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Conventional insurance is a contract whereby the

insurance company, for a price called the


premium, promises to indemnify (guarantee) the
persons who is insured (the policy holder) against
certain perils such as fire, theft or loss of life.
In the case where the peril occurs during the
period of the insurance policy, the insurer will
compensate the insured person or beneficiaries.

Gharar

Both subject matter-goods and price are uncertain


because the actual value/amount of both is conditional
upon the occurrence of the peril/hazard which is uncertain.
The participant loses the money paid for the premium
when the insured event does not occur is Gharar.
The company will be in deficit if the claims are higher
than the amount contributed by the participants is
Gharar.

Riba

The element of Riba (Interest) exists in lending or


borrowing funds/investments at fixed interest, and other
related practices in the investment activities of the
conventional insurance companies

Maysir
Maysir is gambling. Conventional insurance is a
zero-sum game or a game of chance when one
party wins or gains, the other party must lose. It
is as though the insurance premium, which is
normally very low compared to the financial
compensation claim, is paid win the protection
amount.

Takaful is an Arabic word that means "guaranteeing


each other".
It is a system of Islamic insurance based on the
principle of Taawun (mutual assistance) and Tabarru
(Voluntarily) where the risk is shared collectively by
the group voluntarily.
This is a formal agreement among a group of
members or participants who agree to jointly
guarantee among themselves against loss or
damage to any of them as defined in the agreement
In Takaful, there is no selling or buying policy,
rather, it is a contribution by way of donation by the
participants to the pool of fund for the purpose of
mutual indemnity.

The Quran enjoins human beings to help one


another in good things and virtue and avoid
cooperating with people to cause injury or damage or
corruption of virtues (Quran 5:2).
Therefore, Islamic scholars have taken this verse as a
solid foundation for establishing the Takaful industry.
Takaful is a form of mutual help to those in need
when peril strikes. It is a cooperative fund to help
members of the fund.
In addition the Hadith of the Prophet (saw) also
advices Muslims to take precautions before relying
on Allah.
Other Islamic legal principles encourage steps to be
taken to remove or mitigate injury and risk.

The transactional aspect of the commercial


activity of Takaful must be subject to the
Islamic contractual laws in order to ensure
its compliance with the Shariah .
The Company involved in takaful business,
as the operator, will accept payment of the
takaful installments or takaful contributions
(premium) from the participants (clients)
for the takaful plan or takaful scheme they
wish to participate.

In order to eliminate the element of


uncertainty in the Takaful contract, the
concept of tabarru (to donate, to contribute,
to give away) is incorporated in it.
In relation to this a participant shall agree to
relinquish as gift certain portion of his
Takaful installments .
For the service rendered as manager of the
Takaful Operations the company will charge
a management fee.

The Takaful Fund, consisting of the


contributions paid as Tabarru, will be
further invested by the Company based on
the principle of Al Mudarabah, through
which the element of interest (riba) will be
replaced.
All premium holders will participate in pofit
and loss.
Profit will be shared on agreed ratio.

Initially insurance was not successful in the Muslim


community, not only due to the haram nature of
conventional insurance but also a misconception of the
concept of Tawakkul or surrendering to God and the
concept of pre-ordainment and predestination (Qada
and Qadar).
God had pre-ordained a calamity, it is not thought
appropriate by the pious to prevent Gods preordainment through buying insurance.
Takaful does not go against the belief in the predestination (Qada & Qadar) of God, as whether a
person buys Takaful or not, Gods pre-ordained events
will occur.
It is only that financially compensating a victim of
perils that takes place by Takaful and this is
encouraged.
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Takaful can be used to cover


Property like house, factory, mosque, offices
Vehicles (car, motorcycle etc..)
Goods ( like during import or export )
Valuables
Health, accidents and Life

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A pooling risk mechanism


The takaful operator has to share any surplus
or deficit arising in the pool
Widening the spectrum of the principle of
solidarity or mutual help
Without retakaful, takaful operator has
limited implementation of principle of tabarru
within the boundary of single takaful pool
Takaful operators provide Qard (interest-free
loan) to cover deficits in participants funds.

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Insurance

Takaful

Financial Statement of Takaful Companies

Premium

Contributions

Agency
Commission(paid to
agents)

Wakalah Fees (paid to Takaful


operator)

Revenue in the Policy Holders Revenue


Account
Expense in the Policy Holders Revenue
Account and income in the Income statement
of the Takaful Operator

Reinsurance expenses

ReTakaful contribution

Technical reserves

Technical reserves

No equivalent

No equivalent

No equivalent
Unearned Premium
Reserve
Provision for
outstanding claims and

Expense in the Policy Holders Revenue Account

Increase: Expense in the Policy Holders


Revenue Account; Accumulated reserve is a
liability in the fund balance sheet.
Expense in the Policy Holders Revenue Account
Profit share from investments
and income in the Income statement of the
to operator
Takaful Operator
Distribution in the Policy Holders Revenue
Surplus share to operator
Account and income in the Income statement
of the Takaful Operator
Distribution in and income in the Income
Jualah share to operator
statement of the Takaful Operator
Unearned Contribution reserve Liability in the Fund Balance Sheet; increase in
the reserve is an expense in the Policy Holders
Revenue Account
Provision for outstanding claims Liability in the fund balance sheet. Increase in
provision is an expense in the Policy Holders 21
and claims incurred but Not

AAOIFI Takaful Accounting Standards


FAS 12 Presentation and Disclosure
FAS 13 Disclosure of bases for determining
and Allocating Surplus or Deficit in Takaful
FAS 15 Provisions and Reserves in Islamic
Insurance Companies
FAS 19 Contributions in Islamic Insurance
Companies
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For a Takaful company which is on-going for a few


years, there will be unearned contribution reserve
at the beginning (contribution received in the
previous years) and would be recognised as
revenue in the current financial year.
And end of the financial year (contribution
received during the current year) but will only be
earned in the next or future financial years.

Contribution earned for the financial year =


The contribution received in the current year
+ contribution received in previous years for this year
(i.e. beginning of the year unearned contribution
reserve).
- contribution received this financial year for future

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Suppose, a Takaful Companys unearned


contribution reserve at the beginning of
2012 was RM1,000 and it received
contributions during the financial year of
RM5,000. Further, if at the end of the year,
the unearned contribution reserve (i.e.
amount of contributions not earned in the
year) was RM2,000;
How much contribution earned in 2012?

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Definitions under IFRS relating to insurance contracts


and insurers do not reflect the risk sharing nature of
Takaful contracts: IFRS assume a transfer of risk.
In order to present comparable financial information,
IFRS largely ignores actual Takaful structures
Contributions from participants are treated as
revenue, when it would be more accurate to record
them as liabilities.
Claims and other expenditure paid out of Takaful
funds are recorded as expenses, when in fact they are
a reduction of liability.
Some Sharia scholars argue that funds received by
Takaful operators are fiduciary in nature and therefore
should not even be shown on the operators
Statement of Financial Position
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The IFRS accounting treatment of agency


fees earned by the Takaful operator and
charged to the fund can result in a confusing
mismatch within the financial statement.
This is because fees are deferred in the
Takaful fund as an acquisition cost, but
recognized upfront in the operators income
statement as service revenue.

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Transactions

Dr.

Cr.

Contributions received

Cash

PHRA

Unearned contributions at end of year;

PHRA

Unearned contribution reserve(UCR)

Increase in unearned contribution reserve

PHRA

Unearned contribution reserve(UCR)

Decrease in unearned contribution reserve

UCR

PHRA

Wakalah fee to operator

PHRA

P/L

Investment returns to fund

Cash

PHRA

Investments return : Operators share

PHRA

P/L

ReTakaful contribution to ReTakaful company PHRA

Cash

Claims paid

PHRA

Cash

Claims incurred but not Reported

PHRA

Provision for CIBNR (liability in BS)

Claims incurred but not paid

PHRA

Provision for outstanding claims

Operating expenses charged to fund

PHRA

Cash/ or Deduct from PL operating


expense

Distribution of surplus rebate to participant

PHRA

Cash/ accounts payable

Distribution of surplus to operator

PHRA

P/L

PHRA= Policy Holders Revenue Account

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The following
2008:

data is from the records of ABC Takaful Ltd. for the year ended 31 st December
$000s

Gross Contributions received during the year


1
1,500
Gross Contributions received last year for this year
300
ReTakaful contribution ceded
700
Claims incurred but not reported
100
Claims incurred and paid this year
200
Claims incurred last year and paid this year
80
ReTakaful claims reimbursable on 2008 claims
150
Operating expenses directly chargeable to Takaful fund
300
Surplus of participants brought forward from 2007
100
Profit from investment of shareholders funds
250
Profit from investment of participants funds (gross)
500
Notes to the above data:

1.This amount includes contributions amounting to RM200,000 which relates to the year 2009
2.The operator charges Wakalah fee of RM100,000 a year and also charges operating expenses which
are directly attributable to the Takaful fund.
3.The operator has a Mudaraba contract and shares 40% of the profits for investment of the
participants funds.
4.The operator charges Jualah commission of 10% of the fund surplus of over RM200,000
5.The directors decide to distribute RM300,000 to participants
You are required to prepare a Takaful Participants Revenue Account from the following data and notes,
as well as an extract of Income statement of the Takaful operator

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ABC Motor Takaful Ltd.


Participants' Revenue Account for the year ended 31st
December 2008
Contributions received
Add decrease in contribution reserve (300-200)
Gross Contributions earned
Less ReTakaful Contributions ceded
Net Contributions earned
Less Expenses

Claims incurred but not reported

1500
100
1600
(700)
900

100

Claims incurred and paid this year


total gross claims
Less ReTakaful claims reimbursable on 2008 claims
net claims payable
Operating expenses chargeable to fund
Wakalah Fee for operator
total fund expenses
Underwriting fund surplus
Less Ju'alah commission (10% of (350-200)

200
300
(150)
150
300
100
550
350
(15)

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Add profit from investments of


(gross)
Less operators' share (40%)
Profit attributable to participants
Surplus for the year
Less distribution to participants
Surplus after distribution
Balance of surplus brought forward
Balance carried forward

participants

funds
500
(200)
300
635
(300)
335
100
435

Extract of Income statement of operator


Wakalah fee
Mudaribshare of investment profits
Jualah commission
Total earnings from Takaful and investment operations
Profits from investment of shareholders' funds
Total income.

100
200
15
315
250
565

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