Takaful vs. Conventional Insurance from the Risk and Solidarity Perspective

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1. Conference : Proceedings of the 30th International Business Information Management Association Conference, IBIMA 2017 - Vision 2020: Sustainable Economic development, Innovation Management, and Global Growth At: Madrid, Spain Takaful vs. Conventional Insurance from the Risk and Solidarity Perspective Rusni Hassan Associate Professor and Deputy Dean at IIUM Institute of Islamic Banking and Finance (IIiBF), International Islamic University Malaysia. hrusni@gmail.com Syed Ahmed Salman Research Scholar at IIUM Institute of Islamic Banking and Finance (IIiBF), International Islamic University Malaysia. salmaniium@gmail.com Abstract In conventional insurance, the basis of the contract is not mutual help where each of the policy holders contribute money to help one another when they face difficulties; rather the insured transfers their risks onto the insurer, who in return transfers the same risks onto the reinsurance operators. Hence, the contractual relationship in conventional insurance is not based on risk sharing where each and every one supports and helps the other, but instead on risk transfer which fosters an atmosphere of selfishness in protecting each individual party. Furthermore, the conventional insurance practice is embedded with unethical elements, which include but are not limited to: investment in Shari’ah non-complaint elements, gambling, uncertainty, and usury. In essence, it is some of the practices related to insurance that are against Shari’ah, not the concept of insurance itself. When something is not in conformity with Shari’ah, unethical consequences arise. In an effort to avoid the unethical and Shari’ah non-complaint issues in insurance practices, one practical solution is to replace conventional insurance with a Shari’ah compliant version known as Takaful. To ensure the preservation of a harmonious society, Shari’ah aims to mould our conducts in all aspects of our rituals and daily life activities. Takaful operators need not to be anxious of loss of profits since Shari’ah compliance does not equate to financial loss because Islam actually encourages business activities and trade where transactions are also compliant within the boundaries of Shari’ah. With Takaful functioning as an alternative counterpart to conventional insurance, solutions will be drawn up for many problems. For instance, major prohibited elements which include uncertainty, usury, and gambling will be eradicated. Additionally, prohibited business activities are steered away from Takaful scheme. What makes Takaful contracts totally unique compared to conventional insurance contracts is that the latter is based on the exchange of risk whereas the former is based on the concept of risk sharing. Setting aside the financial gains, moral and societal gains are also expected from Takaful where solidarity among the society is promoted with the concept of mutual cooperation put into action throughout the community. Keywords: Risk Sharing, Solidarity, Takaful & Insurance 1.0 Introduction Conventional insurance is based purely on the element of interest, whether it is life or general insurance (Salman, 2014; Salman & Htay, 2014; Ali et al., 2014; Kasim et al., 2015). The main objective of the insurance company is to generate interest income by investing its funds in traditional investment instruments. The policyholders have to pay surcharges if they fail to pay their premium on time. Moreover, when life insurance policy reaches its maturity or death claim, the amount payable under such policy is much more than the amount received by way of premium. Both in general and life insurance, the insurance funds are invested in instruments which are interest based (Qaiser, 2014). Conventional insurance is based on the uncertainty whether it is life or general insurance (Htay & Salman, 2014; Kasim et al., 2015), whereby the policyholders pay the premium with the expectation that they will be able to claim in the case of misfortune and future loss. In this situation, it is not clear for what the policyholders are paying. The future loss is not sure, and hence, there exist uncertainty of the substance 1
2. Conference : Proceedings of the 30th International Business Information Management Association Conference, IBIMA 2017 - Vision 2020: Sustainable Economic development, Innovation Management, and Global Growth At: Madrid, Spain for which the policyholders are spending their money (El- Gamal, 2000; Kasim et al., 2015). Insurance involves gambling because it is the game of gain or loss. If the policyholders make the claims, it will be the loss for the insurance companies, and if there is no claim, the insurance companies make a profit and the policyholders will get nothing and lose their premium (Salman & Htay, 2014). Also, Actuaries use the statistical method to estimate the probability of gain for the insurance companies, and then the underwriting process and premium is determined. Hence, it is trying to ensure that insurance companies are in the upper hand to benefit more from the game (Kasim et al., 2016). When the insurance operator receives the premium, it will be invested in income-generating activities such as investment in short-term deposit or companies by buying the shares. The investment revenue is generated out of prohibited activities such as investing in the interest-bearing loan or liquor business. Conventional insurance operators are not currently restricted on where they can invest. They can invest anywhere regardless of Shari’ah compliance (Salman, 2014). The practice of insurance involves interest, uncertainty, gambling and involvement in prohibited elements. Thus, Shari’ah scholars unanimously agreed on the prohibition of insurance and the Muslim scholars introduced Takaful to replace the conventional insurance. Therefore, this paper shows how Takaful is free from prohibited elements and based on risk sharing and solidarity. 2.0 What is Takaful: A Brief Introduction If the history of takaful is examined, it can be traced back to Prophet Muhammad (PBUH). The concept of Al-Aqīlah was established by the Prophet (PBUH) in the decision given in a dispute among two women from the tribe of Huzail (Hassan, 2011; Salman et al., 2015 Salman et al., 2015). Al-Aqilah is a concept of mutual assistance by the members in the society whereby they jointly contribute for the payment of compensation the in the event that any of the member committed murder and has to pay compensation to deceased family. The notion and concept of takaful initiated from the idea and concept of Aqīlah and it has been experienced since the Prophet’s (PBUH) through to the present day (Htay & Salman, 2013; Salman et al., 2017; Salman et al., 2017). It is obvious that nowadays insurance has become a necessity rather than a luxury. Overall, the growth of the insurance industry is tremendous due to employment and regulatory requirements, which force us to buy it (Salman et al., 2017). The concept of insurance is against Islamic principles and also with ethical perspective (Htay & Salman, 2014). In Islam, something is not in line with Shari’ah, it will incur unethical consequences from the Islamic perspective. The objective of Shari’ah is to moul our conducts in all aspects of our ritual and daily life activities in order to ensure that we can stay in the harmonious environment and society. For insurance to be a perfect tool, it should be transformed into Takaful. Since Takaful has been introduced as an alternative to conventional insurance. Takaful is an insurance product which is free from prohibited elements. Takaful is based on the principle of Taʿāwun (cooperation) and Tabarru (mutual help) where the risk is shared collectively by members of a policy (Billah, 2002; Maysami & Williams, 2006; Usmani, 2007; Htay & Salman, 2013; Faruk & Rahaman, 2015; Htay & Salman, 2015). The contract used in Takaful differs completely from conventional insurance because the former is based on risk sharing while the latter is based on the exchange of risk. The policyholders in Takaful are helping one another by mutually giving the protection in the event that anyone of them have met with a misfortune. With that, Takaful will be able to promote the solidarity and brotherhood among the society as well as practice of mutual and cooperative concept in the community. 2
3. Conference : Proceedings of the 30th International Business Information Management Association Conference, IBIMA 2017 - Vision 2020: Sustainable Economic development, Innovation Management, and Global Growth At: Madrid, Spain Moreover, Takaful is based on mutual-cooperation which can bring the society together, inject the harmonized atmosphere, consider the needs of society for the long-term success and sustainability of the insurance operators. Consequently, unfairness and unethical practices can be minimized to some extent. Regarding surplus distribution, surplus is profit in insurance and the insurance operators take it without sharing with the policy holders. However, in Takaful, the surplus is shared among the participants, and so it is a good and unique practice. Takaful contribution is structured in such as a way that some portion of the contribution is allocated to the risk sharing fund from which the claims are paid. This fund is based on the concept of risk sharing among the participants under the supervision of Takaful operators to help the financial needs of the participants according to the terms and conditions of Takaful contract. It can be assumed to be the unique features of Takaful because, in the conventional insurance, the policy holders pay the premium and consequently, it will be the revenue for the operators, and when there is any claim, it is recognised as expenses for the operators. Thus, in the later practice, there is no concept of risk sharing. Takaful is not a religious product, but rather, it is a commercial product. It is suitable for anyone, regardless of religion. Its importance and significant role in the finance industry is tremendous. It can be remarked that takaful has a more value-added substance than insurance and it is the ultimate solution for anyone who is seeking financial protection for their potential misfortune . 3.0 Conclusion Like insurance, takaful can provide financial assistance while remaining free from the prohibited elements involved in the insurance practices. In addition, Takaful is known as ethical insurance. It is based on the concept of mutual help and cooperation and it fosters solidarity and brotherhood among the participants. References Ali, M.M., Hassan, R. and Hasan, S.M., 2015. An Exploratory Study of Shari'ah Issues in the Application of Tabarru' for Takaful. Global Review of Islamic Economics and Business, 1(3), pp.164-174. Billah, M.M.S., 2001. Takaful (Islamic insurance) premium: A suggested regulatory framework. International Journal of Islamic Financial Services, 3(1). El-Gamal, M.A., 2000. A basic guide to contemporary Islamic banking and finance (Vol. 1). Houston, TX: Rice University. Faruk, O. and Rahaman, A., 2015. Measuring Efficiency of Conventional Life Insurance Companies in Bangladesh and Takaful Life Insurance Companies in Malaysia: A NonParametric Approach. Management Studies and Economic Systems, 2(2), pp.129144. Hassan, R., 2011. Islamic Banking and Takaful. Pearson Custom Publishing. Htay, S.N.N. and Salman, S.A., 2013. Viability of Islamic insurance (takaful) in India: SWOT analysis Approach. Review of European studies, 5(4), p.145. Htay, S.N.N. and Salman, S.A., 2014. Introducing Takaful in India: An Exploratory Study on Acceptability, Possibility and Takaful Model. Asian Social Science, 10(1), p.117. Htay, S.N.N. and Salman, S.A., 2015. Future Outlook of Takaful (Islamic Insurance) in Canada. Banking & Finance Law Review, 30(3), p.541. Kasim, N., Htay, S. N. N., & Salman, S. A., 2015. Risk-Sharing and Shared Prosperity Through Takaful. Middle-East Journal of Scientific Research 23 (11). 3
4. Conference : Proceedings of the 30th International Business Information Management Association Conference, IBIMA 2017 - Vision 2020: Sustainable Economic development, Innovation Management, and Global Growth At: Madrid, Spain Kasim, N., Htay, S.N.N. and Salman, S.A., 2016. The Religious Perspective of Takaful as Ethical Insurance. Mediterranean Journal of Social Sciences, 7(4), p.96. Maysami, R.C. and Williams, J.J., 2006. Evidence on the relationship between Takaful insurance and fundamental perception of Islamic principles. Applied Financial Economics Letters, 2(4), pp.229-232. Qaiser. R., 2014. Islamic Insurance. Retrieved January 20, 2012. http:// www. Niapune .com/Research/TAKAFUL%20INSURANCE.pdf. Salman, S.A., 2014. Contemporary Issues in Takaful (Islamic Insurance). Asian Social Science, 10(22), p.210. Salman, S.A., Ab Rashid, H.M. and Htay, S.N.N., 2017. Viability of Introducing Takaful (Islamic Insurance) in India: Views of Politicians. Banking & Finance Law Review, 32(2), p.389. Salman, S.A., Rashid, H.M.A. and Hassan, R., Awareness and Knowledge of Insurance and Takaful in India: A survey on Indian n Insurance Policy Holders. Man In India, 97(11), pp.127-140. Salman, S.A., Rashid, H.M.A. and Htay, S.N.N., Takaful (Islamic Insurance): When We Started and Where We are Now. International Journal of Economics, Finance and Management Sciences, 3(5-2): 7 15. Salman, S.A., Rashid, H., Majdi, A. and Htay, S.N.N., 2015. The Policy holders' knowledge on Insurance and Takaful: An Exploratory Research in India. International Journal of Research in Commerce & Management, 6(6). Usmani, M.J., 2007. Takaful paper presented at securities and exchange commission of Pakistan. In Takaful conference in Karachi. 4 View publication stats