Top tips on takaful, the insurance with an ethical focus

The Sharia-compliant takaful (insurance) industry is on the rise, with the sector forecast to be worth US$12 billion (Dh44bn) at the end of last year, according to a report by Ernst & Young. The UAE is one of the biggest markets for takaful and it is available to Muslims and non-Muslims alike. Abdulfattah Nasri explains what it's about and why it could be a good option for people seeking ethical insurance products.

1. A big deal

The spreading influence of Islamic banking and insurance products is notable and of increasing interest across the world. It is now possible to get Sharia-compliant cover - known as takaful - for just about every area of risk. Takaful derives from the Arabic verb kafalah, which means to help one another, or mutual guarantee. To this end, products revolve entirely around shared responsibility, shared guarantee, collective assurance and the notion of mutual undertaking.

2. How it works

There are two main models. The wakala model entails the takaful operator being paid an agency fee, which is deducted from the participant's contribution. The mudarabah model entitles the takaful operator to a fixed percentage of any investment profits or surplus made during year of operation. In this model, management or operating expenses cannot be charged to the risk fund. Expenses are borne entirely by the takaful operator from the shareholder fund.

3. Spot the difference

Takaful is similar to cooperative or mutual insurance, but differs in terms of operational models and rules governing investments and profit sharing. Unlike conventional insurance, where risk is transferred from the insured to the insurer, takaful ensures the mutual risk of insurance is shared among the participants. Takaful operations are based on the principles of mutuality, whereby each participant makes a donation to a fund. In the event of its loss, the participant will receive the amount of their claim.

4. Sharia principles

All investments managed by the takaful operator are made in accordance with Sharia principles. These funds are managed by the operator on behalf of the participants. Takaful participants retain an ownership interest in the fund. Contributions from the participants are later invested into Sharia-compliant funds to derive investment income.

5. Cash surplus

A key difference from conventional insurance is that at the end of each financial year, after the deduction of expenses, the remaining cash surplus will not be retained by the company or its shareholders, but returned to the policyholders in the form of cash dividends or distributions.

6. Investments

The investment assets that accumulate over the retained reserves, surpluses and provisions are invested by the shareholders managing the company on behalf of the policyholders. The shareholders are rewarded with a percentage of the profit on these investments.

7. Who oversees it?

A Sharia advisory board will preside over the scheme, monitoring the activities at every turn to ensure Sharia compliance.

8. Takaful ethics

One of the main attractions is a robust ethical focus. Sharia law presents investing in defined moral no-go areas, such as gambling or alcohol.

9. Decision time

If you think takaful might be for you, it is a good idea to talk to an independent financial adviser, who can take you through the pros and cons as they may apply to your individual circumstances.

(The National / 12 Jan 2013)

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Alfalah Consulting - Kuala Lumpur: www.alfalahconsulting.com
Islamic Investment Malaysia: www.islamic-invest-malaysia.com