Takaful is a sort of Islamic insurance in which members pool their funds to protect each other against loss or injury. Takaful insurance is founded on sharia, or Islamic religious law, which describes how people are obligated to work together and protect one another. Takaful policies provide coverage for health, life, and other types of insurance.
What is Takaful and how it works?
Takaful is a sort of Islamic insurance in which participants combine their funds to insure one another. Takaful-branded insurance is based on sharia, or Islamic religious law, and it covers health, life, and other types of insurance. The takaful fund pays out any claims made by participants.
How is Takaful different from insurance?
Unlike traditional insurance, where the risk is shifted from the insured to the insurer, Takaful Insurance members share the risk. Takaful operations are based on the mutuality principle, in which each participant contributes to a Takaful fund.
How does Takaful make profit?
Takaful means “shared duty,” “shared guarantee,” “collective assurance,” and “joint undertakings” in Arabic. Shariah-compliant insurance is designed to protect participants against a specific risk and is based on shared responsibility, mutual cooperation, and solidarity. Takaful plans are free of gharar (uncertainty) in terms of premiums and coverage, as well as maisir (gambling) and riba (interest).
- The fund is managed by the operator, who is a licensed entity that follows Shariah principles.
- The insured, or participants who are exposed to risk and receive assistance from the fund.
Takaful funds are typically split into two categories: family Takaful and general Takaful, as shown below.
The general Takaful contract is a short-term insurance policy in which participants pay premiums and operators agree to manage risk. Participants’ premiums are credited to a general Takaful fund, which is subsequently invested and the proceeds returned to the fund.
Payments from contributors are split between management costs, risk management, surplus, and the Special Security Fund (SSF). Commissions, management costs, and establishment costs, which cover bills and other incidental charges, are the three types of management costs. The commission, which is deducted from the management cost, pays the salaries of the employees and is established by the operator. By mutual consent and agreement, the participant can also pay the commission. The management cost is the expense of the company’s start-up.
A portion of the members’ contributions also goes to the SSF account, which provides financial support to the Takaful firm and manages the risk of insolvency. As a reserve for bankruptcy, a specific proportion of a projected sum is donated to the SSF. For example, a corporation may analyze the likelihood of bankruptcy over the next ten years and set aside RM10 million (US$2.69 million) as a reserve. The participants then individually deposit 2% to the RM10 million (US$2.69 million) reserve requirement, which would be held by the Central Bank. The Central Bank will not be able to touch this money, and it will not earn or lose any interest. The Central Bank will repay RM5 million (US$1.35 million) from the reserve to the company if the company goes insolvent before the projected 10 years, say in five years. The reserve is untouchable if the corporation does not fall insolvent after ten years. The goal is to ensure that the participants’ interests are protected.
The employment of the qard hasan notion in the SSF mechanism has been proposed. For every year it produces profit, the company will get RM1 million (US$269,025) from the RM10 million (US$2.69 million) it has set aside in the Central Bank. So, if the company makes a profit of RM1.5 million (US$403,509) in the first year, the Central Bank will give it RM1 million (US$269,025). If this happens every year, and the money returned is either spent or invested, and the company goes bankrupt in the ninth year, there will be insufficient reserves to pay the loss.
To prevent these effects, the refunded reserved funds might be credited to another corporate account that could not be touched, mostly for backup purposes. The reserve would no longer be held by the Central Bank.
Meanwhile, the risk management contribution is split into four accounts, each with a different percentage. The tabarru’ idea governs the fund’s operations, which include re-Takaful, incurred but not recorded (IBNR), claims reserve, and unearned contributions.
Tabarru’ refers to a non-returnable donation, charity, or gift. In general, a percentage of the participants’ contribution is regarded tabarru’ and hence cannot be refunded, as it is the basis of the joint guarantee to assist other participants. Once a member joins the Takaful policy, a portion of his payment is given to all participants using the tabarru’ principle to protect them from unforeseeable but defined risks.
A Takaful company is backed or comforted against any deficiency in paying claims or insolvency by another Takaful firm through re-takaful. The Takaful firm and the re-Takaful company are sharing the risk and liability. The percentage that each company bears is decided by mutual agreement. The following diagram depicts the mechanism:
When a participant makes a claim that the Takaful business is unable to fulfill, the re-Takaful company will cover 30% of the claim, and the Takaful company will cover the remaining 70%.
The facultative and treaty systems are the two types of coverage accessible in re-Takaful. Facultative coverage is a product-by-product coverage, which means it only covers a single insurance, such as fire. The treaty system, on the other hand, covers all types of claims and is separated into two categories: mandatory and optional. When the government wants the Takaful company to reassure its insurance in a certain amount, the treaty system becomes mandatory. Whether or not to have a re-Takaful firm would be a choice.
IBNR occurs when a participant files a claim after the policy period has ended, despite the fact that the accident occurred during the policy period.
This is classified as an IBNR circumstance, and the claim should be paid from the claim reserve account.
The claim reserve account is used to pay all claims filed during the policy period.
Unearned contribution is a separate account that serves as a backup to any accrued accounts. If there is an accrual in the claim reserves account, for example, the accrued amount will be covered by the unearned contribution account. Any surplus will be deposited in the surplus account after the claim has been paid and charges have been deducted. Surplus should be returned to the risk management fund, refunded to the participants in the surplus account according to their contributions, or divided between the operator and the participants, according to three different viewpoints.
General Takaful is divided into five categories: fire Takaful, miscellaneous and accident Takaful, maritime Takaful, engineering Takaful, and motor Takaful each with its own divisions.
Family Takaful, often known as life insurance, is a type of financial protection for the heirs or beneficiaries of a deceased (or insured) person against future financial risk. Family Takaful is founded on the Mudarabah principle, which is built on the ideals of mutual collaboration.
There are two types of accounts in Life Takaful: Participant’s Account (PA) and Participant’s Special Account (PSA) (PSA). The PA is dealt with according to the Mudarabah principle, whereas the PSA is dealt with according to the tabarru’ or donation principle. Beneficiaries have the right to claim policy value from the PSA as well as the cumulative amount from the PA if the risk occurs.
Profits are dispersed to participants depending on their contribution or investment in the family Takaful fund, as well as the company’s terms and conditions. The contribution paid by family Takaful participants is divided into four components. Administration fees, which include commission, management costs, and the SSF account, are allotted a set percentage of the premium paid. The majority of the family Takaful contribution is invested in PA and PSA.
As shown in the graphic below, the participant’s contribution is split between the PA and the PSA in a set percentage split.
Because the PSA fund’s mission is to provide financial stability for participants, if a participant files a claim within the policy period, the beneficiaries are entitled to benefits from the fund.
If no claim is made throughout the policy period, the participant can only make a claim from the PA fund. This is due to the fact that the participant is a tabarru’ fund contributor who cannot be refunded.
The projected claim rate, the incidence of claims, the basic cover, the reserving basis, the profit-sharing assumption between the operator and participant, and any expenses or commission loading all influence the tabarru’ rate as estimated by actuaries.
If the PSA fund of a participant has a significant surplus, the operator can donate some of it to charity or use it to improve the social infrastructure.
If a member paid his premiums for 25 years and died or became permanently paralyzed during the insurance period, his beneficiaries could recover full benefits from both the PA and PSA accounts. If a participant was involved in an accident during the policy period that did not result in serious injury or death, compensation would be given in accordance with his condition. A participant who has not made any claims during the policy period is limited to claiming from the PA.
Benefits for family members if a participant paid life Takaful premiums for a 10-year insurance period and died during that time, the benefits would be transferred to his beneficiaries. Other benefits include those for permanent impairments and those for hospitalization.
The following are some of the benefits of having a family Takaful policy: the participants can choose the maturity date; profit sharing is according to the agreed ratio; the policy can be terminated at any time; and the policy can be cancelled at any time. Withdrawal can be accomplished in a variety of ways:
There is also some flexibility in terms of changing the premium paid, the time, and the number of payments in a year, as well as an income tax exemption.
Takaful is primarily centered on collaboration and assisting others in the face of a certain risk. A Takaful policy is intended to safeguard participants financially through the premiums they pay and the policies they get, all of which are founded on the Islamic principles of Mudarabah and Tabarru’.
To avoid the forbidden components of maisir, gharar, and gambling, the development of Takaful as an alternative to traditional insurance should be supported.
The essay was written for Islamic Finance News and published there (Volume 3, Issue 38).
What are the benefits of Takaful?
Owners of takaful certificates and insurance policies can benefit.
- If an insurer member fails, PIDM safeguards you from losing your eligible takaful or insurance benefits.
- PIDM automatically provides protection; no further software is required.
What are different types of Takaful?
Takaful is a Shariah-compliant insurance policy that is based on Islamic Muamalat (Islamic transactions). This indicates that Takaful can cover a wide range of Shariah-compliant items, including medical Takaful, automotive Takaful, and so on. The phrase also relates to the notion of Islamic insurance, which is founded on mutual collaboration and involves the sharing of both risks and funds. Mutual financial assistance is supplied by the Takaful pool, also known as Tabarru’ (funds), which is funded by a group of persons who agree to be covered by Takaful.
Following the adoption of the Takaful Act 1984, the first Takaful company was founded in Malaysia in 1985. The Malaysian Takaful Association (MTA) is the authoritative body in Malaysia for all Takaful-related topics, and the Takaful industry is governed by the Islamic Financial Services 2013 Act.
- Instead of passing the risk on to an operator as is the case with traditional insurance, the risk is shared by everyone in Takaful.
- No claim cash back policy – if you don’t make any claims throughout the coverage period, your Takaful provider will refund you a specific amount of money. The sum, on the other hand, is determined by the Takaful provider, and there is no standard amount to follow.
- Shariah-compliant it must follow all Islamic regulations and not contain anything that is considered Haram.
There are two sorts of Takaful: family Takaful and general Takaful, with a variety of things falling under both.
- Family Takaful: gives you and your beneficiaries with both protection and long-term savings.
- Linked Investments Takaful: a type of Takaful that combines investment and Takaful coverage for a family. Investments will be made in Shariah-compliant funds.
- Medical and health care Takaful is a type of insurance that covers the costs of private hospital medical care and hospitalization.
- Takaful for child education: this will give financial security for your child in the event of a calamity, such as permanent handicap or death. At the same time, this Takaful product can help you save for your child’s higher education costs in the long run.
- Third-party motor takaful Takaful insures you against the loss or damage of a third-party vehicle as a result of an accident, theft, or fire. It also covers third-party property loss or damage, as well as bodily harm or death. A comprehensive Takaful policy protects you and third parties from bodily injury and property damage due by an accident, theft, or fire.
- Home Takaful is divided into two types: houseowners Takaful and householders Takaful. Houseowners Takaful covers losses or damage caused by floods, fires, and other natural disasters. Householders Takaful insures the contents of your home against loss or damage.
- Personal accident Takaful: provides compensation to you and your beneficiaries in the event of death, injury, or disability as a result of an accident.
Is Takaful Halal or Haram?
Because takaful is considered halal in Islam, any insurance policy that follows the principles of takaful should be considered legal as well.
Is takaful more expensive?
Although neither is necessarily cheaper than the other, takaful insurance may be less expensive in terms of ‘additional risk premiums.’ This is because takaful fund fees are generally fixed, and persons who are considered to be high-risk aren’t often charged more, unless there are extreme circumstances that might result in the entire fund losing money.
In medical takaful, for example, someone with serious health problems may be asked to increase his contribution. Where additional expected risks are there, traditional insurance will price more (e.g. people with dangerous professions and smokers, etc.).
A Family Takaful plan that combines investing to establish a savings fund from prospective returns, as well as protection coverage against death, disability, critical sickness, and accidental injury, as well as hospitalization benefit.
A portion of your contributions will be put in your choice of Shariah-approved investment funds.