The unveiling of the Financial Sector Masterplan (FSMP) by Bank Negara on 1st March last year, underlines a strong manifestation and a firm commitment of the Government to ensure an orderly development as well as a vibrant and resilient financial system in Malaysia that would be able to withstand competition and liberalisation arising from globalisation. In a nutshell, FSMP charts the future direction of the system over the next 10 years. In line with the policy of a dual financial system, a special chapter is devoted in the FSMP on Islamic financial sector covering both banking and takaful. All round, the focus is to establish a dynamic and comprehensive Islamic financial system that would contribute meaningfully towards the effectiveness and efficiency of the financial sector whilst meeting with the economic needs of Malaysia.
Among the critical milestones set out in the FSMP include targets of transforming Malaysia to be the regional center for the development and promotion of Islamic banking and finance, and that both Islamic banking and takaful are to capture 20% of the overall market share of banking and insurance respectively by 2010. As for the takaful sector, should the trend of strong growth continued as seen from its main business indicators of double-digit growth, the goal of capturing the 20% market share looks optimistic. For example, contributions income of takaful against total premiums of the insurance industry rose to 9.1% last year, compared with 3.8% the year before.
Nevertheless, steps towards attaining the target would depend a great deal on the direction taken within the takaful sector itself. As expressed in the FSMP, new takaful licenses are to be issued to suitable parties as a measure to accelerate market penetration of takaful business. It is estimated at present less than 15% of Muslims bumiputra are covered by life insurance, indicating a huge market potential for takaful, especially the family products. Certainly the penetration is far below the overall rate of around 35% for the country as a whole. But increasing the number of operators would not necessarily mean higher market penetration. The market share cannot be enhanced should a divergence of practice in terms of operational structure exist. Although diversity is acceptable in Islam, that in a way underscores its greatness of flexibility, due to difference interpretations among Islamic scholars on matters relating to trade and commerce including finance, unity of practice on the other hand would be the preferred choice in the interest or maslahah of the public. Certainly it would not augur well for the growth of takaful sector in particular, and Islamic financial system in general if the operators were to adopt various models of operation simply for the cause of business. It would create a lot of confusion among the public.
The takaful operation as successfully developed and practised in Malaysia is based on the profit sharing contract of al Mudharabah combined with the donation or tabarru’ agreement. The objective of tabarru’ is to enable takaful participants to establish a kind of a defined benevolent fund to provide financial assistance to fellow participant who may suffer a loss in the event of a defined misfortune. This mutual assistance resembles the practise of aqila, a system of joint-guarantee and mutual help founded by the Prophet following his `hijra’ from Mecca to Madinah. Under the system, a defined fund, al-kanz, was formed wherein every member of the community, both from the migrants (muhajirin) of Mecca and the locals (ansar) of Madinah contributed to the fund
Obviously from the practical perspective, there would be variation in terms of profit-sharing basis and the application of tabarru’ between family takaful and general 0takaful. In the case of family, actual investment returns of the fund are defined as profit that shall be subject to profit-sharing between the participants and the operator. For general takaful, profit of the business that shall be subject to similar basis of sharing would be the underwriting surplus plus its investment returns.
As for the tabarru’, the rates for family products are made known to the participants at the outset and would remain the same until maturity of the products based on a certain mortality table as prescribed by an actuary. On the contrary due to its nature of operation, tabarru’ rates cannot be pre-determined or set aside beforehand under general takaful. The tabarru’ amount shall only be known once a claim is finally settled and paid to the claimants or aggrieved participants. In other words tabarru’ shall be contingent upon the occurrence of a defined misfortune.
The Malaysian model which has been in operation for almost 20 years now following the incorporation of Takaful Malaysia has from time to time undergone refinements and modifications in line with changing standard requirements of accounting, reserving, valuation that are equally applicable to conventional insurance sector. With its foundation firmly established, the Malaysian model has proven to be both viable as a business venture as well as profitable to consumers and investors alike. The fact that expenses of the operator are fully borne by the shareholders’ fund and cannot be charged to the respective takaful funds makes the model more credible in terms of upholding the principles of fairness and good virtue in a contractual obligations. The expected cash outflow from the takaful funds would thus be relatively limited mainly confined to claims and other related reserves. Hence profit-sharing would be fairly significant. For example for yearly renewal products under general takaful, the rate of profit payable to participants by Takaful Malaysia has been averaging around 36% p.a. over the last five years.
The Malaysian model is also practised by takaful operators in Brunei. It is reported that the operators there have been paying almost a similar rate of profit to their participants. In fact, takaful as well as Islamic banking have been extremely successful in making a strong impact in Brunei as it is understood their respective market share has exceeded 30%. The model is highly flexible. Softening the burden of having to shoulder a fairly heavy management expenses by the operator especially in the initial years of operation can easily be structured by adjusting the profit-sharing ratio to be slightly favouring the operator without directly affecting the interest of participants.
On the other hand there are takaful operators, in the Middle East and some African countries in particular, practising the al-wakalah or agency model. It is based on the premise that the operator is the agent of participants. Being the agent, the operator is permitted to charge on the contributions paid by participants to pay for overheads or other management expenses, including agency remuneration in consideration for the services rendered by the former. As takaful funds are also required to meet other essential takaful obligations such undertaking payment of claim benefits, retakaful costs and reserve provisions, the outflow of expenses from the funds would be comparatively higher under the wakalah model. In practical terms the model usually allows for substantial tabarru’ rates to be charged on the contributions to enable sufficient allocations be taken to cover the operator’s expenditure. For this reason it is quite common that the agency system as a marketing strategy is practiced under the model. In a way its modus operandi is almost similar to the conventional structure wherein management expenses of an insurer including commissions paid to agents are charged on the premium.
Although profit-sharing is also provided in the wakalah model, by and large the profit rate, if any, is no where comparable to the Mudharabah model. This is largely due to the heavy outflow of cost, resulting in a relatively small amount of profit left. In most instances the operators are confronted with the dilemma of not only unable to share profit with their participants but also ending up with insufficient sum of money to cover its own expenditure.
Notwithstanding the above, wakalah or agency is a practice acceptable in Islam. Nevertheless the practice ought to take into account certain fundamental characteristics that are essential in ensuring fairness, equitability and caring, virtues strongly advocated in Islam, especially on the part of the operator who is the trustee in managing funds belonging to others. Consent must first be obtained from participants before their contributions are deducted by the operator. Above all the principle of muayan has to be strictly observed and upheld, so that participants would know exactly the expences to be charged as well at its amount. The need to be specific as required under this principle is paramount to ensure participants would not be short-changed. By this principle therefore the specific purpose both in terms of types expense item as well as its absolute figure has to be spelt out and made known to the participants. Specifically the amount should also be reasonable. At the same time, Islamic scholars generally do not favour the practice of charging expenses up front whilst obligations and responsibilities under the contract have not been fully performed by the operator.
It is therefore imperative to have a common standard of operation for takaful operators in Malaysia. Since the Malaysian model has worked well and as a result Malaysia has been recognised to be the world leader in takaful, with several countries now seeking Malaysia’s assistance, existing and would be takaful operators do not have to look east or west for a suitable model. Dropping a theory is easy but certainly risky to experiment. Takaful sector must not be perceived to be different from the conventional system merely by changing certain terms.