Risk Management and

Takaful Planning (1)

BFI 3108 Islamic Financial
Planning
Lecture 3

Learning Outcomes
Introduction to risk management and
takaful
Principles of takaful and insurance
Takaful products
Responsibilities of a takaful agent

Risk Managment
Risk management is the act to avoid
risk, control risk, reduce risk or
finance risk.
In financial planning: risk
management implies the act of
protecting the wealth from any harm
resulting from pure risk.

Islamic View
Risk has to be managed for a better future of
the family during bad times and death of the
breadwinner.
AlQuran:
Does any of you wish that he should have a garden
with date-palms and vines and streams flowing
underneath, and all kinds of fruit, while he is
stricken with old age, and his children are not strong
(enough to look after themselves)- that it should be
caught in a whirlwind, with fire therein, and be burnt
up? Thus doth Allah make clear to you (His) Signs;
that ye may consider. (al-Baqarah, 2:266)

Islamic View
Muslims are encouraged to do their
utmost to be prepared and seek
protection for their activities.
Hadith: Prophet Muhammad (pbuh)
told to Bedouin Arab who left his
camel untied to the will of Allah
Tie the camel and then leave it to
the will of Allah (reported by alTarmizi and Ibn Majah)

Islamic View
Hadith: Prophet Muhammad (pbuh)
said Verily it is better for you to
leave your offspring wealthy than to
leave them poor asking others for
help (narrated by Amir ibn Saad ibn
Abi Waqqas)

Islamic View
The story of Prophet Yusuf in Surah (chapter) Yusuf:
47-49 tell us about the importance of financial
planning.
He said: You shall sow for seven years continuously,
then what you reap leave it in its ear except a little of
which you eat. (12:47)
Then there shall come after that seven years of
hardship which shall eat away all that you have
beforehand laid up in store for them, except a little of
what you shall have preserved: (12:48)
Then there will come after that a year in which people
shall have rain and in which they shall press (grapes).
(12:49)

Islamic View
The story of Prophet Yaqub, the father of
Prophet Yusuf tell us about risk
management as Prophet Yaqub commanded
his sons to enter Egypt from different gates
in order to avoid being detected by enemies.
AlQuran:
And he said: O my sons ! do not (all) enter by
one gate and enter by different gates and I
cannot avail you aught against Allah; judgment
is only Allah's; on Him do I rely, and on Him let
those who are reliant rely. (Yusuf, 12:67)

Islamic View
In Islamic financial planning, one way to
reduce the risk of loss financially is by
participating in takaful.
Takaful literally means mutually guarantee and
solidarity.
Takaful Acct 1984, defines; a scheme based on
mutual assistance which provides for mutual
financial aid and assistance to the participants
in case of need whereby the participants
mutually agree to contribute for the purpose.

Types of Risk Management

Risk avoidance
Control of loss loss prevention and
minimization
Risk retention
Risk sharing

Takaful Industry in Malaysia

Phase 1 (1984 1992):
Started with the enactment, i.e. Takaful
Act 1984 and the establishment of the
first takaful operator took place in 1984.
The primary focus was the
establishment of the basic infrastructure
for the industry.

Takaful Industry in Malaysia

Phase 1 (1984 1992):
This act is still in use is enacted to
govern the conduct of takaful business
and requires the registration of takaful
operators.
It also provides for the establishment of
Shariah Committees to ensure that the
business operations of a takaful operator
are in compliance with Shariah
principples at all times.

Takaful Industry in Malaysia

Phase 2 (1993 2000):
It marked the introduction of competition
with the entry of another takaful
operator.
Greater cooperation among takaful
operators in the region was achieved
including the formation of the ASEAN
Takaful Group 1995 and the
establishment of ASEAN Re-Takaful
International (L) Ltd in 1997.

Takaful Industry in Malaysia

Phase 3 (2001 2010):
It began with the introduction of the
Financial Sector Master Plan (FSMP) in
2001.
Among the objectives is to enhance the
capacity of the takaful operators and
strengthen the legal, Shariah and the
regulatory framework.

Takaful Industry in Malaysia

Phase 3 (2001 2010):
The section of the FSMP which relates to
Islamic banking and takaful is a roadmap
towards realizing the aspiration of
Malaysia of becoming an international
centre for Islamic finance.
This period has so far witnessed an
increased pace of development and
competition with the licensing of three
new operators.

Regulatory Framework in Takaful

Industry
Takaful industry is governed and
supervised by BNM in order to ensure
the stability of the financial industry
as a whole.

Regulatory Framework in Takaful

Industry
Roles of BNM in governing and supervising the
takaful industry:
To ensure the takaful operators function in a good
manner so as to ascertain the interest of participants is
well protected
To ensure the operations run according to Shariah
To maintain public confidence in takaful and the whole
financial system
To promote good marketing practices as well as
strengthen the corporate governance
To ascertain a more effective use of economic resources
To maintain the stability of the whole financial system

Regulatory Framework in Takaful

Industry
The role of BNM in governing and supervising
the activities of takaful operators:
1. Administration and enforcement of Takaful
Act 1984 and all BNMs guidelines relating to
takaful industry:
The appointment of directors and CEO
The acquisition or disposal of investment
The establishment of branches and subsidiaries
The appointment of auditors and actuaries
The use of third party services in takaful
operations

Regulatory Framework in Takaful

Industry
The role of BNM in governing and
supervising the activities of takaful
operators:
2. Establishment of policies and
strategic plans
Emphasis is given on continuous
improvement in the framework and the
establishment of policies to suit the
market situation.

Regulatory Framework in Takaful

Industry
The role of BNM in governing and supervising
the activities of takaful operators:
3. Shariah governance
This is crucial to ensure the uniformity of Shariah
interpretation in order to strengthen the framework
of governance in Islamic finance industry.
A sound Shariah framework will enhance the
consumer confidence and allow flexibility for
innovation among the takaful operators.
The establishment of Shariah Advisory Council (SAC)
of BNM and the Shariah Adviser at the institutional
level.

Regulatory Framework in Takaful

Industry
The role of BNM in governing and
supervising the activities of takaful
operators:
4. Market operation and consumer awareness:
Various campaigns have been implemented to
enhance the consumer awareness.
BNM is continuously putting the effort to
increase market penetration through the
improvement in operation and good marketing
practice.

Regulatory Framework in Takaful

Industry
The role of BNM in governing and supervising
the activities of takaful operators:
5. Governance:
Strengthening corporate governance and risk
management of takaful operators.
BNM has implemented a Risk-Based Supervision
Framework which focuses on evaluating the
effectiveness of directors and senior management in
enhancing the capacity and ability of their company.

Takaful industry is governed by Takaful Act

1984 and Insurance Act 1996

Key Principles of Takaful

Takaful is not a new concept in
Islamic law.
Takaful was laid down in the system
of aqilah an arrangement of mutual
help or indemnification customary in
some tribes at the time of the
Prophet Muhammad (pbuh).
The contract of takaful provides
solidarity in respect of any tragedy in
human life and loss to the business

Key Principles of Takaful

The participants (takaful partners)
pay contribution to assist and
indemnify each other and share the
profits earned from business
conducted by the company with the
contributed funds.

Key Principles of Takaful

Takaful companies normally divide
the contributions into 2 parts;
(1)donations for meeting mortality liability
or losses of the fellow participants,
(2)for investment.

The clause of tabarru is incorporated

in the contract.

Key Principles of Takaful

The percentage for mortality liability and
investment is based on a technical basis of
mortality tables and actuarial
requirements.
Both the accounts are invested and returns
thereof distributed on mudarabah principle
between the participants and the takaful
operators.
The profit attributable to the participants is
credited into 2 accounts separately.

Key Principles of Takaful

In takaful contract, the mortality liability is the
protection and investment is the
savings/investment.
The protection part works on the donation
principle according to which individual rights are
given up to indemnify the losses reciprocally.
In the savings part, individual rights remain
intact under mudarabah principle and the
contributions along with profit (net of expenses)
are paid to participants at the end of policy term
or before, if required by him.

Key Principles of Insurance

Insurance is the transfer of risk by an
individual or an organization to the
insurance company.
The individual/company is the policy
owner.
The insurance company receives
payment in the form of premium and
will compensate the policy owner in
the event of losses or damages.

Key Principles of Insurance

The price of the risk removal is the
premium payable under a particular
policy.
Insurers work under a pool principle
by offering insurance to a large
number of people and investing their
premiums, the company can meet
the claims made and make a profit.

Key Principles of Insurance

The price of the premium payable is
based on various factors, i.e.:
The probability of claims made
The investment potential of the fund
The cost of obtaining business
The cost of running the product
The required profitability of the
company

Key Principles of Insurance

Main principles of insurance (also applicable for
takaful):
1. Indemnity:
Applies to the physical damage to a property where
the loss can be quantified in monetary terms.
In the event the insured suffer a loss, the insurance
company will pay or indemnify the insured to the
position he or she was in before the loss.
The payment of losses will not exceed the value of
the property destroyed.

Key Principles of Insurance

Main principles of insurance (also
applicable for takaful):
2. Insurable interest:
Means an insured person will undergo a
personal financial loss when a loss
caused by an insured peril occurs.
If the insured will not experience financial
losses from the damage of the object,
then the insured cannot insure the object.

Key Principles of Insurance

Main principles of insurance (also
applicable for takaful):
3. Utmost good faith:
The policy owner must disclose all
material facts when buying a policy.
If fails to disclose, the policy may
become invalid.

Key Principles of Insurance

Main principles of insurance (also
applicable for takaful):
4. Contribution:
The principle comes into play when there are
2 or more insurance coverage on one risk.
When the total amount of claim from 2 or
more insurers exceeds the amount of loss
suffered, the insurers will pay a
proportionate amount according to the
liablity.

Key Principles of Insurance

Main principles of insurance (also
applicable for takaful):
5. Subrogation:
This principle is a result of the principle of
indemnity.
The insurer who has indemnified the insureds
loss is entitled to recover the loss from any
liable third parties who are responsible to the
extent of its liability.
Subrogation only applies to general insurance.

Key Principles of Insurance

Main principles of insurance (also
applicable for takaful):
6. Proximate cause:
Defined as the efficient cause that brings
about a loss with no other intervening
cause that breaks the chain of events.
A claim is not payable by the insurer if
the proximate cause is other than the
named peril.

Basic Difference Between Takaful

and Insurance
Insurance as a concept does not
contradict the teachings of Islam it
is a method where common
resources are pooled for the purpose
of helping the needy.
But there are several practices in
conventional insurance that are
contradicting the Shariah guidelines.

Basic Difference Between Takaful

and Insurance
1. Contract:
Conventional Insurance

Takaful

Participants buy the policy at

a price in order to get a
certain amount of
compensation should
anything happen to them.

Buy and dell contract must

have 3 elements;
1. Buyer and seller (aqid)
2. Subject matter (maqud
alaih)
3. Offer and acceptance
(sighah)

The operation contains

unknown and uncertain
subject matter.
Presence of uncertainty
(gharar) in contract makes
the contract void according
to Shariah.

Takaful companies are the

operators of the fund
(premium).
No buy-sell contract.
The contract involved, i.e.
wakalah, mudarabah.

Basic Difference Between Takaful

and Insurance
2. Maysir and Gharar:
Conventional Insurance

Takaful

Excessive uncertainty (gharar)

on the compensation to be paid
to the participant which leads to
gambling (maysir)
Uncertainty in subject matter.
Both buyer and seller do not
know when the subject matter of
the contract (the insurance
coverage) will occur and how
much money will be involved in
the compensation.
Gharar pertains to 3 issues: 1.
unknown outcome of the
exchange; 2. unknown rate of
exchange; 3. unknown time of

Participants do not get back all

that they have paid into the
takaful schemes but the manner
that they will get back if the peril
does not happen is transparent.
The balance of takaful fund will
be distributed to the eligible
participants and shareholders
according to the pre-agreed ratio
as stipulated in the contract after
taking into account the
investment returns, provisions
for retakaful, claims and
reserves.

Basic Difference Between Takaful

and Insurance
3. Riba:
Conventional Insurance

Takaful

Investment in non-Shariah
compliant instruments, i.e.
bonds, money market
instruments, derivatives.

Investment in Shariah
compliant instruments and
free from riba.
Takaful companies
mandatory to have Shariah
Advisory Board (SAB) to
monitor and advise them in
matters relating to Shariah.

Basic Difference Between Takaful

and Insurance
4. Liability of insurer and takaful
operator:
Conventional Insurance
Takaful
Insurance company pays
compensation from its
internal funds.

The sum assured or any

compensations is paid from
a fund belonging to the
participants collectively.

Basic Difference Between Takaful

and Insurance
5. Shariah compliant:
Conventional Insurance

Takaful

No Shariah compliance
requirements imposed.

Takaful operators are

required to establish a
Shariah committee
provided in BNM Guidelines
on the Governance of
Shariah Committee for the
Islamic Financial Institutions
(BNM, Garis Panduan
Shariah 1)