PRINCIPLES AND PRACTICES OF TAKAFOLS

All banks require insurance on their financing transactions. Success of Islamic banks has encouraged them to establish their own takafols which, among other things, lend greater credibility to their banking operations.

Takafol is an alternative form of insurance. Consequently many of the principles and practices of insurance equally apply to takafol. Takafols cover general as well as life insurance.

General takafols are short term contracts for protection of potential material losses resulting from specified catastrophes. Participants' installments are called tabaru (donation) by STMSB (Syarikat Takafol Malaysia Sendrian Berhad) and takafol by other companies. Amount of takafol contributions varies, as in insurance, according to the value to the property to be covered under the general takafol scheme. Company invests the tabaru funds, and the profits accrued there from are allocated between the fund and the management on the basis of mudaraba. Indemnity is paid out of the tabaru fund. Operational costs including reinsurance costs and other reserves are also deducted from the tabaru fund. If the fund generates net surplus then, unlike insurance, surplus is shared between participants and the company. The STMSB and IAIC (Islamic Arab Insurance Company) pay surplus only to those participants who did not incur claims, but, IICS (Islamic Insurance Company Sudan) pays surplus to all participants. The IICS receives a share of profits if offered by the reinsurers and the participants are automatically elected to a policy holders committee if their premiums are above 1,000 Sudanese Pounds. The CIIP rejected the IAIC model because, in its view, all conditions of occidental insurance are retained under Islamic nomenclature.22 The IICS model was also rejected because of the distribution of surplus from the takafol fund.

According to the CIIP,23 if the premium is considered debt then all principal amount must be returned and if it is considered investment then profits of some participants cannot be diverted in favour of others.

In sum, in case of general insurance, there is no substantive difference between tabaru and premium from the insured point of view as the entire contributions of the participants are treated tabaru, like premium in insurance. The contributions, like premium, depend on the value of the property to be covered. But, unlike insurance, takafol participants are entitled to surplus in the tabaru fund, if any.

Islamic life insurance is organised in the name of family takafol by the STMSB, Solidarity Modarabas by the IICG (Islamic Investment Company of the Gulf) and the ITCL (Islamic Takafol Company Luxembourg), and by the IICS. Premiums, unlike insurance, are determined by the participants themselves depending on their financial strength. Instalments paid by the participants are divided into takafol, also called tabaru, account and participants' mudaraba investment account by the STMSB, the ITCL and the ITCB (Islamic Takafol Company Bahrain). The proportion for tabaru fund, like insurance, is calculated on actuarial basis which varies according to the age and participation period of the participants. In the case of ITCL, 2.5 percent to 10 percent of instalments go to takafol fund and the balance goes to the mudaraba investment account of the participants.

Insurance benefits are paid from the tabaru fund. Participants pledge to make additional contributions if the takafol fund proves insufficient. However, in reality, companies prefer to carry such deficits forward till the takafol fund enjoys surplus. In the meanwhile, companies finance the deficits on the basis of interest-free loans.

All instalments of participants in the IICS and the IICG are treated mudaraba investments. The takafol fund is generated from the profits on the modarabas. Some companies issue renewable modaraba certificates of one year duration. In the case of IICG, each subscriber can participate in mudaraba till the age of 60 or death whichever comes first. Participants can buy multiple certificates. The certificates are non-negotiable and non-transferable instruments. The IICS and IICG pay takafol benefits, sometimes called solidarity benefits, from the mudaraba profits.

The actual operating expenses are charged from the Mudaraba account by the ITCL, IICG and the IICS. In the case of IICG and ITCL, an issue fee is charged to cover the management expenses partially. The IICS does not charge management expenses from the mudaraba accounts. Likewise, the STMSB pays operating expenditures from its own profits accrued from takafols and shareholders' fund.

Profits from the mudaraba investments are shared between the participants and the companies in pre-agreed ratios. The profits among the participants' account and takafol company are shared in the ratio 70:30 in STMSB, 80:20 in ITCL, and 90:10 in IICS.

Participants are entitled to reimbursements upon maturity, withdrawal and, in some cases, upon disablement. Upon, death of a participant, his heirs are entitled to takafol benefits. The takafol benefits are reimbursed according to the Islamic inheritance laws. Benefits are payable to the nominees, in case of STMSB, as under insurance contracts because the nominees are considered trustees of the heirs of the deceased participants. If a participant lives till the maturity of the takafol contract, he is entitled to all his mudaraba investment including its profits. In addition, the STMSB pays net surplus from the tabaru account as well. The CIIP did not deliver any judgement on the STMSB due to lack of information. But the STMSB model will be disqualified on the same basis as the IAIC has been.

If a participant withdraws before the maturity of contract then the money in the investment account is paid as surrender benefits. However, participants may withdraw only after participating for a minimum of two years in the case of ITCL and IICG. In the case of IICG, withdrawing participants have to relinquish 5 percent of their account in consequence of a sudden withdrawal. This money is, reinvested in favour of other participants.

If a member is disabled, the IICS waives future instalments and pays all the benefits to the disabled participants out of the mudaraba profits of the participants. In the case of the death of a participant, his heirs are entitled to full value of the deceased participant's share in the mudaraba investment account plus money equal to all unpaid instalments, due to be paid in future if he lived, from the takafol account. In the case of the IICG, the solidarity benefits are paid only if not less than a year has elapsed, instalments were paid regularly, and no withdrawal request has been made.

In the case of family takafol in the STMSB, tabaru contribution varies, like the insurance premium, with the length as well as the maturity of the takafol plan. Calculation of tabaru, like premium, is based on the principles of actuary. The takafol companies satisfy themselves regarding the health condition of the clients. Instalments are to be paid in advance as, premium. Participants can withdraw from the takafol schemes after a specified period, as in the case of insurance, but their contributions to tabaru, like the insurance premium, are forfeited.

Like insurance, takafol is concerned with uncertain future events which produce losses; and the special legal rules governing insurance contracts similarly apply to takafol. Participants cannot interfere with the management activities as the management assumes full authority. However, if a loss occurs due to disrespect of modaraba conditions, the takafol companies will bear those losses.

Takafol, like insurance, is based on the principles of insurable interest, indemnity, subrogation, and utmost good faith. The utmost good faith clause is required for the disclosure of all material facts, a condition commended in Islam. Unfortunately, insurers misuse it arid try to avoid contracts. Subrogation entitles insurers to claim from a third party on behalf of the insured. Indemnity implies that a claim can be made only to the extent of actual financial loss to the insured. Indemnity and subrogation together ensure compliance with the requirements of insurable interest. Insurable interest itself ensures that a client can obtain insurance only if susceptible to loss for which insurance in sought.24 Takafol companies perform entrepreneurial and managerial tasks. But management of takafol funds, unlike insurance premiums, is kept separate from the management of shareholders' funds. Even the rules to resolve takafol disputes are similar to those for insurance. All takafol companies have recourse to reinsurance companies. In insurance, any insurance surplus becomes profit of the company (shareholders) while takafol surplus is shared between the participants and the management (company) in the prescribed ratios.

Takafols do buy reinsurance, like these insurance companies, because existing retakafol companies are very few and too new for handling the entire retakafol needs of existing takafol companies. However, the takafol companies deal with them on a net basis in order to minimise their indulgence in riba practices of reinsurers.

In sum, takafols are different from insurance in several respects. Takafol differs from conventional insurance in the sense that the company manages and employs the funds for investment, business and administration on behalf of the participants. Profits attributed to the participants' funds are shared between the takafol company and the participants according to an agreed formula. In case of insurance, the premium funds become property of the company and any profits or losses go to the company's account.

The takafols need to invest funds in long-term as well as in short-term avenues to match their liquidity requirements. Takafol companies, unlike insurance, certainly face difficulties in making short-term investments on and interest-free basis. Otherwise, the takafols and the insurance companies are at liberty to employ funds in projects of their choice. Therefore, one may conclude that the takafol companies primarily operate on similar lines as insurance companies, although they may have to select only halal projects to meet Shariah requirements