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Posted on Asiff Hussein on March 9, 2009 // Leave Your Comment

Capt.Jamil Akhtar Khan is the CEO of Takaful Pakistan. With a background in the Merchant
Navy, Capt.Jamil commanded vessels of the national flag carrier PNFC before switching over to
insurance. Before joining Takaful Pakistan he served with New Jubilee Insurance where his
interest in Takaful was evoked. He is regarded as a pioneer in the introduction of Takaful to
Pakistan, not only by facilitating its adoption by the corporate sector, but also by helping frame
the rules governing Takaful in his country with the Ministry of Commerce, resulting in the
Takaful rules of 2005

Early Origins

Takaful is not something new to the Islamic world. It has been going on for centuries, ever since
the days of the Holy Prophet Muhammad (Peace Be Upon Him) and the early Caliphs. We know
that in those days there were ships and trade caravans and they used to be exposed to the same
risks that we face today. Ships could be sunk, caravans could be raided or catch fire etc. Given
these dangers to trading activity, the early pioneers of Takaful were wise enough to formulate a
system of mutual protection so that the members of a particular caravan or trade delegation could
be assured of recovery in case they suffered a loss due to unavoidable circumstances. Thus the
members of these trading enterprises would enter into a formal pact stipulating that in case of
loss to one party, the others would contribute to make up that loss.

The only essential difference between Takaful at that time and Takaful today is that whereas they
used to pay only after the loss, we today charge a considerate amount of what is known as a
contribution before the loss, and at the end of the year after all the claims have been settled, it is
returned back to the participants.

This early practice of Takaful or mutual indemnification even found expression in the first
Constitution of Medina (Mithaq al-Madina) in the days of the Prophet and was the second
system that was formally institutionalized by the Caliph Umar, the first being the Baitul Mal or
Public Treasury. These developments at the state level meant that Takaful came to be formalized
into a more secure system, with more accountability and more checks and balances. During this
period, a number of Takaful products were evolved based not only around diya or blood money,
but also dawaniya which was a sort of professional indemnity to governors and state
functionaries.

Thus the system of Takaful became an integral part of trade and commerce in those days and this
situation continued for several centuries upto the end of the First World War. The fall of the
Ottoman Caliphate shortly thereafter meant that Takaful, along with the other state institutions
that had safeguarded Muslim interests fell on bad times. While Takaful receded to the
background, conventional insurance imposed by the western colonial powers took its place, and
this continued for several decades. It was only in the 1970s with the revival of Islamic banking
modes in the Middle East that modern-day Takaful also developed. The first Takaful company
was set up in Sudan in 1979 which was almost simultaneously followed by another set up in
Bahrain. The rapid growth of Takaful ever since, even in the non-Muslim world, only goes on to
prove that it has withstood the test of time and is a viable alternative to conventional insurance.

Definition of Takaful

The word Takaful is derived from the Arabic root word kafala µmutual guarantee or protection¶
and this drives home the basic difference between Takaful and Conventional Insurance. This
difference is two-fold. One is the difference in concept and the other is the difference in contract.

The conceptual difference is that conventional insurance by its very definition is a risk-transfer
mechanism. Takaful on the other hand does not entail risk transfer, but rather the socially more
responsible task of risk-sharing. As for the contractual difference, if one looks at any insurance
policy, it is a contract because it fulfils the ingredients of a contract and there exist two parties to
the contract. There is an insurable interest involved and there is a consideration by way of
premium. Therefore it is a contract of sale. In consideration of premium, the risk is transferred to
the insurance company and in case of loss the insurance company pays cash in compensation for
such loss the value of the item concerned. It is also a contract of exchange where money is
exchanged for money.

Takaful on the other hand is not a risk transfer mechanism. The contract of Takaful is not a
contract of sale or of exchange, but is rather a membership contract. One pays a contribution to
become a member of a common pool and by virtue of becoming a member of that fund such a
person is entitled to certain benefits under the rules of that fund. By this means Takaful
distributes risks and losses to a larger number of participants which could mitigate the otherwise
very damaging losses if borne individually. When we compare these two forms of insurance,
conventional insurance and Takaful, we would soon come to realize why one is prohibited and
the other permitted. In Islam, money for money exchange is prohibited because there is an
element of direct interest that comes into play since there is always a lesser or greater amount on
one side of the balance sheet.

Thus if you were to pay a premium of 10 Euros and get a claim for 10,000 Euros, you are getting
far more than you have given and in the same currency that you exchange. So it is an exchange
of the same species and it is getting more than what you have given. Hence it is direct Riba.
There is also indirect riba in case of investments where conventional players can invest in riba-
bearing instruments, while Takaful companies can only invest in Shari¶ah-compliant, non-
interest-bearing instruments. However, it must be stressed that investment is not the core
business of an insurance company. It is a side business. The main core businesses are risk
management, underwriting, claims handling etc.

Besides, there is an element of maisir or gambling in conventional insurance. This is because the
insured would lose the money paid for the premium when the event which has been insured
against does not occur and because the company would suffer a deficit if the claims happen to be
higher than the premium paid. Since the gain of one party here is contingent upon the loss of the
other or vice versa, it is, to put it in simple terms, gambling, and hence prohibited. As Lord
Mansfield observed in Carter v.Boehm ± 1766): ³Insurance is a contract upon speculation. Good
faith forbids either party from concealing what he privately knows, to draw the other into a
bargain, from his ignorance of that fact, and his believing to the contrary´. In the case of Takaful,
however, there is no such conflict of interests as it is a common fund. If you draw out of it by
way of benefit in the case of a claim, it is drawing out of a fund of which you are a member and
to which you have contributed.

What commercially differentiates Takaful from conventional insurance and makes it

commercially more viable even to non-Muslims is the fact that there is also the surplus element
at the end of the year in the case of Takaful. The remaining money after all claims have been met
do not belong to the shareholders, but rather to the participants and therefore has to be given
back. In the case of conventional insurance, this concept is lacking. Thus Takaful is more
participatory and all concerned could benefit from this equitable arrangement.

Justification for Takaful

As Muslims we believe that one¶s destiny is ordained by Allah. At the same time we are told by
the Almighty in the Qur¶an laysa lil insani illa ma sa µaa (Man can have nothing but what he
strives for). Thus God ordains that we strive to safeguard our interests. There is also a tradition
that once an Arab bedouin proceeded to a tent along with the Prophet leaving his camel untied.
When the Prophet asked him why he did so, he replied ³I place my trust in Allah´ whereupon the
Prophet immediately admonished him ³Tie your camel first, then place your trust in Allah´. Thus
there are precautions we have to take while placing our trust in Allah. For instance, we lock our
cars while parked and shut our doors and windows when going out. One could even find a
tradition to justify life insurance. According to a hadith related by Anas bin Malik, the Prophet is
reported to have said : It is better for you to die leaving your offspring wealthy rather than
leaving them poor, asking for help from others´. This shows that to make provision for our
offspring even in our absence is a responsibility we should bear. Today¶s Shari¶ah scholars are
unanimous in declaring that there is nothing unislamic in Takaful, be it general or life.

Takaful Models

There are basically three different types of Takaful models, namely, the Mudaraba model, the
Wakala model and the Wakala-Waqf model. The Mudaraba model is based on Mudaraba, an
Islamic mode of equity partnership and is basically a risk-sharing mechanism where the surplus
is shared between the Takaful company and the participants in a predetermined manner. The
sharing of such surplus and the profit so generated may be in a ratio of 5:5, 6:4 etc as mutually
agreed between the contracting parties. Generally these risk-sharing arrangements allow the
Takaful operator to share in the underwriting results from operations as well as the favourable
performance returns on invested premiums. This model started off in Malaysia, the reason being
that in Malaysia they started with Life Takaful and the Mudaraba model was more appropriate
for life investments. This same model was continued when they entered general Takaful.
Meanwhile, the scholars in the Middle East formulated the Wakala or Agency model which is
still the predominant form of Takaful in that part of the world. The Wakala model is a fee-based
mechanism where the Takaful operator is only entitled to take out a fee upfront as the
contribution, though it may also charge a fund management fee and performance incentive fee.
Unlike in the Mudaraba model, it is not entitled to any part of the surplus, all of which belongs to
the participants. It does not participate or share in any underwriting results as these belong to the
participants as surplus or deficit.

In Pakistan, one benefit of being a late starter is that its scholars have been able to have a close
look at both models and have refined these further to constitute what is known as the Wakala-
Waqf model. The scholars who formulated this model felt that there should be a separate legal
entity on whose behalf the Takaful operator should act as an agent (Wakil) and were inspired by
the Islamic institution of Waqf or Perpetual Endowment to serve the purpose.

The Waqf is created by the shareholders of the Takaful company who would put in the seed
money. Such seed money must remain as Waqf and cannot be used for claims, though it could be
utilized for investments. The contributions received would also be a part of this fund and the
combined amount would be used for investment, with the profits so earned being deposited into
the same fund. Losses to the participants are paid by the company from the same fund while
operational expenses incurred for providing the service are also met from it. Here, both the
Takaful operator and the participants share a relationship through the Waqf. Since the Takaful
operator will manage the enterprise on behalf of the Waqf it is entitled to a Wakala or agency
fee. The participants are also governed by the Waqf rules, so that whatever claims they have,
they get by virtue of being a member of that Waqf.

Although these various models are peculiar to certain countries or regions due to the historical
developments we have outlined above, we also see some significant shifts of late. For instance,
in Malaysia, a new player, Takaful Ikhlas works on the Wakala model, showing that they are
flexible and are moving from a Mudaraba-based to Wakala model as they find it is more viable,
and there is no reason why they would not be able to effect further refinements to this model as
the Pakistani experience has shown.

New Developments

Many are the developments that are taking place in the Takaful industry worldwide. For instance,
we have BancaTakaful which is somewhat similar to bank insurance where banks and insurance
companies synergise, with banks selling insurance products over their counters and insurance
companies tailoring their products to blend with banking products such as investment
instruments.

In similar fashion, Takaful companies tailor their products to blend with banks¶ modes of
financing like in the case of Takaful Pakistan which has taken the initiative in providing
coverage to banks to cover their Murabaha contracts. This is because in Murabaha which is a
much practiced mode of personal financing involving cost plus mark-up, there is an exposure to
risk since the property would belong to the bank before it is transferred to the client and if any
loss takes place before such transfer it is at the expense of the bank concerned.
Other recent developments include Micro Takaful for crops which covers those entering into
Salam contracts for financing crops and Istisna contracts for SMEs. Micro-Takaful could also be
tailored to suit the needs of the underprivileged sections of society including blue collar workers
in the urban areas, especially in the area of heath and education. Takaful firms could also tie up
with banks operating in the rural sector, providing cover not only for the micro credit offered by
them, but also for the underlying assets. Recent times have also seen the emergence of Retakaful
as a viable and Shari¶ah-compliant alternative to Reinsurance. Just as much as Reinsurance
allows insurance companies to achieve greater capacity and balance by the geographical spread
of risk, so do Retakaful companies in similar manner. A few years ago, there existed only a
handful of Retakaful firms and hardly one or two of them were rated. Thus they could provide
only a very limited capacity, prompting the Shari¶ah scholars of the day to permit Takaful firms
to resort to conventional reinsurers as a provisional measure.

Today however most of the leading reinsurance companies like Munich Re, Hanover Re and
Swiss Re have set up Retakaful facilities. The renowned German Reinsurers Munich Re and
Hanover Re have set up Retakaful offices in Kuala Lumpur and Bahrain respectively while the
well known Japanese Reinsurers Mitsui Sumitomo and Tokyo Marine have set up theirs in
Singapore. Thus it is no exaggeration if we say that Takaful has today come of age.

Present State of Takaful

Takaful has ever since its modern-day introduction caught on in many countries and not just in
the Middle East or South East Asia. Among the latest entrants are Russia and South Africa.
Russia set up its first Takaful company in 2005 spearheaded by Renet Bekkin while 2006 saw
South Africa¶s first Takaful company being formed based on the Wakala-Waqf model. More
recently we saw the emergence of Salaam Halal, Britain¶s first independent Takaful operator. In
Sri Lanka we would find that Amana Takaful has taken the initiative in introducing many a
Takaful product to the market. What is particularly remarkable is that as much as 35 percent of
the firm¶s clientele are non-Muslims. Indeed it is a remarkable fact that during the first five years
of its existence the firm showed triple digit growth which is a record and they have continued to
demonstrate commercial viability by distributing a surplus to their shareholders.

Today there are around 150 Takaful companies operating in over 40 countries and their average
growth rate which is around 25 percent is higher than that of conventional insurance companies.

© Islamic Finance Today ± Pioneer Publications (Pvt) Ltd

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