Concept of Takaful

Transcription

1. Concept of Takaful Kazi Md . Mortuza Ali Chief Executive Officer Prime Islami Life Insurance Limited Takaful means joint guarantee, whereby participants in a scheme agree to mutually guarantee each other against defined losses. Takaful Act 1984 of Malaysia defined takaful as, “a scheme based on brotherhood, solidarity and mutual assistance which provides for mutual financial aid and assistance to the participants in case of need”. However, in order to get any assistance and aid under the scheme, the participants mutually should agree to contribute for that purpose. Under takaful scheme, the participants agree to donate a portion or the whole of takaful contribution to a specific fund, which enables him to fulfill his obligation of mutual help. The fund, thus created is used to meet the commitment of joint guarantee should any of the participants suffers from a defined loss. Thus, a takaful contract is basically a contract of cooperation and mutual help. The fund belongs to participants and takaful operators manage this fund as trustee to provide assistance or compensation to the participants in the event of a loss suffered by any of the participants. Islamic Financial Services Board (I.F.S.B.) has defined takaful as an arrangement, “whereby a group of participants agree among themselves to support one another jointly for the losses arising from specified risks. In a takaful arrangement the participants contribute a sum of money as tabarru commitment into a common fund that will be used mutually to assist the members against specified loss or damage”. The Accounting & Auditing Organization of Islamic Financial Institution (AAOIFI) defined “Islamic insurance as a system through which the participants donate part or all of their contribution which are used to pay claims for damages or losses suffered by some of the participants”. In Bangladesh, Insurance Act 2010, defines “Islami insurance business” as “insurance business” carried on according to the “Islami Sariah”. Details of Islami insurance are supposed to be guided by Takaful Rules. Takaful has also been defined as a “contractual arrangement between a participant (insured) seeking protection against a defined risk, from a takaful operator(insurer)” (Tobias Frenz 2010). Takaful is a unique system of mutual risk sharing, and concentrates on providing maximum assistance to the unfortunate. Takaful provides that profits should be clean and non exploitative. The ethical principle on which takaful is based bring the takaful operators close to their customers and to the true spirit of mutual cooperation, brotherhood and solidarity. The ethics of cooperation among people within the spirit of brotherhood, solidarity and cooperation is very clearly said in the Quran. “Help you one another in goodness and piety but do not help one another in sin and transgression ……………….” (Sura Maidah 5:2)
2. Cooperation among a group of people , for the sake of taking care of any one of them is the essence of takaful. Takaful resembles to solidarity of a group of people. Three basic ingredients of takaful are, brotherhood, solidarity and mutual help. This is illustrated below: Under takaful contract, the policyholders pay a donation as “tabarru” to a cooperative fund with the intention that all the participants of the scheme will be entitled to receive financial help or compensation from the fund. The amount of contribution differs from one participant to another based on the degree of risk in general takaful and actuarial calculation in family takaful. Policyholders (participants) are entitled to receive any surplus resulting from the operation of this common fund. There is no unified system to operate the treatment of surplus/deficit. Takaful fund is a separate fund that does not belong to the Takaful operator ( the takaful company) or its shareholders. Generally speaking, the fund is owned by all the participants who have donated financial contribution to the fund. Thus, takaful is similar to mutual insurance. The concept of “tabarru” (takaful donation) is the pillar under the takaful system. The word tabarru literally means donation. It is a “shared responsibility and guarantee” principle of takaful. This is the most important factor which distinguished takaful from conventional insurance. It is “Amalus Saleh” (good deed) of the participant, through helping each other. The underlying concept of tabarru in takaful contract is different from the literal understanding of hibah (gift) or sadaquah (charity). Tabarru is actually a donation which is conditional to provide assistance and compensation to participants of the takaful scheme. It is an obligation and commitment to pay the defined amount. Shariah allows that a donation may be restricted by or subjected to certain terms and conditions, and may be allocated for specific purposes.
3. From an actuary ’s perspective, the tabarru is the participant’s contribution to a risk pool that ultimately will be used to pay specified claims of participants who contribute in the pool. The risk pool can pay for claim to participants who has duly paid his tabarru. The risk pool is not accessible to others. The amount of tabarru need to be determined by an actuary, who will determine it by using a cash flow model from observance of past experience and mortality table. The amount of tabarru is fixed by estimating the risk that the participant brings to the takaful risk pool. The actuary should try to ensure that all participants contribute fairly to the risk pool. The tabarru is calculated mathematically as sufficient to cover the risk in commensuration with the probability of claim. In “general takaful” and “family takaful” business, tabarru is a contract where a participant agrees to donate a predetermined percentage of his contribution to a Takaful fund. This concept eliminates the element of gharar (uncertainly) from the takaful contract. One reason, conventional insurance is considered not permissible in Sharia is that there are elements of uncertainty (gharar) in the insurance exchange contract. In conventional insurance, for a certain premium, the insured is covered for financial loss on the occurrence of a contingent event. In this contract, both the amount of financial loss and whether the insured event will occur are uncertain. To address this issue, concept of tabarru has been incorporated in the takaful system, whereby a donation is being paid into the takaful fund for the purpose. Tabarru, under takaful system, is not a premium for meeting loss, but a donation i.e. gratuitous contribution for a noble purpose to help each other. The money collected from each member or participant is to be used for the purpose of assisting fellow participants who require assistance according to the terms agreed and as long as these terms are not in conflict with Shariah. It is the principle of shared responsibility and shared guarantee of the participants for a common cause. Wherever, one of the members suffers a defined loss and makes a legitimate claim, takaful operators would settle the claim by using funds from the tabarru pool. In case of retakaful, the contribution for retakaful shall also be paid from this pool fund. In the meantime, the funds in the pool are to be invested in Shariah compliant investment portfolio. Islam accepts and allows this principle of reciprocal compensation approach and joint guarantee. The objective of takaful is to pay defined loss from a defined fund. Each participant who needs protection must have an intention to donate to other participants faced with difficulties. Therefore, takaful system provides that each participant contributes into a fund that is used to support one another where each participant contributing sufficient amount to cover expected claims. Tabarru is basically discretionary. However, commitment to donate in takaful pool is necessary in order to promote cooperation which takaful aims to achieve. Commitment to pay tabarru is fundamental to Islamic insurance or takaful.
4. Concept of cooperation Takaful is based on the concept of “Tawoon” or cooperation. Participants mutually agree to assist each other financially in case of certain defined needs of takaful contract by contributing to a common fund. By jointly guaranteeing each other, the participants are in fact both the insurer as well as insured at the same time. The takaful system stresses the spirit of cooperation and joint responsibility among participants. The basic notion of takaful is to provide an avenue to share responsibility, solidarity and mutual cooperation. Takaful is founded on the basis of cooperation and mutual help. The emphasis is on togetherness in striving for common good. Both the operator and the participant mutually agree to a lawful cooperation. In principle, takaful system is based on mutual cooperation and assistance between groups of participants who agree to mutually guarantee among themselves. This concept per-dates the Islamic era when the tribes used to help the needy on a voluntary and gratuitous basis. The merchants of Makka used to pool funds for victims of natural disaster, piracy etc. In any society, an individual feels the necessity of cooperation in realizing peoples social and economic well being. Cooperation among a group of people, for the sake of taking care of any one of them who may be subject to any mishap is expected and much desired. Takaful is a form of cooperative risk sharing using charitable donations. The policyholder or insured called participant, pay a premium (contribution) to a fund as donation for those who suffer losses. The policy holders are then entitled to receive a surplus/profit from the cooperative insurance fund. They will also make up for any deficits. The premium or contribution will differ, based on the degree of risk. It is based on Shariah tenets which state that if gain is desirable; loss should be acceptable. There should be no ambiguity and there should be no deception due to ignorance or absence of information. Mutuality or cooperative risk sharing is the core of Islamic insurance (takaful). The first relationship is established through a mutual insurance contract between policyholders (participants) considering the concept of donation (tabarru). The second relationship is established between the participants and the takaful operators through a concept of trustee and agency contract wherein, takaful operators are to manage the investment fund and tabarru fund. To ensure compliance with Shariah, any takaful company (operator) need to have a formal mechanism in the form of an independent Shariah Supervisory Board (S.S.B) which will provide Shariah guidelines to the operators. The S.S.B. is not involved in any day to day operations. It delegates and supervise the tasks to executive called Murakib (Shariah compliance and audit team). This can be shown from the following diagram:-
5. The main role of the Shariah Board is to ensure that all takaful operations are in accordance with Shariah principles . The Shariah Board trusts that the takaful operator (the Board of Directors and the Management) would abide by the Shariah rulings and principles in conducting its operations. The whole objective of takaful is to establish “tawoon” (cooperation) which protects the participants against the perils of losses. While managing the risk fund, the takaful operator is supposed to act as a cooperative rather than a profit maker. However, the operator can generate income by investing the funds as per Shariah guidelines. In takaful system, shareholders fund and policyholders fund are kept separate. The operators relationship with the shareholders is equity based. The operator acts as agents or managers while managing the tabarru fund and as mudarib or wakil while investing the funds. Takaful operator acts as Mudarib/Wakil or both for underwriting, investment and administration. Types of Takaful Takaful can be divided into general takaful (non-life insurance) and family takaful (life insurance). Family takaful deals with the provision of financial help to the participants and/or their family in the event of misfortunes that relate to the old age, death or disability of the participants. In this case, T.O. is engaged in a long-term relationship over a defined number of years with the takaful participants. In family takaful, the paid contribution is segregated into two accounts. The first is the participants investment fund (PIF) and the second is the Participants Risk Fund (PRF). The term P.R.F. is also referred to as Participates Special Account (P.S.A.). The purpose of PIF is capital formation through regular savings. There are several short-term family takaful products without savings element (group, term etc), wherein all takaful contributions are considered as tabarru and credited direct to P.R.F.
6. General Takaful Schemes are basically contracts of joint guarantee on a short term basis (normally one year) providing mutual compensation in the event of specified type of loss. The scheams are designed to meet the needs for protection of individuals and corporate bodies in relation to material loss or damage resulting from different man made and natural disasters inflicted upon real estates, assets and belonging of participants. The entire takaful contribution of participants in these cases are pooled into the PRF under the principle of tabarru. A takaful operator is supposed to be the Mudarib/Wakil or both depending on which model of takaful is adopted. T.O. administers the PIF and or PRF on behalf of the participants, and in return will be remunerated via fees and or profit share arising under a partnership contract (Mudarabah). A family (life) takaful operator manages three funds i.e. shaseholders fund, participants investment fund and participants risk fund. While a general takaful operator manages two funds viz shareholders fund and participants risk fund. Shareholders fund consists of paidup capital, subsequent capital injections, management fees and share of profit from investment fund. All management expenses and shareholders dividends would normally have to be borne by this fund. Participants investment fund constitutes a part of participants contribution after deducting the tabarru amount. This fund is managed by the operator and they are remunerated for this purpose by way of fees and or share of profit. Participants risk fund is the takaful donation of all the participants to mutually assist all in the scheme (when one suffers a misfortune). In a family takaful operation both participants fund and shareholders fund are managed separately as follows:
7. In general takaful also the operator manages two funds (shareholders and participants) separately. In this case entire contribution is treated as tabarru and constitutes the participants risk fund (PRF) or takaful fund (TF). The takaful fund is owned by the participants jointly as opposed to the shareholders in a conventional non-life insurance company. The profit of participants investment fund (PIF) in case of family takful operation will usually be distributed to participants and also may be shared with operator under Mudarabah contract. The surplus of participants risk fund is generally used to build up a claim contingency reserve (CCR) within the risk fund to smooth claim experience over a time. The claims contingency reserve (CCR) acts as a buffer against an adverse claim experience in future. This is necessary to provide protection for participants. Any possible deficit in the PRF will be met first from the CCR before “karje hasana” (interest free loan) is sought from SHF. When profit/surplus form PIF is shared between shareholders and participants the rate is usually 10% for shareholders and 90% for participants as per relevant Insurance law. If and when surplus of takaful fund (general takaful) or PRF (family takaful) is shared, it varies as per contractual terms of the scheme. Distribution of Surplus Surplus arises form takaful fund/participants risk fund after paying incurred claims, reinsurance contribution and setting aside contingency reserve. The question arises how should the surplus be distributed and to whom. Surplus distribution is a contentious issue in takaful. Two juristic views have surfaced and dominated the takaful world in the Middle East and South Asia. One view is that the underwriting surplus should not be shared between the takaful operator and the participants. The other view validates the sharing. It is argued that there is nothing wrong in sharing the underwriting surplus in the absence of any textual Shariah principle disapproving such a practice. Those who agree for prohibition of sharing underwriting surplus with the TO, states that shariah allows sharing of profit (return of investment) of participants investment fund as well as participants risk fund under Mudarabah contract. The underwriting surplus should go back to the participants or be used to establish new reserves or to lower the tabarru (takaful donation). Presently, takaful operators use several modes of surplus distribution to participants. First one is the pro-rata mode, wherein it is distributed to the participants in proportion to the contribution made by them, irrespective whether one has received any claim or not. Another mode suggests to distribute the surplus amongst those participants only who did not make any claim form the risk fund. In Malaysia, Mudarabah was the first operational model. The provision or condition for profit distribution between Mudarib and participants in takaful is one pillar of Mudarabah contract. It is necessary for the validity of the contract that the parties agree on a definite portion of the profit to be shared. When Mudarabah is applied in a takaful contract, a profit sharing has to be embedded, otherwise the contract
8. will be invalid . However, some controversy had arisen regarding distribution of profit from tabarru fund as the very purpose of tabarru is not to make profit. Therefore, practitioners have been using the word surplus instead of profit for distribution from takfull fund (risk fund). When wakalah model came into practice, the issue of surplus distribution was discussed again as under wakalah contract the operator is not supposed to participate in surplus or profit from risk fund (tabarru). However, in practice, takaful operators distribute surplus to participants and in many cases to shareholders also. This is done as incentive to operator. It is argued that surplus be treated as performance fees as it is the result of excellent management of risk portfolio. So far the family takaful is concerned, profit sharing of Mudarabah fund (participants own fund) is perfectly all right. But, in case of general takaful, there is no savings element and, therefore, there is no scope of profit distribution to operators. The only pool managed by a takaful operator is the risk pool or the takaful fund. In general takaful, there is no guarantee that good results in any particular year will be followed in the coming years. So, the operators create reserves for bad years. Only after several years, one can asses precisely as to whether a surplus has arisen for distribution amongst the participants. Even, if there is surplus, it may create difficulties is deciding the fairest way of distributing surplus among participants. Many experts feel that there is nothing wrong with surplus distribution as far as Shariah compliance and regulation is concerned. There is no specific Shariah ruling that prohibits surplus distribution under takaful, as long as it is distributed among the parties entitled to and without exploitation by one party over the other. Mudarabah (partnership) Model The Mudarabah principle of trade as per Shariah is a partnership between two parties where one party provides capital (rab-ul-mal) and the other party extends necessary management to operate the business venture in the capacity of trustee or manager of the fund to earn profit for the venture by investing the capital. Second party is the Mudarib ( managing the capital under contract) i.e. partner to share profit without providing capital for the venture. The Mudarib can claim share of profit only and not salary, commission or any other remuneration. Mudarib bears share of loss, if and when loss arises, he is not remunerated in any way. Mudarib is free to take any decision to manage the business for the betterment of the Mudarabah contract, wherin provider of capital is in real sense a sleeping partner only. However, the Mudarib must exercise prudence, due diligence, business norms, customs, rules and lows relating to the Mudarabah contract. There can be of course’s restricted Mudrabah contract wherein the provider of capital restricts
9. the operation under contractual terms relating to product , type of investment, market etc. In this case the provider of capital should not interfere in day-to-day operation of the business. The Mudarib, as trustee needs free hand in decision making and manage the operation to bring best output and ensure reasonable profit. Restricted Mudarabah is permissible in Mudarabah as it helps the provider of capital to protect his/her fund from engaging into high risk venture. The capital owner may target moderate or low profit with less risk involved in investment. Observers suggest that restricted Mudarabah is more suitable for takaful or Islamic insurance, as this would ensure cautions investment of the takaful assets. Moderate and stable profit is more desirable in takaful business than adopting policies which aisus at maximum profit at high risk. Although loss under Mudarabah contract is borne by the capital provider, the Mudrib can be held responsible for such loss, if he fails to abide by the terms of the contract, or do not exercise due diligence mouse fund, or act negligently. The profit sharing ratio between the takaful operator (Mudrib) and the participants as provider of capital need to be set clearly in advance in the contract. Duration of Mudarabah investment, mode of fund utilization (restricted/unrestricted), the mode of operation of the fund under Shariah principles should be clearly spelled out in the Mudarabah contract to ensure accountability and transparency of the system. Wakalah (Agency) Model As an alternate to Mudarabah , Wakalah contract can be used to operate takaful system. Wakalah means agency. In the Wakalah contract the takaful operator acts as wakeel on behalf of the Muwakkil (participants). The Wakil is supposed to protect the interests of the principlal ( Muwakkil) under Shariah guidelines. The wakeel can act to transact business on behalf of participants as per permissible modes and process of investment. He does not take share of profit but receives commission upon performance of the contractual terms. The terms of the contract and operational guidelines should be clearly spelled out with full transparency. Agent act, as representative of the principal and is supposed to act as per authority given to him. The principal is liable for the consequences of the acts of the agent, so far the authority has been entrusted to the agent. If the agent acts beyond his authority, the principal is not liable. An agent cannot delegate his/her authority, unless he/she is permitted by the principal. An agent under Wakalah contract acts as trustee and not a guarantor. Therefore, the agent is not liable for loss or damage of takaful assets unless he is found negligent and or acts irresponsibly. The agent is supposed to use reasonable care to serve and protect the interest of the principal and as such should ensure best investment at the least risk. If the agent fails to perform his duties and discharge his responsibilities properly, he will be liable to the principal for any losses incurred thereupon.
10. The main distinction between Wakalah and Mudarabah is the extent of control of operation by the Rabul-mal (capital owner). In wakalah concept, the agent agrees to act as per the directions of the principal. This distinguishes the role of the Mudarib who acts independently and the capital owner has no right to control or supervise the Mudarib. Another important distinction is risk and profit sharing. Mudarib has right to share profit whereas Wakil is entitled to wakalah fee only on commission basis or on lump-sum basis, irrespective of profit or loss in investment. This means a pre-determined cost is involved in Wakalah model. The Mudarib shares in the risk of investment as he/she is not remunerated when there is a loss. The agent does not take any risk, in case of loss. However, the agent should be held responsible for loss or damage of assets or money because agent acts as trustee, but the agent cannot be held liable to compensate. Hybrid Model Consedering pros and cons of Wakalah and Mudarabah, hybrid system (model) has evolved in takaful market, although some experts feel that restricted Mudarabah is more suitable for takaful operation, in comparison to pure Wakalah. On the other hand, it is argued that a key advantage of wakalah over a Mudaraba is that the wakala fee can be collected upfront and support acquisition cost of new business. This also does not help to increase business, because high wakalah fee will be unattractive to participants and it may hinder sales ultimately. Mudarabah model, on the other-hand, might be more attractive as the profit is shared, but it becomes very difficult for the takaful operator to bear the cost of acquisition. If significant new business is written or if the company is in its early years with no income from existing inforce business to subsidies the shortfall. This is why there has been a trend towards a Wakalah model for underwriting and the Mudarabah model for the investment part. This hybrid model is accepted by the vast majority of Shariah scholars. In Bangladesh, in the proposed Takaful Rules, it has been stated that unless otherwise stated, the model to be followed by the takaful operator shall be based on the combination of Wakalah and Mudarabah. It is perhaps a sensible choice specially for family takaful savings products. When Sudan launched its takaful operation based on the “tawoon” principle, it adopted the wakala model. However presently, in most of the Middle-east, the hybrid model is being used. This is also the case for South Asian countries like Malaysia, Indonesia, Brunei etc, although when takaful was launched in those countries, they used to follow pure Mudarabah model. From the operation point of view, hybrid model is more attractive to takaful operator, as it ensures three sources of income, comprising, wakalah fee, profit from Mudarabah investment and profit from shareholders fund. The participants will get share of underwriting surplus as well as profit from the investment of Takaful fund/Mudarabah fund.
11. Operational flow charts of family takaful and general takaful under hybrid model can be seen in the following two diagrams :-