From AM Best's Takaful Review:
Principles of Takaful
The first takaful insurer was established in Sudan in 1979, and the market now has grown to comprise more than 100 companies, including “windows” (operations affiliated with conventional insurers, [http://www.takaful.coop/index.php?option=com_content&view=article&id=48&Itemid=42]). Takaful includes both general (non-life) and family (life) products. The family product line includes life and health insurance plans, as well as education, accident and travel medical plans. The surge of takaful companies in recent times is a response to the commonly accepted incompatibility between Islamic beliefs and the conventional insurance model.
Takaful insurance is essentially a cooperative risk-sharing program established for the well-being of the community. The purpose of this system is not to generate profit, but to uphold the Islamic principle of Al-Takaful—“bear ye one another’s burden.” As a result, takaful insurance is based on the concept of mutual cooperation, solidarity and brotherhood. Takaful participants contribute (donate) to help protect one another against the impact of unpredicted risk and catastrophe, whereas in the conventional insurance model, policyholders pay premiums to protect themselves, or their interests, from some form of risk.
Other Islamic beliefs or principles that takaful operations intend to address are the avoidance of both uncertainty, particularly in terms of the amount and timing of claim payments to be made; and excessive profit (seen as usury), be it in the form of payments received in the event of death, or any form of financial interest (i.e. bond coupon payments).
Underwriting and actuarial techniques apply in a similar manner as under conventional insurance, in that the takaful insurer evaluates the risk of potential loss and establishes a contribution (premium) base appropriate for that aggregate risk to protect the pool from undue losses. However, unlike the risk-based premium paid by a policyholder in a conventional insurance model (where each insured pays a rate commensurate with the assumed level of risk), each takaful participant shares equally in supporting the pool in recognition of the underlying principle of mutual cooperation. As to reinsurance, it also should be based on the takaful pooling concept. The reinsurer should act primarily as a risk manager (retakaful operator) and should not profit excessively from the underwriting results. However, because of the relative lack of capacity and quality of true retakaful carriers, reinsurance with conventional reinsurers may be permitted under certain specified conditions and limitations.
Takaful Models & Structures
For takaful programmes to be financially sound over the long term, as well as to provide incentive to takaful insurers to develop and promulgate these programmes to provide Muslims with alternatives to conventional insurance, these operators to some degree must be rewarded through profits in a more traditional sense. However, profits are not the end goal of the operation.
Muslims believe there is unity in diversity, so there is not one preferred operating model for takaful insurers. Shari’a scholars generally agree on certain fundamental components that are required to be an accepted takaful company; however, operational differences are tolerated as long as there is no contradiction to any essential religious tenets. There are now three primary operating models.
Ta’awuni Model
The Ta’awuni model (cooperative insurance) practices the concept of pure Mudharabah in daily transactions, where it encourages the Islamic values of brotherhood, unity, solidarity and mutual cooperation. In the pure Mudharabah concept, the takaful company and the participant share the direct investment income, while the participant is entitled to 100% of the surplus, with no deduction made prior to the distribution. From the Ta’awuni concept, there are two basic models, Al Mudharabah and Al Wakalah. In reality, there are many variations of these basic models, but these variations fundamentally follow one of these two conceptual frameworks.
Al Mudharabah. This is a modified profit- and loss-sharing model. The participant and the takaful insurer share the surplus. The sharing of such profit (surplus) differs based on a ratio mutually agreed to between the contracting parties. Generally, these risk-sharing arrangements allow the takaful insurer to share in the underwriting results from operations, as well as the favourable performance returns on invested premiums.
Al Wakalah. This is a fee-based model. Cooperative risk-sharing occurs among participants where a takaful insurer simply earns a fee for services (as a Wakeel, or “Agent”) and does not participate or share in any underwriting results. The insurer’s fee may include a fund management fee and a performance incentive fee.
Waqf Model
Unlike the Al Mudharabah and Al Wakalah models, Waqf operates as a social/governmental enterprise, and programmes are operated on a nonprofit basis. Under the Waqf model, the surplus or profit is not owned directly by either the insurer or the participants, and there is no mechanism to distribute the surplus funds. In effect, the insurer retains the surplus funds to support the participant community. This model, with a single surplus fund, is most like a conventional mutual insurance model. As such, it is rated in a very similar manner to conventional mutuals.
