Malaysians are generally at a loss when it comes to being able to tell the difference between takaful and insurance. Some come to the conclusion that takaful is the Islamic version of insurance, while some perceive that takaful and insurance are just the same, hence the term Islamic insurance.
What Is Insurance?
Insurance is where a company undertakes the risk to provide a guarantee of compensation for specified loss, damage, illness, or death, in return for payment of a specified premium. There are two types of insurance namely, life insurance and general insurance. The coverage includes the insurance of life, personal, property, marine, fire, professional liability and guarantee.
The purpose of insurance is to manage one’s risk. When the insurance is purchased, the participant buys protection against unexpected financial losses. In case an unexpected loss occurs, the insurance company will compensate the loss to the participant.
Should the participant have no insurance coverage and an accident happens, they themselves shall be responsible for all related costs. In other words, the risk in insurance terms means the probability of something harmful or unexpected happening. This might involve the loss, theft, or damage of valuable property and belongings, or it may involve injury or harm.
What Is Takaful / Islamic Insurance?
Takaful is often referred to as ‘Islamic insurance’. It is strictly a business transaction to mitigate the financial risk of unforeseen events to the participants. Takaful is formed on the social solidarity and cooperation amongst a group of participants who mutually agree to jointly indemnify
loss or damage from a fund they donate to collectively.
In other words, takaful is a type of Islamic insurance where member participants contribute money into a pool system (tabarru’) to guarantee each other against loss or damage.
There are two types of takaful, namely family takaful (mirror of life insurance) and general takaful (mirror of general insurance). A takaful contract which is called ta’awun must be based on principles of cooperation, protection and mutual responsibility. It must avoid acts of interest, gambling and uncertainty.
The term Islamic insurance is popular, because it takes the insurance concept and turn it into shariah-compliant.
The Shariah Aspect Of Islamic Insurance
Islamic scholars differ in their opinion about conventional insurance. Some say insurance is permissible, some say only several types of insurance are prohibited but most of the Islamic scholars conclude that conventional insurance is unacceptable in Islam.
The Shariah Advisory Council of Bank Negara Malaysia in its resolution states that the prohibition of conventional insurance is because it does not conform with Shariah law, particularly on the contractual agreement between the policyholder and insurance company.
Conventional insurance uses a sale contract in their agreement but there is an element of gharar fahish (major uncertainty) in the contract since the essential element of the sale contract is not fulfilled. Furthermore, conventional insurance is also based on the concept and practice of charging interest.
Islamic Fiqh Academy gave several reasons for the prohibition of conventional insurance:
- The policyholder does not know about the time of the contract and the amount of what the policyholder gives or gets.
- It is a contract based on probability.
- It includes excess and delayed riba.
- It can be considered a form of betting because of the existence of ignorance, uncertainty and probability.
- The premium is taken for no consideration in exchange.
- There is a compulsion that is not compelled by Shariah law such as the insurer does no specific work for the insured.
The Importance Of Insurance And Takaful
Both insurance and takaful are financial safety nets set to helping participants and their loved ones recover after something bad happens to them. Bad things may strike a participant at any time such as a fire, theft, lawsuit or car accident.
When the participant joins in takaful or purchases insurance, they will receive a certificate or an insurance policy, which is a legal contract between them and the takaful operator or insurance company.
The Differences Between Insurance And Takaful
‘Insurance’ and ‘takaful’ by name, are known as products. One is offered in the conventional financial system while the other is offered in the Islamic financial system. In Malaysia, insurance companies are under the jurisdiction of the Financial Services Act 2013 and takaful operators are
under the jurisdiction of the Islamic Financial Services Act 2013.
Payment to the insurance company are called ‘premiums’ and it is owned by the company. The payment to takaful is known as a ‘contribution’ and it is owned by the fund. The takaful operator just ‘manages’ the fund. The policyholder ‘buys’ insurance, and the participant ‘joins’ takaful.
Takaful and conventional insurance companies share a common objective in providing protection to the participant, their loved ones and their valuable belongings. For Muslims, takaful is not the alternative to insurance.
It is because takaful is based on the concept of social solidarity, cooperation and mutual indemnification of losses of members among the participants. It is a pact among a group of persons who agree to jointly indemnify the loss or damage that may be inflicted upon any of them, out of the fund they donate collectively.
Business-wise, the main difference between conventional insurance and takaful is that the former is a risk-transfer model whereas the latter is a risk-sharing model. Mutual risk sharing is a transaction where instead of passing the risk on to an operator like conventional insurance, the risk in
takaful is shared by every participant.
The main concept of insurance is compensation of loss. Any insurance policyholder will be compensated once they lose something.
In takaful, the concept is mutually helping each other (ta’awun). Members will get together to help other members should they incur any losses.
Hope you now have a better understanding of takaful and insurance, and why the term Islamic insurance is often used.
About the Author
Dr Haji Razli is a Senior Lecturer with Azman Hashim International Business School (AHIBS) at University of Technology Malaysia (UTM) and an Adjunct Fellow with IIUM Institute of Islamic Banking & Finance (IIiBF) at International Islamic University Malaysia. He is also the Honorary Secretary of the Association of Senior in Islamic Finance (ARIF).