1.0 Introduction All human activities are subject to risk of loss from unforeseen events. To alleviate this burden to individuals, what we now call insurance has existed since at least 215 BC. This concept has been practiced in various forms for over 1400 years. In Islam, the concept of insurance is takaful. Q finance dictionary defines that takaful is a Islamic insurance in which all participants are members and contribute to a pool of funds that provide assistance in the event of loss on the part of any of the participants. It is an Islamic insurance arrangement avoids the prohibitions against gambling and interest in Islamic Law. Takaful, it originates from the Arabic word Kafalah, which means "guaranteeing each other" or "joint guarantee". It is based on the principles of ta’awan (mutual cooperation) and Tabarru’ (donation), where a group of takaful participants (policy-holders) agree between themselves to share the risk of a potential loss to any of them, by making a donation of all or a part of their takaful contribution (premium) to compensate for a loss. Takaful-branded insurance is based on Shariah, Islamic religious law and refer the principle of cooperation, not sale or exchange, and mitigates the objectionable aspects of gharar (uncertainty), maisir (gambling) and riba (interest).
In conventional insurance the risk is transferred from the policyholder to the insurance company which brings the elements of uncertainty and chance in contract as one of the two a party makes a loss. Takaful is a structure in which the risk is shared between all participants, removing the elements of uncertainty and gambling from the contract. Moreover, a takaful fund invests the contributions in a shariah compliant manner, avoiding any interest-based instruments. In addition, any surplus will be redistributed to the participants. The takaful company therefore only manages this pool (for a fee) for the benefit of the members/participants. The concept of insurance is not haram in Islam when undertaken in the framework of takaful or mutual cooperation and solidarity. Contrary to conventional insurance, takaful does not contain non-permissible elements such as gharar (uncertainty), gambling and investing in interest-bearing instruments.
In this project paper, we will discuss more detail about takaful, firstly, we will briefly discuss the reason why conventional insurance is prohibited, the legal aspects of takaful, the need for and evolution of takaful, the shariah basis and features of takaful, various models of takaful, the status, opportunities the challenges facing the takaful industry and the takaful operation and plans. The purpose of this project paper is to introduce the main features of the takaful system that is compliant with the shariah tenants so that reader can understand more about takaful.

1.1 The Need for Takaful Cover The insurance industry has become a necessary part and parcel of the financial system. However, Muslim societies in general have been avoiding commercial insurance. It is mainly due to two reasons. Firstly, insurance has been considered unnecessary because as a member of Muslim society, they are required to help each other, particularly the victims of any misfortune. Many people believe that true belief in Allah and destiny means there is no need for any such cover against death or losses to a man himself or his wealth. Secondly, it is the prohibition of riba, gharar and gambling. The insurance companies might involve in other forbidden business, including alcohol, pork, indecent entertainment and hotels with clubs and prohibited activities. Nowadays all the commercial and investment banks and other non bank financial institution have to resort to insurance services, either as a regulatory or as an unavoidable business need. Similarly, business, industry and individuals have been increasingly taking on the services of insurance companies to safeguard against unfortunate incidents and losses to life and wealth. While Islamic Banking emerged in the 1960s and early 1970s, Islamic insurance started no earlier than 1979. This reveals that the Takaful system developed in response to demand for risk cover by Islamic Financial Institutions, due mainly to the fact that banking and insurance go hand-in-hand and complement each other operations.

1.2 Why No to Conventional Insurance? In modern business, one of the ways to reduce the risk of loss due to misfortunes is through insurance. The concept of insurance where resources are pooled to help the needy does not necessarily contradict Islamic principles. There are three important differences distinguish conventional insurance from takaful. The key difference between takaful and conventional insurance rests in the way the risk is assessed and handled, as well as how the takaful fund is managed. Further differences are also present in the relationship between the operator (under conventional insurance using the term: insurer) and the participants (under conventional it is the insured or the assured). Takaful business is also different from the conventional insurance in which the policyholders, rather than the shareholders, solely benefit from the profits generated from the takaful and Investment assets. Conventional insurance involves the elements of excessive uncertainty (gharar) in the contract of insurance. Conventional insurance has an element of gharar due to the promise to pay a sum of money upon the occurrence of unexpected events.
Gambling (maisir) are consequences of the presence of excessive uncertainty that rely in future outcomes. It means any deal in which monetary gains come from speculation and conjecture and not from work, taking responsibility or real sector business. Existence of gharar leads to maisir (gambling) in conventional insurance. The insured may either lose all the premiums he has paid or be compensated for the losses he incurs for the insured event. Interest (riba), which is in the investment activities of the conventional insurance companies. The investment of insurance funds in interest-bearing securities such as bonds and stocks which do not comply with shariah principles poses a major problem for Muslim who purchases conventional insurance.

2.0 Legal Aspect of Takaful In the last 24 years, the takaful industry’s operation is well-defined and exposed to a very structured and competitive market which is supported by an aggressive but conducive regulatory infrastructure. Bank Negara Malaysia being the watch dog of the Islamic Banking and Financial Industry, have provide support for the continued growth of the takaful sector.

2.1 Malaysian Takaful Regulation Insurance marketplace is subjected to comprehensive regulation framework to protect the interest of all contracting parties. It may be viewed as a form of governmental consumer protection. Insurance regulations provide the insurance market with direction, management, control and correction. Intense regulations of insurance usually involve licensing of insurer, solvency rule, pricing, asset management, business conduct and corporate governance. In Malaysia, the insurance industry is governed by Insurance Act 1996, while the takaful industry is governed by the Takaful Act 1984, which come into force on 1st January 1985. The Bank Negara Malaysia is entrusted to administer and enforce the provision in the act to ensure orderly grows of the industry. The duties and function conferred under the act shall be carried out by the governor of Bank Negara Malaysia as the Director General of Takaful.

2.1.1 Takaful Operators The Takaful Act is enacted to govern the conduct of takaful business and requires the registration of takaful operators. A takaful operator is a party which assumes the financial risks faced by the participants. In order to obtain a license to operate takaful business, the operator must be registered under the act. The Director General shall be responsible for the registration of takaful operators.

2.1.2 Shariah Framework The Bank Negara Malaysia has established the Shariah Advisory Council (SAC) under the Bank Negara Malaysia ACT 1958. The SAC, via amendment to the act was accorded sole authority on shariah matters pertaining to Islamic Banking and takaful business. It is responsible in ensuring takaful operation is in compliance with shariah parameters.

2.1.3 Malaysian Takaful Association Takaful operators have established an industry association, known as Malaysian Takaful Association (MTA) in 2002, under the Malaysian Society’s Act of 1996. As a requirement for carrying on business, a takaful operator must become a member of MTA. The MTA aims to improve industry self-regulation through uniformity in market practices and promoting a higher level of cooperation among the players in developing the takaful industry.

2.1.4 Statutory Deposits Takaful operators need to maintain a deposit with the accountant general of Malaysia at all times the prescribed in respect of each class of business. The current minimum statutory deposit is RM300000. This deposit can be held in the form of cash or securities, or as combination of the two.

2.1.5 Takaful Fund A takaful operator is required to establish a takaful fund in respect of each class of business. All contributions attributed to each class of business will be paid into the fund. A part of the assets in the fund can be used to meet operator’s liabilities and permitted expenses.

2.1.6 Investment Takaful Fund Malaysian assets authorized to be invested by the takaful operators for their takaful funds as prescribed under the act consist of government investment certificates, shares or securities issued by a listed company or a society, real estate, currency, loan or investment.

2.1.7 Supervision and Examination on Takaful Operators The Malaysian insurance and takaful industry is a comprehensively regulated and supervised marketplace. The insurance supervision department and information system supervision unit of Bank Negara Malaysia (BNM) administer off-site surveillance and on-site examination on insurance company and takaful operators, on regular basis, through the surveillance and examination, BNM aim to promote good and orderly development of the industry with respect to soundness, solvency, integrity, corporate governance and professionalism. Early detection of problems and prompt corrective measures can also be achieved. Onsite examinations on the takaful operators are carried out to assess the financial conduct. Measurement of an operator’s financial health is done using the EMAS framework, covering areas of earning, management, asset quality and solvency. In addition, the examination evaluates corporate governance and market practices, internal control, risk management system and anti-money laundering measures taken by the operators. Off-site surveillance focuses on the ability to meet the prescribed requirements for the investment of takaful fund.

2.1.8 Takaful Guarantee Scheme Fund The most importance reason for insurance regulation is promoting insurer solvency. Insurance solvency is the financial ability of the insurer to pay claims when they become due. Investor’s dictionary defines solvency margin as the minimum standard of financial health for an insurance company, when the asset exceed liabilities. The aim of insurance regulation for solvency is to establish a proper system for efficient and safe operation, and to minimize possible insurer failures. This involves early detection of financial difficulties faced by an insurer, prompting corrective measures and minimizing the impact of the financial problem that occurred. The impact of dealing with insolvent insurer could be very distressing to the insurance buyers. Claims might be denied at the time when financial assistance is most sought after, for example after the death of the main bread-winner, or after a home is totally destroyed by fire. Solvency of an insurer is thus very important in any insurance transaction. In insurance and takaful, premium is paid in advance and the period of protection extends into the future. The promises of an insurer to pay claim may be due soon after the contract is in force, or may be much later. If an insurer is insolvent, then it would not be able to fulfill its obligation to meet claims. Solvency makes the results of insurance transaction certain and predictable. This is the function of insurance, to reduce financial risk and uncertainty faced by individuals in the event of a loss occurring. To reduce the risk of a takaful operator experiencing insolvency, the Malaysian Takaful Act empowers the Director General to establish and maintain a separate Takaful Guarantee Scheme Fund (TGSF) for general business and family business. The main function of TGSF is for meeting the liabilities of any insolvent operator. It is funded mainly from levies imposed on licensed operators. Other sources of fund into the TGSF included profit or dividend from investment.

Exhibition 2.1; Legal and Regulatory Functions Authority / Market Place | Function / Responsibility | Bank Negara Malaysia | Formulates polices and supervises the industry regarding Takaful Act 1984 is the basis for its governing role in the industry | Shariah Advisory Council | Determines ruling and serves as the reference point for the court or arbitrators in dispute resolutions that involve issues that uses shariah principles | High Court (commercial division) | Decides on all muamalat (economic transaction) cases involving Islamic Banking and Finance | Takaful Operators | The fund manager and underwriter | Retakaful Operators | Underwriting managers for managers for business ceded by takaful operators | Takaful Intermediaries | * Agents are involve in marketing and servicing takaful products of takaful operators and received commission. * Brokers represent customers in placing of takaful products with takaful operators. * Bancatakaful is a distribution channel for takaful products via banks * Adjusters assist in claims investigation; assess loss and makes recommendation for claim settlement. | Malaysian Takaful Association | Self regulatory body promoting uniformity in market practices and cooperation amongst members set up I 2002 |

3.0 The Shariah Basis of Takaful
Shariah equivalent word for insurance in Arabic is “Ta’mein” which means to reassure, safeguard and guarantee through indemnity to losses. Takaful means fidelity, loyalty, confidence and trust and refer more to guarantee than to cooperative sharing of losses among a group. This concept remained under discussion of scholars about a century but finally come out with the concept that gained Shariah scholars acceptance on a large scale is that takaful, which requires that the nature of the main insurance contract should be converted to a contributory arrangement in which the losses to members may be covered from the takaful pool on the basis of mutual help and sacrifice.
Shaikh Abu Zahra, an eminent jurist of the 20th century has concluded that a cooperative and social insurance scheme is in principle, legitimate and no cooperative insurance is unacceptable because it contains the traits of gambling, temptation and usury that invalidate the contract. The Islamic Fiqh Council of the OIC approved the takaful system based on mutual cooperation as an alternative to conventional insurance in 1985. Takaful is not a new concept for Islamic Commercial Law because there have some similar practices was in vogue in early Islamic Arab Society, for example Aqilah, Qasamah and Mawalat. Contemporary jurists acknowledge that the principle of shared responsibility in the system of Aqilah laid the foundation for takaful. It was practiced in the ancient Arab tribes and the holy Prophet (pbuh) approved it. While Qasamah is an oath that was taken from kinsmen of the murdered in one such case the holy Prophet paid blood money of one hundred camels of Sadaqah and Mawalat is a contract in which one party agreed to bequeath his property to the other on the understanding that the benefactor would pay any blood money that may eventually be due by the former.
Takaful system as an alternative to conventional insurance embodies the elements of shared responsibility, common benefit and mutual solidarity. Every policyholder pays his subscription in order to assist those among them who need assistance. The theory of Islamic Finance does not accept gharar or excessive uncertainty in respect of right and liabilities of the parties to a commercial contract. As a result, the concept tabarru’ (donation) has been incorporated as the main ingredient of the contract. A participant of a takaful policy agrees to relinquish the whole of a certain proportion of his takaful contribution that he undertakes to pay to enabling him to fulfill his obligation of mutual help should any of his fellow participants suffer a defined loss.
Another concept support idea of mutual help is Waqf (endowment). Waqf in Islamic Shariah refers to retention of a property for the benefit of a charitable or humanitarian objective or for a specified group of people such as member of the donor’s family. There are three kinds of Waqf, which is religions Waqf, philanthropic Waqf and family Waqf. Waqf has the ability to accept or transfer ownership. The ownership of the Waqf property is transferred from the person creating the Waqf forever. Waqf property cannot be sold, but only the usufruct is assigned to the beneficiaries. According to the Waqf principles, a donor can also benefit from the Waqf. The beneficiaries of the Waqf in takaful arrangements are the creator of the Waqf and the group whose members contribute for the purpose of mutual help and covering the losses to any of them.

3.1 Main Objective of the Takaful System
The main objective of Takaful is to diversify the risk among the members. Takaful can be visualized as a method of joint guarantee among participants against loss and damage that may be inflicted upon any of them (Fisher, 2002). The members of the group agree to guarantee jointly that if any of them suffer a catastrophe, will receive a certain amount of money to meet the loss and damage. Having a Family Takaful or Islamic life insurance policy does not mean that one has insured one’s own life, but it is a fair financial transaction catering for the benefits of certain helpless people in the society. The rationale behind having a life insurance policy could be summed up as hereunder: It is one of the means of providing a material safeguard for offspring and is thus in line with the saying of the holy prophet SAW. He (SAW) spoke to this effect: "it is better for you to leave your off-spring wealthy than to leave them poor, asking others for help". The Holy Prophet (SAW) also encouraged the providing of security for the widows and poor persons as he highlighted in one of his traditions: "The one who looks after and works for a widow and for a poor person (dependent), is like a warrior fighting for The Cause of Allah (SWT), or like a person who fasts during the day and prays throughout the night”.

4.0 How the Takaful System works
Takaful insurance works on the principle of a pool contribution from contributors to a mutual fund which helps out the members in need if they need to make a claim. A portion of the fund is invested by the Takaful Company and if no claim are made within a set period, or the fund is in surplus after claims, the profits are shared out amongst the group of contributors and the company, as per a prior arrangement as to each person share.
According to Muhamad Ayub (2007), Takaful can be divided mainly into two types that are Family Takaful or life policies and General Takaful. In life policies, the contribution paid by the life policyholders is divided into a “protection part” (for the Takaful fund/ payment of claims) and a saving/investment part if the company is working as Mudarib (entrepreneur); contributions are divided into three parts if the company is working on a Wakalah basis which are a part as a management fee, a protection part and the investment part. The protection part works on a donation principle, according to which individual rights are given up in favors of the Waqf. In the savings/investments part, individual rights remain intact under the Mudarabah principle and the contributions, along with the profit (net of expenses), are paid to the policyholders at the end of the policy term or before, if required by them.
On the other hand, for General Takaful, the whole contribution is considered a donation for protection and the participants relinquish their ownership right in favors of the Takaful Fund, and the underwriting surplus or underwriting loss belongs to the participants. Besides that, Takaful companies can arrange Retakaful on the same bases of Tabarru’, Waqf and Mudarabah for which they pay an agreed-upon contribution from the Takaful Fund to a Retakaful operator that in turn helps the Takaful Companies in case of losses.

4.1 Models of Takaful
There are various models of takaful according to the nature of the relationship between the company and the participants. The two different types of the Takaful models for the management and investment of funds by a Takaful Operator are Mudarabah model and Wakalah model. Other business models such as Waqf model, Tabarru’ model and combination of models are also adopted by some Takaful Operators.

4.1.1 Mudarabah Model (General Takaful)
Mudarabah is defined as the contract between participant and the Takaful Company where the profit is shared in an agreed ratio of 5:5, 6:4, 7:3 etc. Generally, these risk-sharing arrangements allow the Takaful Operator to share in the underwriting results from operations, as well as the favorable performance returns on invested premiums. In a pure Mudarabah Model, the participant is entitled to a 100% share of surplus where the Takaful Operator and the participant share direct investment income only. This model is applicable to Family Takaful as the fund is entirely distributed to the participants. Under pure Mudarabah Model, the contributor losses capital and the company losses in term of effort if there is a loss. In a modified Mudarabah Model, the investment income is ploughed back into the Takaful Fund, and the Takaful Company shares with the participant the surplus from the Takaful fund. Under this model, no profit from the venture is shared between the operator and the participants. Instead, what is shared under the modified Mudarabah Model is the actual balance of the fund at the end of the period which also called underwriting surplus and not the surplus between the balance of the Takaful Fund at the end of the period (mudarabah contract) and the balance of the Takaful Fund at the beginning of the period.
Exhibit 4.1; Flowchart of Mudarabah Model

4.1.2 Wakalah Model (Family Takaful)
The Wakala Model distinguishes between the operating company (wakeel) and the Takaful Fund. The operating company does not share in the underwriting result, but rather it is compensated by a fee deducted from contributions made by participants and investment profits generated by the Takaful Fund. Takaful Company generates its income by charging a Wakalah fee for managing the underwriting operations and investing activities, based on the level of contribution, investment returns and generated surplus. This fee rate is fixed annually in advance in consultation with the Shariah Supervisory Board of the Takaful Operator. All operating expenses are charged to the participant Takaful Fund, while expenses for the investment activities are charged to the Takaful Shareholders Fund.

Exhibit 4.2; Flowchart of Wakala Model

4.1.3 Waqf Model
The Waqf Model is a non-profit model includes social-governmental owned enterprises and programmers’ operated on a non-profit basis which utilizes a contributions of Tabarru’ (donation) from participants who willingly give to the less fortunate members of their community and the other for investment on the basis of Mudarabah. Based on the latest research by over forty Shariah scholars conducted under the guidance of Shaikh Muhammad Taqi Usmani, a Waqf model or a combination of Wakalah and Waqf is the best basis for evolving a practical Takaful system in line with the Shariah principles. The Waqf fund shall work to achieve the following objectives where to extend financial assistance to its members in the event of losses, to extend benefits to its members strictly in accordance with Waqf Deed and lastly to donate to Charities approved by the Shariah Supervisory Board.
Waqf operates as a public which contrast to Mudarabah and Wakala. In Waqf, Takaful Fund belongs to nobody in particular whereas the Takaful Fund is owned by members in Mudarabah and Wakala models. While any surplus from the Mudarabah and Wakala models can theoretically be distributed between members (although this rarely occurs in practice, other than in Family Takaful), such distribution is not possible in the Waqf Model. When the Waqf fund distributes the funds between the members according to its own rules, the fund needs to have its own legal entity, and according Islamic Jurisprudence, Waqf is an independent entity. The Takaful Company may distribute the surplus amounts on the following three bases where a portion of surplus should be kept as reserve to mitigate the future losses, second a portion of surplus should be distributed among the participants to differentiate it from the conventional insurance procedures and lastly a surplus should be utilized for the charitable purposes every year. Under this model, the Waqf fund is allowed to create a contingency reserve fund from the contributions and the profit earned on investment. The source of income of company for Waqf Model are the Waqf management fee, paid from the Waqf fund, a share in the investment profit as Mudarib or a service charge as investment agent and the profit from shareholders’ money.
Exhibit 4.3; Flowchart of Waqf Model

4.2.1 Issues in the Mudarabah Model Based on Muhammad Ayub (2007), Shariah scholars have raised certain issues about the validity of the Mudarabah Model for Takaful on account for the following: * The relationship between the participants should base on Tabarru’ and not Mudarabah; profit sharing cannot be applied here. A donation cannot be the Mudarabah capital at the same time. * Sharing in any underwriting surplus makes the Takaful contract essentially the same as the conventional insurance, in which the shareholders become the risk takers where they get the underwriting surplus or bear the underwriting loss; Mudarabah-based Takaful is rather worse because the Takaful Operators or shareholders take only the underwriting surplus but do not bear the underwriting loss, if any. * In Mudarabah, invested capital has to be returned along with the profit, if any; and if there is a loss, that has to be subtracted from the capital. In non-life Takaful, the paid premiums are not returned. * The requirement to provide Qard al Hasan (in case of a deficit) in a Mudarabah contract is against the concept of Mudarabah by definition, which is profit-sharing contract.

4.2.2 Issues in Wakalah and Wakalah-Mudarabah Models * The problem arises when the Takaful Operator is given a part of the underwriting surplus in addition to the operating fee as a performance incentive. Sharing of surplus should be among the pool members of the fund. * The risk premium should be separately defined and related to the risk; this should be the same for similar risk, regardless of who the client is. * The company should reduce the operator’s fees and not the risk premium rates for large clients. * Expenses related to initial set-up should be borne by the shareholders.
5.0 Takaful and Conventional Insurance Compared
Conventional insurance is a risk transfer mechanism hereby the individual or the business enterprise can shift some of the uncertainty of life on the healthier, comfortable and easy life to meet this requirement different enterprises produce and provide goods and services. While takaful is means guaranteeing each other or joint guarantee. The tabarru’s system is the main core of the takaful system making it free from uncertainty and gambling. Tabarru’ means donation, gift, and contribution. Each participant that needs protection must be present with the sincere intention to donate to other participant contributes into fund that is used to support one another with each participant contributing sufficient amount to cover expected claims.
There are a few different between takaful and conventional insurance. We will discuss the different between takaful and the conventional insurance. Below Exhibit 3.1 shows the differences between takaful and conventional insurance.

Exhibit 3.1; Differences between takaful and conventional insurance Takaful | Conventional insurance | It is based on mutuality; hence the risk is not transferred but shared by the participants who form a common pool. The company acts as the manager of the pool (Takaful Operator). | It is a risk transfer mechanism whereby risk is transferred from the policyholder (the insured) to the Insurance company (the insurer) in consideration of ‘insurance premium’ paid by the insured. | The element of uncertainty for example gharar is brought down to acceptable levels under Shariah by making contributions as “Conditional Donations” (tabarru’) for a good cause, for example to mitigate the loss suffered by any one of the participants. | It contains the element of uncertainty for example gharar which is forbidden in Islam. There is an uncertainty as to when any loss would occur and how much compensation would be payable. | The participants pays the contribution (tabarru’) in the spirit of Ne’ea (purity) and brotherhood; hence it obviates the element of maisir while at the same time without losing the benefit of Takaful in the same way as conventional insurance. | It contains an element of gambling for example maisir in that the insured pays an amount (premium) in the expectation of gain (compensation/payment against claim). If the anticipated loss (claim) does not occur, the insured loses the amount paid as premium. If loss does occur, the insurer loses a far large amount than collected as premium and the insured gains by the same. | Funds are only invested in non-interest bearing, for example riba-free instruments. | Funds are mostly invested in fixed interest bearing instruments like bond, TCFs, securities, etc. Hence these contain the element of Riba (usury) which is forbidden in Islam. | Surplus belongs to the participants and is accordingly returned to them (in proportion to their respective shares of contributions) at the end of the accounting period. | Surplus or profit belongs to Shareholders. The insured is covered during the policy period but is not entitled to any return at the end of such period. |

6.0 Status and Potential of Takaful Industry

Development of takaful in the last decade with good performances is in terms of assets and increase public acceptance worldwide. According to Muhammad Ayub (2007), The Islamic Insurance Company of Sudan was the first companies that have been established in this sector on 1979. The increase was seen mainly in countries that are so significant to the Muslim population of Muslim countries and also gained a place among the non-Muslim countries. The growth of the Takaful Industry is expected to rise in the 21st century is consistent with very rapid growth in Islamic banking and investment. Overall, total takaful premiums expected to increase to reach more than USD2.1 billion or equal to about 9 percent of the world insurance market.
From 24 countries, there are 60 companies offer takaful services consists of Bahrain, Bangladesh, Brunei, Egypt, Ghana, Indonesia, Iran, Jordan, Kuwait, Luxembourg, Malaysia, Pakistan, Qatar, Saudi Arabia, Senegal, Singapore, Sri Lanka, Sudan, Trinidad & Tobago, Tunisia, Turkey, United Arab Emirates and Yemen. With a population of nearly one billion Muslims throughout the world, the Takaful Industry is a guarantee of protection in Islam has a great potential to be developed and available to meet the needs of all sectors of the economy.
Furthermore, individual and corporate levels cater it for short and long-term financial needs of various groups in society. It is estimated that in 2005, in the past 10 years, the contribution made investors takaful global level can increase up to USD7.4 billion, with estimated growth of about 20 percent a year. At the same time, the global takaful market is estimated to grow 15 percent to 20 percent a year for 10 years. Of the total estimated USD7.4 billion, expected by $ 2 billion came from the Middle East market, USD3.1 billion came from the Asia Pacific market, while an estimated USD2.3 billion from the market in Europe, Turkey, China, India and USA.
Many Islamic countries have the potential to achieve higher than the increase in insurance rates, particularly in the domestic market. However, to realize the development of takaful, a number of issues, particularly in the domestic market of a country should be investigated properly by policy makers and takaful operators in particular.
Although the Takaful Industry has been established in international financial markets, the knowledge society, particularly the Muslim community itself is still low. Research that has been conducted in 1999 showed that 45% of the respondents interviewed by a team of Malaysian researchers say they have very little information about life insurance. At the same time, most of them are aware of this life that includes more than 33% indicated that they need life insurance protection. But the rest said that they were not interested in discussing these subjects, even if they have information about life insurance. A similar result occurs when the study was conducted among the residents. Thus, the Takaful Industry requires a comprehensive strategy framework for raising awareness on Islamic insurance whether general or family takaful.
The next step should be played by the Takaful Industry pioneer is the introduction of takaful in the international financial markets. This is because, most of the takaful operators to focus more on domestic markets alone. Takaful Industry expanding global level must be addressed by those involved in this industry. Leading the takaful industry-leading global level should be thinking about to penetrate the market more non-Muslim countries that have a large Muslim population. In fact, there are certain countries that have Muslim populations in excess of some Muslim countries themselves. This shows that, the development of takaful is not only confined to the country which is recognized as an Islamic state even, non-Muslim country that has a large Muslim population also need to be addressed.
As a new industry in the international financial system, takaful would have to compete with conventional insurance that has been long established in the international financial system. As the operator of “halal”, the Takaful Industry should not use religious sentiment merely to increase penetration in the domestic or global markets. This is because not all from those in the Muslim community accept the concept of Takaful Islamic point merely let alone non-Muslims.
They are mainly involved in the business must take into account the benefits in participating in takaful. As part of the conventional scheme that links the competitive insurance and investment and provide a profitable return, takaful is also supposed to be taking proactive steps to not only introduce new products aimed at the protection only, but also to make investments that competitive part of the potential benefits gained by the takaful investors .
With the development of the Islamic Banking Industry, a huge potential for takaful demand increase in Shariah compliant system. Because of the belief of the majority of Muslim that insurance in un-Islamic with no alternative available to the system, Islamic countries applied low insurance density and low penetration to tactful business. To necessitate takaful, a significant increasing in Ijarah and home mortgage in the cases of personal policies have to be done.
Thus, to complete the cycle of Islamic Finance more quickly, Islamic Banks should realize its potential and provide it to the Islamic Banks and keeping in mind all Shariah principles. Takaful would enter into the market to undertake Shariah compliant business with competitive pricing by creating a competition in the market and a large number of it.
In Malaysia, Act 1984 was enacted laws to be followed by parties involved in the tactful industry when the first takaful business was established. Finally, against the achievement of takaful global stage as the discussion, clearly shows that the takaful as an Islamic Insurance has grown rapidly and become part of the international financial system. Evolution of Islamic Insurance System globally level to prove that Islam has the best instrument for managing the risks faced by the Muslims or the Muslim community. The development of takaful global level will definitely boost the confidence of the Muslim community as well as non-Muslims to the Islamic financial system.

Exhibit 6.1; POTENTIAL TAKAFUL DISTRIBUTION in year 2005

6.1 Takaful Challenges

People have to be made aware that takaful provides an acceptable religiously validated solution. Similarly, non-Muslims need to be made aware of why takaful is ethical. Potential for takaful was the beyond question. But there are many hurdles to overcome if this market is to realize its potential. Human resources pose a major obstacle to growth, as the market is facing a severe shortage of qualified staff that understand both technical insurance principles and have an adequate awareness of Shariah finance.
One of the biggest challenges is creating customer awareness. Many Muslims live under the misconception that insurance is contrary to the principles of Islam, particularly with regard to life insurance. They need to be assured that taking out to cover against catastrophes in a manner conforming to the Shariah does not involve any prohibitions. People have to be made aware that takaful provides an acceptable religiously validated solution. Similarly, non-Muslims need to be made aware of why takaful is ethical.
Re-Takaful facilities have been providing in a few companies consists in takaful availability problem. Re-Takaful facilities and Shariah compliant avenue for investment of fund, only a few companies provide it which is objectionable and well-aware with competent manpower for the nascent Takaful Industry. Only committed, trained and experienced personnel can enhance the acceptability of the system among the public. However, the existing re-takaful companies need to put a special effort to be ale undertaken the quote, lead treaty programmers and risks by increasing their capacities, improving their expertise and rating. There is no chance for takaful companies to convert from conventional reinsurance to re-takaful without assistance and good quality service to the direct companies.
Takaful also have a competitors as one of their challenges. This company will compete with conventional companies. To suffer from this challenge, takaful companies must offer product or service in term of price, quality of coverage and delivery time. Hence, avoid malpractices and using the best professional expertise in their services. Rather than that, takaful companies need their policy holder supports and are proactive to ensure that the companies are competitive and their operations are Shariah compliant in all respects.

Countries where takaful is new also need to set out clear principles on how takaful business should be taxed, and to create a regulatory regime that does not treat takaful less favorably than conventional insurance. Excepting Malaysia, Bahrain, Pakistan and Sudan which did not have specific legal framework for takaful to protect the policyholders’ interests and a key element within long-term strategy aiming to promote takaful. In the UK, Europe and the US, there is also limited experience of how takaful can be accounted for and how to run takaful businesses not only to be Shariah compliant but also to comply with local national regulatory insurance rules. The Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) has created a standard that is the default accounting standard for takaful businesses in some Middle East countries. Takaful businesses in other countries account for takaful under International Financial Reporting Standards (IFRS). Applying IFRS to takaful is a complex area and will be the subject of a separate PricewaterhouseCoopers’ paper.
The limited availability of short-term non-equity financial instruments such as sukuk and Shariah-compliant money market instruments equivalent to treasury bills represent a further challenge for takaful companies, making managing their investment portfolio more challenging than for conventional insurers who can simply invest in bonds and cash assets. Takaful companies that grow rapidly (as has been seen in Malaysia and is currently being seen in the Middle East) face the challenge of ensuring that the systems that they have in place can cope with such rapid growth.
Along with these challenges, Human Resources Development in Takaful companies has to improve the following areas. First is Shariah advisory expertise. Government should encourage young scholars to acquire the technical insurance knowledge and to be able to advise and to solve the Shariah compliance problems facing takaful. Second is academic qualification. Nowadays we can see most of the technicians and executive working in the takaful companies have a conventional background. To promote takaful, we have to educate new graduates on takaful principles and practices. Finally, introduce Professional Certification to institution. There is a need for specific modules or programme on takaful. We have to add to the existing certification (CPI, ACII, FCII, CPA, etc) modules on takaful for the candidates who intend to or already work for a takaful company.

Despite of that, takaful providers also must enhance their product innovation and continue to offer a high level of customer service. They must be able to understand evolving customer and market-specific needs and be willing to renew or re-engineer product design and consumer benefit packages, as well as expand customer reach across various distribution channels.

7.0 Takaful Plans and Operations

Like the composite insurance companies, Takaful Companies offer both General Takaful Plans (alternative to general insurance) and Family Takaful Plans (alternative to life insurance). Additional there also have Group Takaful Plans (alternative to corporate insurance). Their aim is to provide comprehensive Family and General Takaful protections. They place strong emphasis on product innovation coupled with differentiating features to ensure market acceptance.
Family protection plans focus on savings or investment-linked plans and mortgage protection plans, coverage against losses arising out of death or disability to the insured. The general protection offerings features innovative plans to cover properties such as vehicles, buildings and others assets. In the long-term, we will continue to broaden our product range to meet the changing needs to our customers. Similarly to insurance, takaful plans can be purchased by an individual, or by a group such as employees of an organization. In our project, we will discuss only two products that Takaful aim.

7.1 General Takaful Plans and Operations
Various types of general takaful schemes are offered by Malaysia Takaful Operator, including motor, fire, marine, aviation and transit, personal accident, liability, burglary, workmen compensation, house-owners and contractors’ all risk plans. General Takaful refers to plans designed to provide compensation to individuals and business against financial loss due to damage or disaster inflicted upon properties or assets of the participant by the defined peril. General Takaful Schemes are basically contracts of joint guarantee, on a short term basis usually for a duration of 12 months and the contribution are usually paid on annual basic based on the principle of tabarru’, wakalah and al-Mudharabah, between a group of participants to provide mutual compensation in the event of a defined loss. The contribution that a participant pays for general takaful protection is wholly on the basic of tabarru’. Takaful contract a form of a unilateral contract by the participants with the takaful operator such as donation to enter into a unilateral contract with the participant to cover its risks. The contracts clearly define the rights and obligation of both parties. The schemes are designed to meet the need for protection of both individuals and corporate bodies in relation to material loss or damage consequent upon a catastrophe or disaster inflicted upon properties, assets or others belongings of its participants.
The amounts of participants’ contribution are determined by the terms agreed in the contract, by considering the value of the property and risk involved and tariff set by Malaysian Takaful Association and Bank Negara Malaysia. In General Takaful, the company raises a fund, which called ‘tabarru’ fund or account, where the participants pay their contribution to the fund. A small portion of money will be mudharabah aqad. The company will invest the reminder of the funds after deducting the operational cost of the scheme. Any profit or return from loss or damage to his property or belonging, then the particular participant will be compensated from this fund, by considering the level of damages and losses that the participant has suffered.
Under mudharabah contract, contributions paid by the participant are accumulated in the General Takaful Fund (GTF). Excess of GTF after deducting operating expenses will be invested. Returns from investment are shared between participant and operator. The share of participant is ploughed back into GTF. Takaful operator will received a portion of the investment income as performance fee. Surplus from GTF after deducting claims, retakaful and reserves will also be shared between the participant and the operator based on the mutually agreed ratio.
Under wakalah contract, contribution paid by the participant will be divided into wakalah fee and General or General Takaful Fund (GTF). The allocation between wakalah fee and GTF is based on a mutually agreed ratio between the operator and participant, as specified in the contract, depending on the type of plan. Wakalah fee is paid into the shareholder’s fund and will be used to pay for commission and management expenses. A simplified model of mudharabah and wakalah concept is illustrated in Exhibit 5.3. Referring the flowchart of the General Takaful model ‘a’ is the pre-agreed percentage of investment profit for the operator, and (100-a) % is the percentage of profit for the participant. ‘b’ is the pre-agreed percentage of surplus for the operator and (100-b) % is the percentage of surplus for the participant.

7.2 Family Takaful Plans and Operations
A Family Takaful Plan is long-term saving and investment instruments which provide a mutual guarantee of financial assistance in the events of death to the participant. The objective of these plans is to save regularly over a fixed period of time through payment of contributions, to earn on contributions from investment in Shariah-compliant instruments and to receive takaful protection in the event of death to the participant prior to the maturity of the plan.
Unlike the General Takaful Plan, the Family Takaful Plan is generally long term in nature. Another difference is that the family takaful risks, like its counterpart the life insurance risks, are more predicable in nature. Initially, the family takaful model practiced in Malaysia is the pure mudharabah model. However, the second takaful operate in the country practices a hybrid of the pure and modified mudharabah models. Family Takaful Plans provide financial protection to the dependents against losses arising out of premature death of the main bread-earner. The al-Mudharabah and al-wakalah models are used under these plans.
Under al-Mudharabah contract, mudharabah refers to a commercial profit-sharing contract between the provider of capital and the entrepreneur. The takaful operator acts as the mudharib (entrepreneur) and the participants as rabbul mal (capital providers). Participants are the capital providers, who pay contributions. The contributions paid the participants form the takaful fund. Takaful operators provide the expertise to manage the takaful fund in providing takaful protection and in investing the fund. A simplified flowchart of mudharabah model is illustrated in Exhibit 5.1. Referring to the flowchart, Participant’s Account (PA) is the savings and investment account of the participants, and there is one account for each participant. The Participant’s Special Account (PSA), also known as the Participant’s Risk Account, is the risk pool, and there is one common account for all participants. In the diagram, ‘x’ represented the percentage of contribution channeled to PSA. It is risk premium, allocated as ‘tabarru’ to pay the death benefit. This portion of ‘tabarru’ is determined by the company, derived from the sum assured (sum covered) multiplied by the probability of claims. (100-x)% is the percentage of contribution that constitutes the investment account (PA) of the participant. The percentage ‘p’ denotes the ratio of investment profits while ‘q’ represented the proportion of underwriting surplus, that the company is entitled to, according to the mutually agreed profit-sharing ratio between the contracting parties at the outset of the contract.
Under wakalah contract, wakalah contract is essentially an agent-principal relationship in which one party represents another as agent. The agent is paid a certain percentage of contribution, or a fixed amount, for the services provided. Under this contract, takaful company acts as an agent to the participants, or the principal, and earns a fee for services rendered. Cooperative risk-sharing occurs among participants, whereas the company or operators only act as a ‘wakeel’ (representative) or ‘agent’. Referring to the simplified flowchart of wakalah model in Exhibit 5.2, ‘r’ denotes the percentage of contribution charged by the operator as wakalah fee, ‘y’ represent the percentage of investment premium on Participant Account taken out as tabarru’ and credited into Participant Special Account upon the death of a participant. ‘s’ represent the percentage of wakalah fee on the value of investment (or amount credited into the PA), and ‘t’ is the percentage of surplus distributed to the operator as a handling fee or performance fee.

Exhibit 7.1; Mudharabah Model for Family Takaful
Contribution
(Takaful Fund)

(100-x)% x%
Participants’ Special Account (PSA)
Participants’ Account (PA) (100-q)% Investment of (100-p) % Payment of claims
Fund retakaful, reserves
Surplus

Investment Profit

Shareholders’ Fund p% q%

Notes; * x is the percentage of contribution channeled to PSA as tabarru’. Major portions, i.e. (100-x) % of the contribution go to PA. * p is the mutually-agreed percentage of investment profit share for the operator, thus (100-p) % of profit is the share of participant credited to his PA. * q is the mutually agreed percentage of surplus share for the operator and (100-q) % is the share for participant.
Exhibit 7.2; Wakalah Model for Family Takaful
Contributions (Takaful Fund)

(100-r)%
Participants’ Account (PA)

WF y% (100-t) %
Surplus

Participants’ Special Account (PSA) r% WF s% t%
Shareholders’ Fund

Notes; * WF denotes Wakalah Fee * r is a pre-determined percentage of wakalah fee on contribution. The balance of contributions, i.e. (100-r) % of contributions, is credited to the PA. * s is the pre-agreed percentage of wakalah fee on the value of investment of PA. * y is the percentage of contribution distributed into PSA as tabarru’. * t is a small percentage of surplus share for the operator, also known as handling fee or performance fee.

Exhibit 7.3; General Takaful Operation Model
Participant

Contribution

Wakalah fee (100-b) % Less claims,
General Takaful Fund (GTF)
Surplus
retakaful, reserves

Less operating expenses (100-a) %
Investment Profit

b% Shareholders’ Fund
Shareholders’ Fund a%

Notes; * a% is the share of investment profit for the operator (applicable for mudharabah model) * b% is the share of operation profit (surplus) for the operator * wakalah fee is applicable for wakalah model

8.0 Summary and Conclusion Takaful is derived from an Arabic word meaning “joint guarantee” or “guaranteeing each other”. It stems from the word kafal that means “to take care of one’s needs”. Takaful is a system of Islamic insurance based on the principal of ta’awun (mutual cooperation) and tabarru’ (donation), where the risk is shared collectively and voluntarily by members of a group. Takaful arrangement embraces the elements of mutual cooperation, shared responsibility, mutual protection, and joint indemnity among the participants, through the creation of a common pool contributed out of their resources as donations. As a concept, insurance does not contradict the Islamic principals since it is essentially a system of mutual help. However, the operation of conventional insurance involves the elements of uncertainty (gharar) and gambling (maisir) in the contract of insurance, and usury (riba) in its investment activities, which do not conform to the requirement of Shariah (Islamic Law). Gharar, may exist with regard to the scope of coverage, terms of the contract and source of the claims payments. Maisir, may arise from any speculative element present in a contract, such as an unequal exchange of the amount of money. Riba, or excessive profit, may arise from financial interest received from the investment of funds collected from the participants. Takaful is an Islamic insurance system that addresses the problem of gharar, maisir, and riba in its operations. It is essentially a cooperative risk-sharing plan, aimed at providing protections to consumers seeking Shariah-complaint insurance protection against defined misfortune such as premature death, illness, disability and property damages. Under takaful schemes, the participants (insured) mutually agree to guarantee and to protect each other against a defined loss or damage, by paying contributions (premium) into a common fund, from which takaful benefits are paid out to fellow participants suffering a loss. An insurer which manages the operations of takaful is referred to as takaful operator. Takaful plans can be classified into family takaful (similar to life insurance) and general takaful (similar to general insurance). Takaful operators are afforded flexibility in operating their takaful business under different models. As such, several takaful models have been introduced to suit the business objective of the operators. First, the ta’awuni model establishes cooperative insurance, and practices the concept of pure mudharabah in its transaction. Under this model, the takaful operator and participant share the direct investment income. From the ta’awuni concept, there are two basic models, al-Mudharabah and al-Wakala. Al-Mudharabah model is a profit-and-loss sharing model in which the participant and takaful operator share the surplus. Al-Wakalah model is a fee-based model in which the takaful operator earns fee for the service of running the operation. Second, is waqf model where this model works on a nonprofit concept, emphasizing the idea of donation among the participants. The takaful operator initiates the waqf fund by contributing the initial sum into the fund, and the participants make donation to help the less fortunate members of the community. Conclusion, takaful is Islamic insurance that follow to the Islamic Shariah. Takaful not involves the elements of uncertainty (gharar) and gambling (maisir) in the contract of insurance, and usury (riba) in its investment activities, which do not conform to the requirements of Shariah (Islamic Law). The majority viewpoint by many contemporary Islamic jurists and scholars is that, for an insurance system to be acceptable by Islamic tenets, it must be founded on the principles of donation (tabarru’), mutual cooperation (ta’awun). These are the essence of an Islamic insurance, which embraces the elements of mutual guarantee, mutual protection and shared responsibility.

APPENDIX A

APPENDIX B

References

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[ 2 ]. Mark Dorfman, 2001, Introduction to Risk Management and Insurance, 7th ed, Prentice hall, New Jersey, USA.
[ 3 ]. Khorshid, 2004, pp.58, 59.
[ 4 ]. Muslim, 1981, Book 16, Kitab al Qasamah
[ 5 ]. Khorshid, 2004, p. 24.
[ 6 ]. Takaful Act 1984 defines ‘family solidarity’ to mean takaful for the benefit of the individual and his family. Trough this book, the term family takaful will be used in placed of family solidarity takaful.
[ 7 ]. Malaysia International Islamic Financial Centre (MIFC) Article, Overview if Takaful in Malaysia
[ 8 ]. Mahmoud, H., 2008, Insurance: Takaful Gaining Ground, The Actuary.
[ 9 ]. Usmani, M. I., 2007, Takaful, Securities and Exchange Commission of Pakistan Takaful Conference, Karachi.
[ 10 ]. 20-Years Experience of Malaysian Takaful Industry, 2005, Bank Negara Malaysia.
[ 11 ]. Overview of Takaful Industry, 2007, Bank Negara Malaysia.
[ 12 ]. Obaidullah, M., 2005, Islamic Financial Services, [http://www.islamic-finance.net].
[ 13 ]. Mahmoud, H., 2008, Insurance: Takaful Gaining Ground, The Actuary
[ 14 ]. Takaful Insurance Companies, 2008, Best’s Rating Methodolgy