TAKAFUL & RE-TAKAFUL�LECTURE NOTE 4:�TAKAFUL OPERATING MODEL

OUTLINE

TAKAFUL BUSINESS MODELS

• Parties involved in Takaful contract:
• Takaful Participants (TP) 🡪 individuals (or institutions) who enter into Shariah-complaint scheme of mutual risk cover
• Takaful Operator (TO) 🡪 commercial corporation (joint stock companies) who arranged and initiated Islamic solidarity through Takaful contract
• In General Takaful, the participants pay contributions to underwriting pool called Participant Takaful Fund (PTF).
• Compensation
• Operating expense
• While in Family Takaful the participants pay contributions consists of both Participant Takaful Fund (PTF) and Participant Investment Fund (PIF) which is a savings and investment component.

TAKAFUL BUSINESS MODELS

WAKALAH MODEL

• In the wakalah model, all relation between TO and the participants are based on an agency contract:
• The TO is the wakeel (agent) who acts on behalf of the participants (principal) both in underwriting and investment
• The wakeel’s services in both fields are remunerated by fees
• An absolute amount or
• As percentage of the total turnover
• The fees must cover all management costs + profit for the shareholders (not including claims and direct cost of claim handling)
• Question 1: is it permissible for TO to charge fees based on percentage of the profit of the undertaking?

WAKALAH MODEL WITH PERFORMANCE FEES

• With wakalah model, profit-oriented TO tend to enhance the volume of contributions and invested funds (this cannot be the interest of the takaful participants)
• Therefore , fees sometimes include “performance” elements, where performance is measured in relation to the underwriting surplus or the investment profit.

WAKALAH GENERAL MODEL TAKAFUL

Source: IFSB (2009)

WAKALAH FAMILY MODEL TAKAFUL

Source: IFSB (2009)

MUDHARABAH MODEL

• In mudharabah contract, takaful participants act as shahibul maal while takaful operator acts as mudharib
• In a pure mudharabah model, the TO has to cover all its costs out of its profit share and must not charge additional fee.
• Proponents of the mudharabah model initially subsumed under profit both underwriting surplus and the investment profit .
• Question 2: Is underlying surplus = profit?
• The pure mudharabah model factually useless in general takaful.
• Question 3: Why??

MODIFIED MUDHARABAH MODEL

• The pure mudharabah model implies a high risk for TO, particularly in early years when reserves have not yet been built up in the PTF. If claims exceed contributons (deficit), the TO will not only receive no remuneration for its services but must also provide qard hasan to keep the PTF solvent.
• Therefore, some takaful arrangements allow the TO to charge NOT ONLY the direct costs of claim handling but also all management expenses to the PTF before the underwriting surplus or deficit is calculated .
• The authorities in Malaysia have permitted the mudharabah model for underwriting, but it is seriously challenged in most other countries:
• However, shari’ah scholars clarified that the underwriting surplus is not a profit that can be shared between TO and participants
• In addition, if the TO receives a share of the underwriting surplus, its remuneration increases with the size of surplus, thus TO then has incentive to maximaize the surplus.

MUDARABAH GENERAL MODEL TAKAFUL

Source: IFSB (2009)

MUDARABAH FAMILY MODEL TAKAFUL

Source: IFSB (2009)

WAKALAH MUDHARABAH MODEL

• In this model, the wakalah model with performance fee is used for underwriting fund combined with mudharabah model for investment.
• From TO perspective, this model avoids the Sharia’ah disputes on modified mudharabah in underwriting.

WAKALAH MUDHARABH WAQF MODEL

• The structural differences between the wakalah mudharabah and wakalah mudharabah waqf model is that the PTF gets legal personality of waqf.
• It is the shareholders of TO who provide the initial capital of waqf.
• The purpose of capital is not to ensure the solvency of the takaful undertaking but only to establish the waqf as legal personality
• The funds needed for its operation are provided by the participants, and the solvency has to be backed up by a qard facility

WAKALAH MUDHARABH WAQF MODEL

• The purpse of the waqf is to support the beneficiaries in cases of damages and financial losses. Takaful participants donate their contributions to the waqf and become its beneficiaries for the period specified in their donation contracts.
• Question 4: is it permissible to establish waqf with nominal capital?
• Question 5 : is it permissible the use of temporary membership under waqf contract?
• An essential feature of the waqf model is that the ownership of the donated funds is transferred from the participants to the waqf.
• Question 6 :Do participants still have rights to the underwrting surplus?
• Question 7: Who has the discreation to manage the waqf?
• Question 8 :Are the participants obliged to make further contribution?

WAKALAH MUDHARABH WAQF MODEL

• The obligation to make further contributions is cushioned in takaful insofar as the shareholders of TP are obliged to provide a qard hasan.
• In theory, the same takaful participants who benefited from this loan should also repay the qard so they bear the deficit.
• In practice, the payback of qard hasan cannot take place in same period as when the deficit occured, but only later.
• The most probably the composition of the solidarity group (the participants) has changed, implying that those who benefited from the qard and those who are burdened with the payback are not fully identical
• The waqf model is clearer with respect to obligations in the case of an underwriting deficit: the PTF is established as legal entity that receives and has to pay back the qard.
• However, this legal precision does not change any of underlying economics relations: not waqf (with the nominal capital) but only the future participants can repay the qard, or the TO’s shareholders will suffer a loss

WAKALAH MUDHARABH WAQF MODEL TAKAFUL

Source: http://takafuleexam.com/e-content/TBE-A/content/29175407IBFIM_Part_A/chapter_A5/A5_page_04.html

WHICH MODEL TO CHOOSE

• Some issues of takaful model
• If there is a loss due to excessive claims, the company gives a interest-free loan to the participants, which is recovered later
• Some scholars object to this as guaranteeing a certain profit share
• Combining conditional gift (tabarru’) and mudarabah dilutes the non-profit features—gharar may exist
• Donation or gift (tabarru’) is still owned by the contributors
• Surplus goes back to tabarru’ contributors
• Contract of compensation, not gift
• Introduce a waqf—Islamic endowment
• Legally the contributors do not have ownership of waqf