Advanced Islamic Banking and Finance:

FINA 615

M. Kabir Hassan, Rasem N. Kayed, and Umar A. Oseni

Chapter 8

Islamic Insurance (Takaful)

 Learning Objective 1.1
Understand the meaning
Basic Concepts of Takaful and basic concepts of
takaful as an alternative to
conventional insurance
with an insight into its
historical development

• Takaful - Arabic word originating from the root verb kafalah

–to guarantee, to secure or to be responsible for others
• Literally, takaful means joint responsibility or
guarantee based on mutual agreement
• Three basic concepts of mutuality are embodied in the
takaful model of insurance:
- Mutual help
- Mutual responsibility
- Mutual protection
 Learning Objective 1.1
Understand the meaning
Basic Concepts of Takaful and basic concepts of
takaful as an alternative to
conventional insurance
with an insight into its
historical development

Figure 8.1: Triangular Relationship of the Major Aspects of

Takaful
 Learning Objective 1.1
Understand the meaning
Basic Concepts of Takaful and basic concepts of
takaful as an alternative to
conventional insurance
with an insight into its
historical development

• Takaful: Islamic alternative to conventional insurance

where members contribute financial resources into a pool
based on principles of:
- ta’awun (mutual assistance)
- tabarru’ (donation) where the group undertakes to
share the mutual risk together
In takaful, members jointly agree to guarantee one
another against any unexpected loss or damage based on
the common pool of resources.
All prohibitive elements in Islamic commercial transactions
(Riba, Gharar, Maysir) are prohibited in the design of takaful
models
 Learning Objective 1.1
Understand the meaning
Basic Concepts of Takaful and basic concepts of
takaful as an alternative to
conventional insurance
with an insight into its
historical development

Main Features of Takaful

1. Cooperative Risk Sharing

2. Clear Financial Segregation

3. Sharī‘ah-compliant Policies and Strategies

 Learning Objective 1.1
Understand the meaning
Basic Concepts of Takaful and basic concepts of
takaful as an alternative to
conventional insurance
with an insight into its
historical development

Main Features of Takaful

1. Cooperative Risk Sharing
• Cooperative risk sharing through the use of donation was
designed to eliminate riba and gharar elements in takaful
• Donations adopted to replace premiums
• Premiums paid by policyholders are considered donations to
assist members who suffer any loss
 Learning Objective 1.1
Understand the meaning
Basic Concepts of Takaful and basic concepts of
takaful as an alternative to
conventional insurance
Main Features of Takaful with an insight into its
historical development

2. Clear Financial Segregation

• In Islamic law:
- Clear segregation between participants and operators
- The role of the insurance company is restricted to an
operator managing the portfolio and investing insurance
contribution on behalf of participants
•  In the conventional practice of insurance business: -
- The insurance company is a profit-making entity which
agrees to bear the financial burden and losses of its
policyholders
• The shareholders are entitled to receive profit and bear the
burden of any deficit at the end of the financial year
 Learning Objective 1.1
Understand the meaning
Basic Concepts of Takaful and basic concepts of
takaful as an alternative to
conventional insurance
with an insight into its
Main Features of Takaful historical development

3. Sharī‘ah-compliant Policies and Strategies

• Investment of insurance funds should be made on ethical
businesses that cause no harm to people or the
environment

• Ethical considerations in takaful extends to investment in

businesses or products that do not contradict Sharī‘ah. Both
the process and the end-product must be Sharī‘ah-
compliant
• Takaful operators are required to put in place a standard
Sharī‘ah governance system to ensure absolute compliance
with the Sharī‘ah
 Learning Objective 1.1
Understand the meaning
Basic Concepts of Takaful and basic concepts of
takaful as an alternative to
conventional insurance
with an insight into its
historical development

Takaful Core Principles

• Ta’awun (mutual assistance)

• Tabarru’ (donation)

• prohibition of riba, gharar and maysir

 Learning Objective 1.1
Understand the meaning
Basic Concepts of Takaful and basic concepts of
takaful as an alternative to
conventional insurance
with an insight into its
historical development

Major Differences Between Takaful and Conventional

Insurance

The major differences between the two frameworks are:

○ Parties to the contract

○ Payment of premiums

○ Investment of insurance funds

 Learning Objective 1.1
Basic Concepts of Takaful Understand the meaning
Specific Differences between Takaful and basic concepts of
takaful as an alternative to
and Conventional Insurance conventional insurance
with an insight into its
historical development

Specific Differences between Takaful and

Conventional Insurance
 Learning Objective 1.1
Understand the meaning
Basic Concepts of Takaful and basic concepts of
takaful as an alternative to
conventional insurance
with an insight into its
historical development

Figure 8.2: Timeline of the Development of Takaful

 Learning Objective 1.1
Understand the meaning
Basic Concepts of Takaful and basic concepts of
takaful as an alternative to
conventional insurance
with an insight into its
historical development

• The modern history of takaful

- Islamic Insurance Company established in Sudan in 1979
- The establishment of Islamic-Arab Insurance Company
in Saudi Arabia and later in UAE in 1980
- The Malaysian Takaful Act of 1984
• Contemporary Islamic Scholars have issued many
resolutions on the permissibility of takaful
- The resolutions of the Council of Saudi Scholars in 1977
- The resolutions of the Fiqh Council of the Muslim World
League in 1978
 Learning Objective 1.1
Understand the meaning
Basic Concepts of Takaful and basic concepts of
takaful as an alternative to
conventional insurance
with an insight into its
historical development

• The OIC Fiqh Academy approved the takaful system in 1985

• The growth in the takaful industry is estimated at 10-20
percent a year

• The global takaful premium surpassed US$8.9 billion in

2010 and is expected to reach US$25 billion in 2015

For more recent data, visit:

World Takaful Report - Ernst & Young
www.ey.com/.../World_Takaful_report...2011/.../WTR2011E
YFINA

 
 
 Learning Objective 1.2
Describe the innovative
Models of Takaful Sharī‘ah-approved models
and structures of takaful

The main two parties involved in the implementation

of the takaful system regardless of the takaful model
being used are:
• Takaful operator: the party who manages and administer
the takaful fund

• Participants: the owners of the takaful fund, participants

and policyholders
 Learning Objective 1.2
Describe the innovative
Models of Takaful Sharī‘ah-approved models
and structures of takaful

• The Mudarabah Model

• The Wakalah Model

• Hybrid Wakalah-cum-Mudarabah Model

• Wakalah with Waqf Model

 Learning Objective 1.2
Describe the innovative
Models of Takaful Sharī‘ah-approved models
and structures of takaful

The Mudarabah Model

• Islamic insurance model based on trust partnership between
the takaful operator (mudarib) appointed to manage
the takaful business by the participants who act as the
financiers, investors or fund contributors (rabb al-mal)

• The funds contributed by the participants are divided into:

- Participants’ Risk Fund (PRF): owned jointly (made to
make the claim)
- Participants’ Investment Fund (PIF) : owned individually
(make for investment purposes)

• The Takaful Participants are the capital providers and the

owners of the takaful undertaking
 Learning Objective 1.2
Describe the innovative
Models of Takaful Sharī‘ah-approved models
and structures of takaful

The Mudarabah model

• The Takaful Operator is considered a business partner of the
participants in the investor-entrepreneur relationship under
the mudarabah contract
• The ratios of profit distribution are predetermined
• Financial loss is borne by capital providers (Takaful
Participants), while the entrepreneur (Takaful Operator)
may lose his/her managerial efforts
• Takaful Operator remunerated from the underwriting
surplus as agreed upon in the underlying takaful contract
 Learning Objective 1.2
Describe the innovative
Sharī‘ah-approved models
and structures of takaful
Models of Takaful

Surplus

The amount that remains after all expenses and

management fees for the administration of the takaful fund
have been deducted and the contributions are more than
the claims made by the participants
 Learning Objective 1.2
Describe the innovative
Models of Takaful Sharī‘ah-approved models
and structures of takaful

Figure 8.3 An Example of the Mudarabah Model of Takaful

 Learning Objective 1.2
Describe the innovative
Models of Takaful Sharī‘ah-approved models
and structures of takaful

The Wakalah Model

Islamic insurance model based on the contract of agency
between takaful participants and takaful operator where
the former are the real owners of the fund while the latter
acts as an agent
• Wakalah takaful is based on the contract of agency between
the takaful participants and the takaful operator where:
- the takaful participants are the real owners of the fund
-
the takaful operator acts as an agent
The takaful operator is entitled to agency fee or commission
for its service. The agency fee must be specified and clearly
stated in the contract
 Learning Objective 1.2
Describe the innovative
Models of Takaful Sharī‘ah-approved models
and structures of takaful

• IFSB-8 suggests that the agency fee should cover the

total sum of the following costs:
- management expenses;
- distribution costs, including intermediaries’
remuneration; - a margin of operational profit to the
Takaful Operator
• Any surplus realised from the investment of the participants’
funds will go to the participants. The operator only receives
its agency fee based on the nature of the takfaul model.

• The Takaful Operator does not share in any risk borne in the
investment or management of the takaful fund.
 Learning Objective 1.2
Describe the innovative
Models of Takaful Sharī‘ah-approved models
and structures of takaful

Figure 8.4: Example

of the Wakalah
Model of Takaful
 Learning Objective 1.2
Describe the innovative
Main Takaful Products Sharī‘ah-approved models
and structures of takaful

Hybrid Wakalah-Mudarabah Model

• The hybrid takaful model (also called the mixed model ) is a

combination of the wakalah model and the mudarabah
model where:
- the wakalah model is employed for the underwriting
purposes
- the mudarabah model is utilised for the investment
activities
 Learning Objective 1.2
Describe the innovative
Models of Takaful Sharī‘ah-approved models
and structures of takaful

Hybrid Wakalah-Mudarabah Model

• The twin role of the takaful operator makes the model

unique with its hybrid structure:

- the takaful operator is entitled to agency fee or

mutually predetermined commission for the role it
plays as a wakil or agent who manages the takaful
funds

- the takaful operator is also entitled to a share in the

profits realised for managing the investment activities
of the fund as an entrepreneur (mudarib)
 Learning Objective 1.2
Describe the innovative
Models of Takaful Sharī‘ah-approved models
and structures of takaful

Figure 8.5: Examp

of the Hybrid
Model of Takaful
 Learning Objective 1.3
Describe the main takaful
Main Takaful Products products and their
expansion into the global
insurance market

Main Takaful Products

Available products in the takaful industry:

- General Takaful: is a Sharī‘ah-compliant alternative to
the general insurance
- Family Takaful: is a Sharī‘ah-compliant alternatives to
the life insurance
 
 Learning Objective 1.3
Describe the main takaful
Main Takaful Products products and their
expansion into the global
insurance market

Main Takaful Products

General Takaful
• General takaful: a short-term policy renewable periodically;
covers assets and other proprietary belongings of participants
from foreseeable material loss or any form of damage
• General takaful fund established through participants’
contributions. Funds invested in Sharī‘ah-compliant
investments
• Proceeds accrue from such investment will be returned to the
fund for indemnifying the takaful participants
• Underwriting surpluses of the takaful funds are distributed to
the participants annually
 Learning Objective 1.3
Describe the main takaful
Main Takaful Products products and their
expansion into the global
insurance market

General Takaful Covers (list is not exhaustive)

- Motor Takaful
- Fire Takaful
-Employer Liability Takaful
- Fire consequential Loss Takaful
- Burglary Takaful
- Workmen Compensation
Takaful -
Machinery Breakdown Takaful

- Health Takaful
 Learning Objective 1.3
Describe the main takaful
Main Takaful Products products and their
expansion into the global
insurance market
Family Takaful
• Family takaful is a long-term policy (may span between 10
to 30 years) where people come together to mutually
indemnify one another against disasters that may occur
such as sudden death or permanent disability

• Examples of family
takaful include
- accidental death
- savings and
education plans
for one’s dependants
- retirement plans
- disability plans
- waaqf plans
 Learning Objective 1.5
Explain the relevance of
Reinsurance and Retakaful reinsurance and retakaful
in the modern practice of
takaful business.

• The Islamic alternative to reinsurance is retakaful, which

has been structured in a Sharī‘ah-compliant model, i.e.
reinsurance of takaful business on the basis of Islamic
principles is known as retakaful

• Within the conventional framework of insurance:

- Insurance operators collectively share the risks they
have undertaken to underwrite
- Large insurance companies underwrite the risks of
smaller insurance companies
- Reinsurance is a mechanism of the mitigation of such
great risks by transferring the risks to a large insurer
known as reinsurer
 Learning Objective 1.5
Explain the relevance of
Reinsurance and Retakaful reinsurance and retakaful
in the modern practice of
takaful business.

Retakaful
• Structured in a Sharī‘ah-compliant model; the Islamic
alternative to conventional reinsurance
• The risk aversion method of Retakaful is structured in a
way where:
- Takaful operators are participants in a takaful undertaking
with a large takaful company
- An agreed amount is paid periodically from the takaful
fund of the operators as premiums to the Retakaful
company
- All the underwriting risks of the takaful operators are
insured by the Retakaful company
 Learning Objective 1.5
Explain the relevance of
Reinsurance and Retakaful reinsurance and retakaful
in the modern practice of
takaful business.

• The Retakaful companies play a significant role when the

takaful operators record deficits or losses

• Capital of many Retakaful companies not so large to attain

an “A” rating which is mostly required for reinsurance
purposes

• Sharī‘ah scholars allow takfaul operators to reinsure with

conventional insurance companies under certain conditions
Key Terms and Concepts

• Aqilah • Participants’ Investment

Fund (PIF)
• Contribution
• Fiqh al-muamalat
• Participants’ Risk Fund
(PRF)
• Hybrid takaful model
• Qard hasan
• Insurable interest
• Retakaful
• Mudarabah model of takaful
• Surplus
• Mutual indemnification
• Tabarru’
• Operator or wakil
• Takaful
• Participants
• Takaful policy
Key Terms and Concepts

• Takaful ta’awuni
• Underwriting policies
• Waqf-wakalah-mudarabah
model
• Wakalah model of takaful