SS 26 · Islamic insurance

SS 26: Islamic Insurance

What this standard is about

Islamic insurance is an agreement among a group of people to protect each other against specific risks they all face. Each participant pays contributions, and the standard treats these contributions as donations (tabarru'), money given to help others. The donations form an insurance fund that is a separate legal entity with its own independent finances. When a participant suffers a covered loss, the fund pays compensation out of the pool, following an agreed set of rules.

The fund is managed either by a group chosen from the policyholders or by a company that runs the insurance business and invests the fund's assets for a set fee. This is different from conventional insurance. Conventional insurance is a mu'awadah contract, a commercial exchange in which the company aims to profit from the insurance itself. Because the payout is uncertain, conventional insurance falls under the rules against gharar (excessive uncertainty) and is therefore not allowed.

The standard covers the definition, the Shariah (Islamic law) status, the characteristics, the principles, the basic elements, and the types of Islamic insurance. It sets the controls that Islamic financial institutions must observe when they offer takaful products. It does not cover state-run social insurance schemes.

Why it exists

Scholars have long ruled conventional insurance non-compliant because of the uncertainty built into paying a fixed premium for an uncertain payout. Muslims still need protection against real risks such as death, disability, and property damage. This standard defines the Shariah-compliant alternative and gives institutions one uniform set of rules, so takaful products rest on donations and mutual help.

The key rules, simply put

Contributions to the fund are donations (tabarru'), given to help the other participants.
The insurance fund is a legal entity separate from the operator, with independent financial liability.
The operator runs the fund and invests its assets only in Shariah-compliant ways.
The operator is paid either a set fee for managing the fund (the wakalah, or agency, model) or a share of the investment profit (the mudarabah, or partnership, model).
Any surplus left in the fund after claims and expenses is shared among the participants.
In insurance against disability or death, the applicant submits personal details, the contribution amount is fixed, and the benefits for the beneficiary are fixed in advance.
On the death of a participant, the entitlements go to the persons named in the documents, under rules approved by the Shariah supervisory board.
Conventional insurance remains prohibited, because it is a commercial exchange (mu'awadah) built on uncertainty (gharar).

An everyday example

A group of taxi drivers each pays $50 a month into a takaful fund run by an Islamic insurance company. The company charges a management fee and invests the money in halal (permissible under Islamic rules) assets. When one driver's car is damaged in an accident, the fund pays for the repairs. If few claims are made in a year, the leftover surplus is shared among the drivers.

Words to know

takaful — Islamic insurance, from an Arabic word meaning mutual support
tabarru' — a donation, money given to help others without expecting a return
Shariah — Islamic law, derived from the Quran and the practice of the Prophet Muhammad
mu'awadah — a commercial exchange contract, in which each side aims to profit
gharar — excessive uncertainty about the terms or outcome of a contract
wakalah — agency, a contract in which one party acts for another for a fee
mudarabah — a partnership in which one side provides capital and the other manages it, and they share the profit
halal — permissible under Islamic rules
Shariah supervisory board — the panel of scholars that checks an institution's compliance with Islamic law
AAOIFI — the Accounting and Auditing Organization for Islamic Financial Institutions, the body that issues these standards

Source

AAOIFI Shariah Standard No. 26 — https://islamicmarkets.com/publications/islamic-insurance-scope-of-standard
AAOIFI full text of Standard 26 (PDF) — https://aaoifi.com/wp-content/uploads/2020/08/SS-26-Islamic-Insurance.pdf