Step By Step On How To Understand Islamic Insurance, Its Types And How It Works

Islamic insurance, also known as Takaful, is a form of insurance that complies with the principles and guidelines of Islamic law, known as Sharia. It operates on the concept of mutual assistance and cooperation among its participants, while also adhering to Islamic ethical and financial principles that prohibit certain elements such as interest (riba) and gambling (maisir).

It is important to note that while the principles of Islamic insurance aim to avoid prohibited elements, there can still be variations in how Takaful products are structured and implemented. As such, individuals seeking Islamic insurance should carefully review the specific policies to ensure they align with their ethical and religious beliefs.

Here’s how Islamic insurance works

1. Risk Pooling: In a Takaful arrangement, participants come together to form a risk pool. Each participant contributes a certain amount of money (contribution or premium) into the pool, which is used to cover potential losses or damages.
2. Risk Sharing: Unlike conventional insurance, where the insurer assumes the risk on behalf of the insured, in Islamic insurance, the risk is shared among all participants in the pool. In case of a loss or claim, the money needed to cover the expenses is taken from the pool, and all participants proportionally contribute to compensate the affected party.
3. Sharia Compliance: The Takaful operations and investments are managed in accordance with Islamic principles, which prohibit any engagement in haram (forbidden) activities like gambling, interest-based transactions, and investments in businesses dealing with alcohol, pork, or other prohibited goods and services.
4. Separate Accounts: In Takaful, there are separate accounts for participants and shareholders. The participants’ account holds the contributions and is used to pay out claims, while the shareholders’ account is used to cover administrative expenses and any surplus that may arise.
5. Surplus Distribution: If the contributions collected from participants are more than the claims paid and expenses incurred, a surplus is generated in the participants’ account. In Islamic insurance, this surplus is distributed among the participants as per pre-defined sharing ratios.
6. Reinsurance: To protect against catastrophic losses, Takaful operators may opt for reinsurance, where they transfer a portion of their risks to larger reinsurance companies.
7. Sharia Board Oversight: Takaful companies have Sharia boards comprising Islamic scholars who ensure that all operations and practices are in compliance with Sharia principles.

Types of Islamic insurance

Islamic insurance, also known as Takaful, offers various types of coverage to cater to the diverse needs of individuals and businesses while adhering to Islamic principles. Some of the common types of Islamic insurance are:

1. Family Takaful: This type of Takaful provides life insurance coverage to protect the family or beneficiaries of the participant in case of the participant’s death. It ensures that the family receives financial support and protection during challenging times.
2. Health Takaful: Health insurance under Takaful provides coverage for medical expenses and healthcare needs. Participants contribute to a common pool, and when a participant requires medical treatment, the expenses are covered from the Takaful fund.
3. General Takaful: General Takaful offers non-life insurance coverage for various risks, such as property damage, fire, theft, liability, and motor vehicle accidents. It helps individuals and businesses protect their assets and interests from unforeseen events.
4. Travel Takaful: This type of Takaful provides coverage for travelers against risks such as trip cancellation, medical emergencies abroad, lost baggage, and travel-related incidents.
5. Investment-Linked Takaful: Also known as Unit-linked Takaful, this product combines protection with investment opportunities. Participants’ contributions are invested in Shariah-compliant funds, and the returns are shared among the participants.
6. Education Takaful: This type of Takaful is designed to support a child’s education in case of the participant’s death or disability. It ensures that the child’s education expenses are covered.
7. Retirement Takaful: Retirement Takaful, also known as Pension Takaful, helps participants build a fund for their retirement years. Contributions are invested to generate returns that will provide financial support during retirement.
8. Mortgage Takaful: This insurance product is specifically tailored for home financing. It ensures that the outstanding mortgage amount is paid off in the event of the participant’s death or disability, relieving the burden on the family.
9. Critical Illness Takaful: Critical illness Takaful provides coverage for specific life-threatening illnesses, offering financial support to the participant during difficult times.

These are some of the main types of Islamic insurance products available. Each product adheres to Islamic principles and operates on the basis of mutual cooperation and shared responsibility among participants, ensuring that individuals and businesses can protect themselves and their loved ones while remaining in compliance with their religious beliefs.

Takaful insurance

Takaful insurance also called cooperative or Islamic insurance based on the principles of Shariah (Islamic law). It however operates on the concept of mutual cooperation and shared responsibility among participants, promoting the idea of social solidarity and risk-sharing. The word “Takaful” originates from the Arabic word “kafalah,” which means guaranteeing each other.

Here’s how Takaful insurance works

1. Participants: In a Takaful arrangement, individuals or businesses who seek insurance coverage are known as participants. They come together to form a Takaful pool or fund.
2. Contribution: Each participant contributes a certain amount of money, referred to as a “Tabarru” or donation, into the Takaful pool. This contribution serves as a fund to cover potential claims and shared risks among all participants.
3. Common Pool: The pooled contributions create a common fund, managed by a Takaful operator or company. The operator oversees the administration and investments of the fund on behalf of the participants.
4. Coverage: Takaful provides coverage for various types of risks, depending on the specific Takaful product chosen by the participant. This can include life Takaful, health Takaful, property Takaful, and more.
5. Risk Sharing: In the event of a loss or a valid claim, the participant receives compensation or benefits from the common Takaful fund. This payment is made based on the concept of Tabarru, where each participant shares in the loss of the affected individual or entity.
6. Surplus Distribution: If there is a surplus in the Takaful pool after covering claims and expenses, it is distributed back to the participants in the form of a surplus or “Takaful dividend.” This distribution is usually done based on a pre-agreed formula.
7. Shariah Compliance: Takaful insurance operates in adherence to Islamic principles, ensuring that investments are made in Shariah-compliant instruments and transactions are free from interest (Riba) and uncertainty (Gharar).
8. Separate Accounts: To maintain transparency and avoid mixing funds, Takaful operators usually maintain separate accounts for the Takaful pool and shareholders’ investments.

It’s important to note that Takaful insurance fosters the idea of cooperation and ethical financial practices while providing protection against risks and uncertainties. This system aligns with the principles of fairness, social welfare, and community support, which are central to Islamic finance.