Islamonweb

Part one

It is a well evident truth that future is a mystery, thus we have little knowledge about how prosperous is our life, as well as our ventures and this uncertainty about the future, is the major propeller behind constituting Insurance. In other words, insurance is a tool to mitigate the gravity of unseen potential risk in our future life or initiative. The philosophy behind this financial product is to assist the people to confront the unfortunate incident in their life and hence to boost their morale for engaging in risky activities.

Even though there is no sound evidence to state the exact period of the origin of this financial tool, it could be stated with evidences that the history of conventional insurance dates back to 16th century where people from Italian rural area constituted a new system to meet the hefty expenses of funeral procession under a scheme similar to conventional insurance. In late 16th century, marine insurance was devised by Chinese merchants to ensure a fixed compensation in the context of unfortunate ship accident and it helped them to engage in maritime trade without fear of dears would be rendered destitute by untoward incidents. As Takaful is Islamic implementation of Insurance, both share the same objectives and goals. The remaining part of the article is organized as follows: next part will deal with basic details about Insurance; the problems embedded in the conventional insurance will be dealt in the second part, while the detailing of the fundamentals of Takaful will be the final part of this article. 

Fundamentals of Insurance (Takaful)

Insurance is defined as a mechanism in which an individual or an entity will transfer (share) the risk to (with) an organization on the condition of paying a pre-determined premium. The introduction of insurance along with the unveiling of the various schemes was in response to some development in human activities that embedded with risk. In general, the risk is defined as a condition, in which there is a probability of deviation from the expected outcome. There are some common practices in dealing with risky things:

1. To avoid taking risky steps; to opt for being a risk-averse. 
2. To bring down the severity of risk (e.g. portfolio diversification).
3. To take the risk and compensate the loss with other savings.
4. To transfer (share) the risk to (with) an external entity. 

The first option, being a risk averse, simply refers to an action of abstaining from any risky activities by confining himself to safer zones. In second option, the person will be more cautious in approaching risky things and try his best to mitigate the severity of risk. Portfolio diversification, where investor will put saving in different assets with negative covariance, is the best example for the second option. A person with excess savings can choose the third option as the losses incurred from risky events will be covered by using his other assets. In last option, an individual will insure himself or his venture against any catastrophic incident and the insurance firm (Takaful operator) will come for his assistance by paying his claim, if the incident takes place. 

If we go for the first option, the scope of innovation will dwindle to nothing as it is a risky event with a high probability of incurring huge losses. Innovation as a backbone of overall growth and development, its absence will cost the nation (as well as individuals) heavily. Second and third options are not viable in all situations as it requires large savings. The final option would be realized only if an active insurance (Takaful) mechanism is available in the market. 

Establishment of insurance gave wings to several new entrepreneurships as it buffered against the financial loss by ensuring fixed financial assistance. Thanks to its wonderful philosophy and its popularity, most of the countries have framed laws to promote and manage the insurance industry. The idea of insurance covers almost all areas of human life ranging from health to marine transportation. 

 Is Insurance Sharia Compliant?

Even though the philosophy and the intention behind this financial product is noble, the ways and methods applied in the  implementation and management of the conventional insurance deprives the Sharia compliancy as it entails three major problems:

1. Riba (interest or usury)
2. Gharar (uncertainty) 
3. Maysir (gambling) 

Usually, the problem of Riba arises in two ways: one is due to the presence of insurance firms in banking as well as the bond market, where they put the sum of their asset to raise the fund and to pay back the insurance claims and the second way is a situation where a person will take the policy of 200000 INR against the premium of 1000 INR per month and win the claim of 200000 INR within three months; so whatever he got more than its premium is a form of Riba.  

Gharar concept arises due to the involvement of uncertainty in their dealing. For example, the insurance firm is selling some product (insurance policy) in return for the predetermined premium and the award of compensation (insurance claim) depends on the occurrence of that unfortunate incident which is insured. So there is an uncertainty revolves around the insured incident and this drags the issue of Gharar into the deal and thus invalidates the contract.

The concept of Maysir (gambling) arises due to the structure of conventional insurance. In conventional insurance, there is a probability that the insured incident might or might not occur. In the latter case, the insurance firm will make a profit at the cost of the customer, while in the former case he will gain and the firm will incur a loss. In a nutshell, conventional insurance realizes the concept of Maysir in the best form; one person’s profit is another person’s loss 

Fundamental of Takaful (Islamic Insurance) 

Islam considers mutual assistance as the noble service in the world and hence accepts the philosophy of insurance in theory. There are several hadiths which promote helping hand as the easiest way to attain the exalted position in the hereafter. Takaful is a contract where the individual will promise to contribute (Tabarruʿ) a sum for a specific purpose and this sum (as well as its earning) would be used to help those who face any catastrophic incident. Instead of selling and buying a policy, Takaful emphasizes on the concept of Tabarruʿ and hence bypass the problem of Gharar and Maysir. Takaful operator differs from the conventional insurance firm as the latter plays the role of the owner while the former plays the role of an agent (Wakeel) where Takaful individuals would be the owner. Takaful operator plays the role of a manager (by charging a fee that is known as Juʿala’) and invests the pool of Takaful fund in Sharia’ compliant industries.  We will discuss the five practical model of Takaful in the second part, In Sha’ Allah

Nowadays the Takaful industry is one of the fast-growing sectors in the Islamic financial industry with large potential. For the last few years, this sector has been growing with CAGR (compound aggregate growth rate) of more than 6% and the number of countries that adopt this financial product has been increasing day by day. Many countries have framed laws to manage the Takaful industry and have legalized many of these Islamic insurance products. 

(Will be continued)

(Ashraful Khalq achunlkn@gmail.com Research Scholar, Centre for Development Studies, Jawaharlal Nehru University)