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Takaful and Insurance True Differences

by Rakaan Kayali

September 15, 2023
6 min read

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Disclaimer: This post is for informational and educational purposes only, not financial or investment advice. The opinions are solely those of the author, not any organization. Consult a professional before making investment decisions, as all investments carry risk. The author is not liable for losses or damages resulting from the use of this information. Past performance does not predict future results.

Takaful is a relatively new insurance product that is marketed as an Islamic alternative to conventional insurance and is often referred to as “Islamic” Insurance.

So how does Takaful work? Here's how the site Islamic-banking.com explains it:
"All participants (policyholders) agree to guarantee each other and, instead of paying premiums, they make contributions to a mutual fund or pool. The pool of collected contributions creates the Takaful fund."

Since this blog is called Practical Islamic Finance, I didn't like this answer. I wanted to know with more clarity what this meant for customers seeking insurance. What differences would they experience if they chose to use Takaful as opposed to conventional insurance? Put differently, I wanted to know what practical value Takaful offers.

Why Takaful Is a Better Insurance Product Than Conventional Insurance

I spent hours online trying to find any quality literature that could explain why Takaful is a better insurance product than conventional insurance. There's a lot of nonsense about how Takaful is done in the spirit of charity and donation as opposed to conventional insurance which is only focused on profits. The response to this is that in both cases customers are seeking insurance and Takaful operators wouldn't be in business if they weren't aiming to generate profits. Moreover, when does Islam frown upon profits in the first place?!?

You'll also see a lot of diagrams desperately trying to explain how participants' funds are separated from shareholders' funds in Takaful whereas they are all lumped together in conventional insurance. The missing element in this distinction is an explanation of why this matters and isn't a complete waste of time. It sure seems like a waste of time to me.

There's obviously a difference in that Takaful companies only invest their money in Sharia-compliant products but this kind of goes without saying when you're talking about any company that claims to be "Islamic". Additionally, if a company only invests its money in Sharia-compliant products this doesn't mean it is offering a new or improved product. If Toyota decides to invest all its cash reserves in Sharia-compliant products this has no effect on the quality of the cars it produces.

There's also a commonly repeated claim that Takaful operators share surpluses with the insured but conventional insurers do not. This is false. Conventional insurance companies normally operate in highly competitive environments. So when they generate substantial surpluses competitors enter the market offering the same service at a lower cost forcing the company generating surpluses to lower its prices. This dynamic essentially has the effect of passing surpluses to the insured in the form of lower premiums. There are also policies that many insurance companies adopt which are designed to include the insured in surpluses such as rewarding safe drivers with partial refunds of their premiums. Yes, much of the profit is taken by the insurance company but the same is true for Takaful companies, so nothing really different.

There is one practical difference between Takaful and conventional insurance which I was able to find on a Takaful company's website:
"In case of the deficit of a Participants’ Takaful Fund, the Takaful operator (Wakeel) provides free interest [interest-free] loan (QardHasan) to the Participants."

This means that from the customer’s point of view, Takaful is an inferior insurance product compared to conventional insurance! This is because when you purchase conventional insurance the amount of coverage you’re entitled to isn’t left to chance. However, with Takaful insurance, the coverage the customer ultimately receives depends on what is left in the Takaful fund when they make their claim.

Now we know that the prophet Muhammad (ﷺ) prohibited transactions where the object of sale is not adequately defined, this is known in Arabic as Al-Gharar. As an example, the Prophet (ﷺ) forbade the sale of fish in the sea. This is because key attributes of the object of sale, which is the fish, are unknown before they are caught. Such as the weight, the type and the count of the fish. This same ambiguity regarding what is being bought is present in Takaful. When someone purchases Takaful insurance, the amount and period of protection they’re buying isn’t known at the time of purchase because it depends on what other people have already claimed from the Takaful fund before the customer makes their claim.

So, it’s clear that Takaful involves major ambiguity surrounding key attributes of the object of sale, which the Prophet (ﷺ) prohibited. This prohibition is unaffected by the consent of the buyer, just like gambling and interest.
Further, the Gharar in Takaful not only opens the door for a dispute between customers and the Takaful company but also invites disputes between Takaful customers among themselves.

Let’s say Adam and Kareem are making the same contributions to a Takaful fund meant to cover damages from car accidents. Later, both Adam and Kareem get in an accident. Adam files his claim one day before Kareem does. When Adam files his claim there is money left in the Takaful fund to cover his damages and he gets cash, no strings attached. When Kareem files his claim, there is nothing left in the Takaful fund and he is either given nothing or given a loan (as some Takaful operators do). How is this going to make Kareem feel about Adam who took the last of the money in the fund? It seems very likely that this arrangement will create feelings of enmity and ill will between Kareem and Adam and between Kareem and the Takaful operator. This is directly opposed to what is known as "Maqasid Al-Shariah" [the goals of the teachings of the Islamic faith] relating to the development of communal bonds between people.

Proponents of Takaful justify this Gharar by saying Takaful customers are making "donations" not purchasing a service!

I’m sorry but payments made by Takaful customers are not donations, even if customers agree to call them that.

A true donation is by definition something given with no expectation of return. If I make a donation to my mosque, this doesn’t entitle me to make a claim against any assets of the mosque. Additionally, the money I donate to the mosque is not used strictly in service of other people who made donations.

But when Takaful customers make their payments they are purchasing the right to make claims against the money in the Takaful fund. Further, the takaful fund only covers those who contribute to it.

So it can’t be a charity nor can the payments made into the fund be considered donations. Again, even if customers agree to call it that. If I agree to buy a lottery ticket and let’s say I do it in the spirit of brotherhood and I consider my purchase a charitable contribution because the proceeds of the lottery are going to help schools, this does not make my activity not gambling and permissible in Islam! Gambling is prohibited in Islam regardless of the spirit with which you engage in your gambling, the same is true with Al-Gharar.

Further, I am inclined to believe that Takaful companies know that their customers DON’T consider their payments to be donations on account that when they advertise Takaful they advertise the benefits it offers customers, they don’t talk about the virtue of charity or the rewards that whosoever gives to charity will reap in the afterlife. You cannot advertise Takaful as a good insurance product and then when customers purchase your product call their payments a donation! I mean let’s call a spade a spade here.

Conclusion

In conclusion, I find that the arrangement known as Takaful, wherein a Takaful operator manages money collected from customers seeking insurance and does not commit to ensuring those customers in return for their contributions to the Takaful fund is an arrangement which involves major ambiguity regarding the object of sale which qualifies as Al-Gharar, and therefore is an arrangement which is at least highly discouraged in Islam, if not outright prohibited (Haram).

I can also say, with certainty, that conventional insurance adheres more closely to the principles of Sharia than Takaful does, because the object of sale in conventional insurance, which is an amount of protection, is clearly defined whereas it is left to chance in Takaful.
Basically, whoever invented Takaful 30 or 40 years ago, took conventional insurance infused it with Al-Gharar and then called the product "Islamic!"

Takaful is definitely not “Islamic” insurance and should never be referred to as such.
For customers, I would say: stay away from Takaful and use conventional insurance instead. For Takaful operators, I would say: if you're truly trying to do something Islamic, it is much more Islamic for you to simply offer conventional insurance and commit to only investing your customers’ premiums in Sharia-compliant products.

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Comments

17 responses to “Takaful and Insurance True Differences”

  1. Inzemam ul haq says:

    AOA
    I hope will be fine enough with the spirit of emaan. Sir my name is INZEMAM UL HAQ. I am student of MBA Islamic finance in Imsciencs hayatabad Peshawar pakistan. I recently watched your video about takaful. I really appreciate your efforts for making islamic finance more pure and shariah compliant. In that video you (respected) emphasize the element of gharar (uncertainity) which exists in takaful. I want to add something in it.
    As for my knowledge gharar is allowed in unilateral contarct while forbidden in bilateral contract. In takaful there is no sell and purchase agreement as the takaful company play a role as operator and charge takaful fee against its services. There is only one party which is the CONTRIBUTORS or PARTICIPANTS hence agreement is unilateral so gharar is allowed.
    Moreover tabbaru can't be claimed but it can be used for the purpose which is predetermined and which is not in contradiction with shariah.
    There are alot of things that I want to share but there are always limitations in way. In the end I will request you to criticize for the sake of improvement not for any other purpose.
    Thanks
    Regards
    Inzemam ul haq

  2. Sarah Ismail says:

    There is no sell and purchase agreement in Takaful. Basically claiming Takaful is more haram than conventional Insurance are more erroneous and misleading

    • Hi Sarah, It's worse than you think. I do not claim that Takaful is more Haram than insurance, rather, I claim that conventional insurance is not Haram and that Takaful insurance is Haram because of the Gharar that it introduces in its contracts.

      • Sarah Ismail says:

        Hi Rakaan,
        You mentioned above that you spend hours online to come out with this article and you also claim that Takaful is Haram and conventional Insurance is better. But how do you explain that "Takaful is not a unilateral contract" like how u said brother Inzemam is erronous? When you put state about something is Haram or Halal, aren't you suppposed to apply musyawarah with other scholars first instead of only search everything "online" because I personally feels that your article is misleading for the Muslims plus this article supports conventional insurance rather than Takaful. As in Malaysia, in order to get a Takaful operator license, they have to go through minimum 4 - 6 syariah panel which are the scholars and mufti and after having the clean source of fund, the panel of syariah will have to counter check again. So are you saying that your knowledge is better than other scholars n the muftis?

        • Sarah,
          I am saying that the way the Takaful product works is Haram. This much is correct.
          I make my judgments based on the Quran, the sunnah, and the relative strengths of the arguments not the opinions of others.
          Regards,
          Rakaan

  3. Sarah Ismail says:

    Hi Rakaan,
    The scholars and Muftis also refer to Al-Quran and Sunnah when they form and agree to Takaful. My worry is when you elaborate wrongly about Takaful and match it with a sunnah and jump into conclusion that it is Haram. By that it is misleading to the Muslims as you also promotes conventional insurance. However, this article should be submitted to more Islamic finances scholars to be certain on the judgement of Halal and Haram as it only supports the decision to favor conventional Insurance. When we state something is Halal or Haram, we must have an agreement with majority scholars instead of finding a source from the sunnah and Al-Quran to support the sins that we like. Please contact me if you wish to justify more about the sunnah that you reffered too and have musyawarah with me and some scholars at a local University here. Most probably at International Islamic University that I can arrange. Thanks Rakaan. May Allah bless you.

    • Hi Sarah,
      If there is some other argument that refutes the points I made which I haven't thought of then please share it and I will be happy to change my opinion.
      However, I will not change my opinion simply because someone wants me to. There must be a substantive argument that causes my opinion to change. So far, in your comments, you haven't mentioned a single Quranic verse or Hadith or logical argument that contradicts the views I've expressed. Until you do so, my opinion will remain unchanged.
      I am happy to discuss these issues with anyone, publicly or privately.
      WsSalam,
      Rakaan

  4. Sami ullah Khan says:

    Atleast takaful is a positive step which will In sha ALLAH delete the element of Ghharar Qimar & Riba. As we are more living in the conventional world so we dont have have the actual information , As i am professional associated with this field i found it very difficult in start but now market penetration is getting good.

  5. As-salamu-alaikumBr. Rakaan.
    I like your two articles on Takaful as well as Insurance.
    I wish we had someone of the calibre of Sheikh ul Islam Ibn Taymiyah in Islamic Finance, who can expose the flawed ijtihad of the contemporary ‘ulema.
    Please keep up the good word.
    Was-salam.
    Muhammed-Shahid Ebrahim
    Professor of Islamic Finance
    Durham University, England.

  6. Shabeer Komath says:

    I believe the key point you have taken to make an argument against Takaful was misunderstood.

    "In case of the deficit of a Participants’ Takaful Fund, the Takaful operator (Wakeel) provides free interest [interest-free] loan (QardHasan) to the Participants."

    Wakeel is not providing interest free loan to the participant. They are providing loan to the Participant fund.

    Adam and Kareem gets their claims handled in the same way.

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