Sharia Insurance or Takaful: What is it, Its Principles, and More

Meta description: Sharia insurance is an Islamic financial protection system. In this system, participants or policyholders share risks and help each other in covering various costs of risks.

Muslims believe conventional insurance is not in compliance with Islamic law or sharia. Due to this belief, Islamic finance developed sharia insurance or takaful. Consequently, Muslims all around the world have better ways of protecting their future.

Takaful is almost similar to conventional insurance. It offers financial protections for its policyholders. However, there are some underlying differences you can find between Islamic insurance and conventional insurance.

What is Sharia Insurance?

Sharia insurance or takaful is an Islamic financial system for future planning and financial security. Takaful participants must agree to guarantee each other and make donations (contributions) to make a mutual fund or pool.

They share particular risks based on rules of cooperation, mutual understanding, and contribution. Moreover, the takaful companies will manage the pool for the participants

Takaful is halal because it does not include al gharar (uncertainty), al-maisir (gambling), and riba (interest). In addition, it complies with Islamic religious law that explains how each Muslim is responsible to protect and cooperate each other.

1. Origin of Takaful

According to research, Islamic insurance is not a new concept in Islamic law. At the time of the Holy Prophet (PBUH), a system called aaqilah was customary in certain tribes. Aaqilah was an arrangement of mutual help.

The tribes’ members contributed something in case of natural disasters occurred. They contributed until the loss was compensated. Islamic historians found that this system has a foundation of shared responsibility, similar to the foundation of takaful.

2. Takaful Development

The concept of Takaful has attracted more numbers of Muslims to replace their conventional insurance policies with sharia insurance. It resulted in the rapid growth of Islamic insurance. In 2020, the estimated value of the Islamic insurance market was $24.85 billion.

Experts predicted that the value of the takaful market will reach $97.17 billion by 2030. They think this market will continue to flourish because 60% of the global Muslim population is constituted of young people under 25.

And they predict that the young people’s wealth will grow over time and that they can purchase takaful. In addition, you can find more insurance providers offering takaful now. Some of these providers only operate in Muslim countries, such as Dubai, Saudi Arabia, Malaysia, and Indonesia.

Meanwhile, others are big players that offer their services globally. Some insurance companies offering takaful are Standard Chartered, Allianz, AMAN, and Zurich Malaysia.

3. Takaful Models

In general, there are two takaful models practiced in Muslim countries.

  • Mudarabah Model

The insurance companies that apply for this model work based on mudarabah or an investment partnership. In this model, the participant will get profits if the insurance companies gain profit from the investment.

  • Wakalah Model

In the wakalah model, the takaful companies work based on wakalah or agent-principal relationship. Participants will get the surplus of the investment of their mutual fund. Surplus is the net of expenses or management fees.

Sharia Insurance Principles

Takaful has several core principles, which comply with Islamic law. Takaful companies and participants must follow these principles.

  • Takaful is based on tabarru or donation. It means that the insurance company uses contributions from a participant to help other participants cover their specific costs as stated in the contract.
  • Islamic insurance is based on mutual sharing of losses to eliminate the element of al gharar or uncertainty.
  • The insurers must operate by following the Islamic cooperative principles.
  • The insurers divide and maintain the contribution in two types of funds; an insurer fund and a participant fund (collectively/individually). The insurer may allocate the insurer fund in halal investment.
  • If the insurers successfully gain profits from the investment, they will distribute it to the participants based on the size of their contribution or the contract.
  • The insurers charge the participant an agreed fee to cover the operational costs.
  • Any remaining surpluses of the mutual fund belong to the participants. The insurer may distribute it as cash dividends or a reduction of future contributions.

Takaful vs. Conventional Insurance

Islamic insurance and conventional insurance have a couple of similarities and differences. Both of them offer financial securities for facing difficult times. Therefore, both of these insurance types will cover expenses and costs when their policyholders suffer from particular financial losses.

Meanwhile, the differences between Islamic insurance and conventional insurance are as follows.

1. Risk

Takaful applies a risk-sharing principle. The policyholders cover the cost of risks to each other. When a participant needs financial aid, others, through the mutual fund, will help him cover the financial losses.

However, in conventional insurers, policyholders transfer the cost of the risks to the insurance companies or insurers. Therefore, it is the insurers’ responsibility to cover the financial losses of the policyholders.

2. Investment

Takaful companies must follow a strict rule in investing the funds belonging to the policyholders. They must invest the fund only in halal investment products. However, conventional insurance companies have more freedom in investing the fund.

3. Investment Returns

Islamic insurance participants will get investment returns or profits from the insurers. Its amount depends on the amount of their contribution.

On the other hand, the investment returns in conventional insurance belong to the insurers, except for insurance policies that contain investment elements.

The Benefit of Having Sharia Insurance Policies

The main benefit of having Islamic insurance is similar to the benefit of having conventional insurance. Takaful participants do not need to worry about the uncertain conditions of the future because they have financial protection to face those conditions.

Sharia Insurance Products

Islamic insurance companies offer several products. Below are some examples of takaful products.

  • Sharia Life Insurance – This type of takaful gives a lump sum of money to the participant’s beneficiaries when the participant dies.
  • Sharia Health Insurance – This insurance covers the healthcare expenses of the participants.
  • Sharia General Insurance – It protects the participants from losses that arise due to accidents, burglary, liability, flood, fire, and other perils.

Sharia insurance or takaful is excellent financial protection. It is as good as conventional insurance. The main differences between both insurance types lie in the contract and fund management. Takaful is not only ideal for Muslims, but non-Muslims may also experience the benefit of takaful.

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