ethical perform this job.
prospective
– It is not stated in the Shari’ah
Board Mandate.
Elements of conflict of Interests (1/2)
Wakalah Fee • The shareholders are in favour to charge higher fee.
• Distribute profit to participants before take reserves.

Reserves
• Charge incentive fee before taking reserves.
• The deficit incurs in Takaful fund could be resulted from

Deficit mismanagement or misconduct by the operator.
Investment • The company may place shareholders fund in better

investment opportunities vis-à-vis Takaful funds

Industry 17
2011 in Istanbul
Elements of conflict of Interests (2/2)
Competition • The competition could lead the operator to pass the risk
to Takaful pool without proper pricing.
Family Takaful • The amount that goes to risk pool and the remaining
amount which goes to saving pool.
Deficit Debate
Deficit
Independent
Parties
Unaffordable Mismanagement &

Deficit Misconduct
Qarad Hassan from

shareholders fund Liable to cover
Qarad Hassan
deficit

Industry 18
2011 in Istanbul
• Distribute profit to participants before taking

reserves.
Reserves
• Charge incentive fee before taking reserves or
distributing anything to participants
Reserves
Takaful
Fund
50%
Incentive Fee
Surplus 50% Distributed
Independency of Shari’ah
BOD Shari’ah supervisory

Audit committee
Board
CEO
Internal Auditor Internal Shari’ah
- The internal Shari’ah is not independent

- Who is making sure that the company
adheres to the shari’ah standards
- Refer to example of distribution to certain
clients.

Industry 19
2011 in Istanbul
Independency of Shari’ah
BOD Shari’ah supervisory

Audit committee
Board
CEO
Internal Auditor Internal Shari’ah
The Internal Shari’ah should be reported

directly to SSB and to be independent
as same as Internal auditor
Investment under Takaful Undertaking

Assets to be invested under ... Element of Conflict
TO may invest money in opportunity

according to interest of shareholders fund
•Majority of takaful companies own by

Participants Funds banks.
•Related party transactions.
•Element of conflict of interest is relatively

low.
•Still there is a possibility of misconduct.
Shareholders Funds

Industry 20
2011 in Istanbul
Investment with Related Parties
Related parties Effect on

Statistical Influence on Individual
Investment basis
Difference Group RB:

between - Less than 10%
actual and
desired - 10% -50%
- Over 51%
Both are confirmed the

control of related
parties
RPI Ownerhi p Groups and Parti ci pants Funds

35
30
25
Millions
20
15
10
0
SHF-De pos its SHF-Re al Es tate SHF-Equitie s SHF-Mutual funds /unit
Inve s tme nts trus ts
LT 10 10-50 51+
RPI Ownerhip Groups and Shareholders Funds
60
50
40
Millions
30
20
10
0
SHF-Deposits SHF-Real Estate SHF-Equities Investments SHF-Mutual funds/unit trusts
LT 10 10-50 51+

Industry 21
2011 in Istanbul
Solvency Margin and Shareholders Fund
There are two views regarding capital of Takaful companies:
Lender of Last resort
Just to meet the Legal

Requirements
How the regulators ensure Takaful Shareholder

that there are liquid assets s
to support Takaful fund all Fund
Fund
the times?
Deficit
Takaful Shareholders
Fund Fund
Deficit
Takaful Shareholders
Fund Fund
Solvency Physical
Transfer?!
Actual

Industry 22
2011 in Istanbul
Solvency Margin & Capital Adequacy
Shareholders Fund
Does the shareholders fund
need to be regulated ? Regulation of Shareholders Fund
Reponses Detail
72%
1 Yes with same policyholders

limits
2 Yes with flexiable limits
20%
3 No need to regulate fund 8%
Yes with the Yes with No

same fixable
policyholders limits
Source: PHD study form the presenter
limits
Agenda Outline
Takaful Concept
Takaful Structure

Industry 23
2011 in Istanbul

Asset Management challenges … …The way forward
Lack of Short term investment : •Highly rated sukuk funds.
Currently almost all Takaful companies
have invested their short term assets in •Government to issue more short
Investment Accounts with Islamic term sukuk and tradable sukuk. i,e,
Short Term Banks/Windows. sukuk Al-Salam structure is not
•Low income compared to conventional
convenience.
Insurers.
•Where short sukuk exists, there’s a
lack of tradability .
Lack of longer term sukuk: • Governments need to allocate

•Only medium term assets available from certain part of their issuance of sukuk
5 – 7 years. to Takaful industry.
•No possibility that the GCC government will
issue long term sukuk. •The rated Corporate needs to be
Long Term
•Lack of good rated corporate sukuk. given incentives to issue more sukuk
Difficult to acquire medium term sukuk as medium for financing for both
•Government sukuk is very expensive as the medium and long term sukuk
banks have the ability to acquire these sukuk
from primary market.
GOVERNMENT SUKUK
GCC
16%
13%
9%
Actual
0% 0% 0%
Shareholders Fund General Fund Family Fund Desired
Malaysia
27%
19% 20%
18%
0% 0%
Shareholders Fund General Fund Family Fund

Industry 24
2011 in Istanbul
CORPORATE SUKUK
GCC
20%
18%
11%
Actual
0% 0% 0%
Shareholders Fund General Fund Family Fund Desired
40%
Malaysia
34%
30% 32%
18%
12%
Shareholders Fund General Fund Family Fund
ONE YEAR OR LESS INSTRUMENTS

52%
GCC
33%
21%
15% Actual
Desired
Shareholders Fund General Fund
49%
Malaysia
32%
27%
23%
Shareholders Fund General Fund


Industry 25
2011 in Istanbul
Agenda Outline
Takaful Concept
Takaful Structure
Retakaful challenges … … The Way Forward
•Lack of retakaful capacity in special
risk eg S&T Retakaful companies should
Capacity in large and cooperate together and establish
•How to retain the large risk within pools to retain risks even for
specialty risks retakaful industry. retrotakaful
•Windows vs. subsidiaries.

•Competitive retakaful operators.
Limited “A” rated The larger reinsurer and Lloyds
Retakaful companies market
•Shari’ah board allows this based on

necessity.
Clear definition of necessity.
Reinsurance •Must be on net basis and the
operator must not accept any Shari’ah standards for this
transaction
commission.
•Treatment of commission.
•Many retakaful operators are
focusing on larger risks. Work very closely with takaful
operators to develop personal
Personal lines focus lines and particularly on life.
Islamic annuity

Industry 26
2011 in Istanbul
Thank you

Industry 27

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Durham Islamic Finance Autumn School

An Overview of Takaful Industry and Challenges

Presented at the

AbdulRahman Tolefat-An Overview of

Insurance under Islamic Law

• Is the insurance concept acceptable under the

Islamic Law encourages and accepts the concept

Insurance under Islamic Law

AbdulRahman Tolefat-An Overview of

Almost all the prohibi7ons on ﬁnancial transac7ons can

Riba Interest in investment or borrowing

Gharar Uncertainty in outcome of the contract

Commutative contract Affected

Donation contract Not Affected

Insurance contract Accepted

Insurance contract Prohibited

AbdulRahman Tolefat-An Overview of

Derived from the verb “Khafel”

AbdulRahman Tolefat-An Overview of

Pact among group of

Takaful company is hybrid of a mutual and a

AbdulRahman Tolefat-An Overview of

Segrega7on between policyholders funds and

Premiums should be paid on a dona7on basis to the

AbdulRahman Tolefat-An Overview of

Company acts as an Agent on behalf of par7cipants

AbdulRahman Tolefat-An Overview of

Investment Profit Investment Retakaful

AbdulRahman Tolefat-An Overview of

The Sources of Income for Takaful Company

Important comments on General Takaful structure

Agency Fee Commissions and management expenses will

Operating The expenses related to policyholders should be

AbdulRahman Tolefat-An Overview of

Important comments on General Takaful structure

Investment The proﬁt sharing raIo should be pre

What if there is a surplus in Fire and Marine

AbdulRahman Tolefat-An Overview of

Wakalah(Agency) Participants Special

The Sources of Income for Takaful Company

1 Wakalah (Agency) fee + other fees.

2 Sharing in underwriting surplus from SPF.

4 Sharing in profit from investment of Participants fund.

AbdulRahman Tolefat-An Overview of

AbdulRahman Tolefat-An Overview of

Premiums " Premiums owned by " Premiums owned by

" A combination of " An exchange

" Assets must be " No restriction apart

" Takaful operator act " Insurer is liable to

" Participants mutually " Policyholders pay

AbdulRahman Tolefat-An Overview of

" Access to share " Access to share

" Elected by " Elected by

" Elements of " Elements of

" Two income " One income

AbdulRahman Tolefat-An Overview of

" The operator can not " The company

AbdulRahman Tolefat-An Overview of

Industry’s Growth and Challenges

Demographic Growth Economic Growth Islamic Assets Growth

Human Rescores Distribution ReTakaful

Hybrid structure creates more elements of conﬂict Contributions

Investment Profit Investment ReTakaful