Takaful - Distribution Costs, Technology and the Need for Innovation

Concise Overview

Selling insurance already involves substantial distribution costs because insurers must reach customers, explain products, market them, and complete the sales process. Takaful faces an additional challenge because operators must often educate customers about what Takaful is and how it differs from conventional insurance before they can sell the product. Technology may help reduce these costs, but simply copying conventional insurance products and practices is unlikely to create a strong or sustainable Takaful industry.

The purchase of insurance generally requires considerable effort by the insurer. Customers normally do not automatically seek out and understand protection products, so insurers must spend money on agents, brokers, branches, advertising, sales staff, customer education, and administrative processes. These activities create significant distribution costs.

Traditional insurers have historically relied on brick-and-mortar distribution, meaning physical branches, offices, agents, and face-to-face sales channels. Although these methods can build trust and provide personal advice, they are expensive because insurers must pay for premises, staff, commissions, training, and other operating expenses.

Technology-based firms have attempted to disrupt this traditional model by using digital channels to reach customers more cheaply. Customers may be able to compare products, obtain quotations, purchase policies, make payments, and submit claims through websites or mobile applications without relying heavily on physical branches or agents.

One example has been the development of peer-to-peer insurance, where technology is used to create groups of customers who share certain risks. Some of these businesses achieved rapid customer growth in their early stages. However, rapid growth does not necessarily mean that the business is profitable.

A company may attract thousands or even millions of customers but still lose money if its marketing expenses, technology costs, claims, administration, and customer-acquisition costs are greater than its income. Therefore, some early technology-based insurance pioneers have still not demonstrated that their business models can provide sustainable long-term profits for investors.

Simple Idea

Fast growth ≠ Profitability

A company can have many customers and still be financially unsustainable.

The challenge is even greater for Takaful operators. A conventional insurer generally needs to convince the customer that a particular insurance product is suitable. A Takaful operator may first need to explain what Takaful itself means before discussing the specific product.

Many customers may not understand concepts such as:

• Tabarru’
• Mutual risk sharing
• Participants’ Risk Fund
• Shari’ah-compliant investment
• Relationship between participants and the Takaful operator
• Difference between Takaful and conventional insurance

Therefore, customer education becomes an additional stage in the sales process.

Example

A conventional insurer may tell Ahmad:

“This motor insurance costs RM1,200 per year and provides these benefits.”

The insurer mainly needs to explain the coverage, exclusions, and price.

A Takaful operator may need to explain:

“This is a Shari’ah-compliant mutual protection arrangement. Part of your contribution goes into a common risk fund through tabarru’, and participants collectively help one another when covered losses occur.”

Only after Ahmad understands this concept may the operator then explain the actual motor Takaful product.

This additional education requires more time, trained staff, marketing material, customer communication, and possibly more interaction before the sale is completed. As a result, Takaful distribution costs may be higher than conventional insurance distribution costs.

Simple Process

Conventional Insurance

Customer needs protection

→ Product explained

→ Customer buys insurance

Takaful

Customer needs protection

→ Takaful concept explained

→ Difference from insurance explained

→ Product explained

→ Customer buys Takaful

Therefore:

More education stages → More distribution effort → Potentially higher cost

To become successful, Takaful operators should learn from the experience of both traditional insurers and technology-based insurers. Traditional insurers provide lessons in underwriting, claims management, customer service, risk management, and distribution. Fintech-based insurers provide lessons in digital sales, automation, data analytics, mobile applications, and lower-cost customer access.

However, Takaful should not simply adopt a “cut-and-paste” approach by copying conventional insurance products and changing only the terminology. For example, merely replacing the word “premium” with “contribution” or “policyholder” with “participant” does not create a genuinely distinctive Takaful model.

A successful Takaful product should reflect its own principles of:

• Mutual assistance
• Risk sharing
• Tabarru’
• Shari’ah-compliant investment
• Transparency
• Fair treatment of participants
• Appropriate management of the Participants’ Risk Fund

Therefore, innovation should be based on the real objectives and structure of Takaful rather than merely reproducing conventional insurance practices.

Example of a Cut-and-Paste Problem

Suppose a conventional insurance product is copied exactly into a Takaful product.

The operator changes:

Premium → Contribution

Policyholder → Participant

But everything else remains unchanged.

If the product does not properly reflect mutual risk sharing, fund separation, tabarru’, or Shari’ah governance, then the product may be Islamic mainly in terminology rather than in substance.

For this reason, increasing attention has been given to the use of technology to disrupt traditional Takaful and insurance models. Digital platforms can potentially reduce reliance on expensive branches and agents while making products easier to understand and purchase.

Technology may allow customers to:

• Learn about Takaful through digital education
• Obtain quotations online
• Purchase protection using mobile applications
• Make digital contribution payments
• Submit claims electronically
• Upload supporting documents
• Receive claim updates instantly
• Communicate with the operator through digital channels

Technology can therefore be particularly valuable to Takaful because it may reduce both the cost of customer education and the cost of distribution.

Example

Instead of an agent spending 30 minutes explaining Takaful individually to every customer, the operator could develop:

• Short educational videos
• Interactive explanations
• Frequently asked questions
• Automated chat support
• Simple comparison tools

Thousands of customers could receive the same explanation at a much lower average cost.

However, technology should not be viewed as an automatic solution. A digital Takaful business must still achieve sufficient customer volume, control claims costs, manage cyber and operational risks, provide good customer service, and generate enough income to remain financially sustainable.

The key lesson is therefore that technology should improve the Takaful model, not simply digitise an inefficient traditional model. If an operator has a poorly designed product and simply puts it into a mobile application, the fundamental weaknesses of the product remain.

Easy Way to Remember

Traditional insurance challenge:

High distribution cost

Additional Takaful challenge:

High distribution cost + Customer education cost

Possible solution:

Technology + Better product design + Digital education

But:

Technology alone ≠ Guaranteed profitability

Simple Formula

Takaful Success = Shari’ah-Compliant Product Design + Customer Education + Efficient Distribution + Technology + Good Service + Financial Sustainability

Not:

Conventional Insurance Product + Islamic Terminology = Successful Takaful

Takaful - What Is Pooling of Risk?

Pooling of risk means combining the risks and contributions of many participants into one common fund so that the financial loss of one participant can be shared by the whole group.

For example, suppose 1,000 participants each contribute RM1,000 into a Participants’ Risk Fund. The total pool becomes RM1 million. If one participant suffers a covered loss of RM50,000, that claim is paid from the common pool rather than that participant having to bear the full RM50,000 alone.

The purpose of pooling is to make individual losses more manageable. Not everyone will suffer a loss at the same time, so the contributions of the many can be used to help the few who experience a covered calamity.

In Takaful, this reflects the idea of mutual assistance and shared responsibility. Participants contribute through tabarru’ to help one another.

Simple Example

Without pooling:

Ahmad suffers RM50,000 loss → Ahmad bears RM50,000 alone.

With pooling:

1,000 participants contribute to one fund → Ahmad’s RM50,000 covered loss is paid from the common fund.

Easy Way to Remember

Pooling of risk = Many people share the financial burden of the few who suffer losses.

Many contributions → One common risk fund → Claims paid to participants who suffer covered losses

Takaful - What Is Pooling of Risk?

Pooling of risk means combining the risks and contributions of many participants into one common fund so that the financial loss of one participant can be shared by the whole group.

For example, suppose 1,000 participants each contribute RM1,000 into a Participants’ Risk Fund. The total pool becomes RM1 million. If one participant suffers a covered loss of RM50,000, that claim is paid from the common pool rather than that participant having to bear the full RM50,000 alone.

The purpose of pooling is to make individual losses more manageable. Not everyone will suffer a loss at the same time, so the contributions of the many can be used to help the few who experience a covered calamity.

In Takaful, this reflects the idea of mutual assistance and shared responsibility. Participants contribute through tabarru’ to help one another.

Simple Example

Without pooling:

Ahmad suffers RM50,000 loss → Ahmad bears RM50,000 alone.

With pooling:

1,000 participants contribute to one fund → Ahmad’s RM50,000 covered loss is paid from the common fund.

Easy Way to Remember

Pooling of risk = Many people share the financial burden of the few who suffer losses.

Many contributions → One common risk fund → Claims paid to participants who suffer covered losses

Ahmad suffers RM50,000 loss → Ahmad bears RM50,000 alone. With pooling:

1,000 participants contribute to one fund → Ahmad’s RM50,000 covered loss is paid from the common fund. Easy Way to Remember Pooling of risk = Many people share the financial burden of the few who suffer losses. Many contributions → One common risk fund → Claims paid to participants who suffer covered losses

Takaful - Commercialisation of Takaful

The pooling of risks is one of the most important mechanisms in Takaful. By combining the contributions of many participants into a common fund, financial losses suffered by individual participants can be shared across the group. This makes large individual losses more manageable and reflects the principle of mutual assistance encouraged by Shari’ah.

In Takaful, the tabarru’ contribution is not intended to operate in the same way as a conventional insurance premium. It represents a donation to the common risk pool so that participants who suffer a covered calamity can receive financial assistance from that fund. Therefore, the underlying idea is that participants help one another rather than simply purchasing risk protection from an insurer.

However, modern Takaful has become increasingly commercialised. Most Takaful operators are established as commercial companies that require substantial private capital to begin operations. Shareholders provide this initial capital and naturally expect the business to generate an appropriate return on their investment.

The need for shareholder capital arises because Takaful is a capital-intensive business. A new operator requires significant funds before it can even build a sufficiently large participant base. Capital is needed for licensing requirements, technology systems, employees, actuarial services, underwriting, claims management, marketing, branch networks, Shari’ah governance, and regulatory compliance.

For this reason, establishing Takaful as a completely pure mutual arrangement without initial outside capital can be difficult. Participants may eventually create a large common pool, but the operator still needs money at the beginning to establish the business and support its operations before sufficient contributions are collected.

Example

Suppose a new Takaful operator wants to begin operations.

Before receiving enough participant contributions, it may already need:

RM50 million for regulatory capital, systems, staff, offices, marketing, and operational infrastructure.

If there are no shareholders, donors, or other providers of initial capital, it may be very difficult to establish the Takaful operation.

The commercial nature of modern Takaful can create a conflict between social objectives and shareholder objectives. Shareholders normally expect the operator to generate profit and provide a return on their capital. As a result, the operator may naturally focus more heavily on customers and products that are financially attractive.

This can limit access to Takaful for certain segments of society, especially:

• Low-income households
• Rural communities
• Small farmers
• Informal workers
• Small businesses
• People requiring very small or low-margin protection products

These customers may genuinely need financial protection but may not generate sufficient commercial returns for a shareholder-driven Takaful operator.

Example

A Takaful operator may have two possible markets.

Market A

• High-income urban customers
• Average contribution = RM5,000
• Low distribution cost
• Strong profit potential

Market B

• Low-income rural customers
• Average contribution = RM100
• Higher distribution cost
• Lower profit margin

A commercial operator may naturally prefer Market A because it provides a better financial return to shareholders, even though Market B may have a greater social need for protection.

This illustrates how commercialisation can restrict financial inclusion. Takaful is based on mutual assistance, but commercial pressures may cause operators to prioritise profitable customers rather than communities that have the greatest need for protection.

One possible alternative is the establishment of not-for-profit Takaful operators funded initially by benefactors, donors, foundations, waqf institutions, governments, or socially responsible investors. These parties could provide the initial capital required to establish and operate the Takaful scheme without demanding the same level of financial return expected by ordinary commercial shareholders.

A not-for-profit Takaful operator does not mean that the organisation operates as a charity or continuously gives free protection. It must still be financially sustainable. Contributions must be sufficient to cover claims, expenses, reserves, administration, technology, and other operating costs.

The difference is that the primary objective would not be to maximise returns for shareholders. Instead, the priority would be to provide sustainable Takaful protection to communities that need it, while ensuring that the operation can financially support itself.

Simple Example

Suppose a not-for-profit Takaful operator receives:

RM20 million in contributions

Its annual costs are:

• Claims = RM12 million
• Operating expenses = RM5 million
• Reserves = RM2 million

Total requirements:

RM19 million

Remaining amount:

RM1 million

The operator does not need to distribute this RM1 million as shareholder profit. It may instead retain it to strengthen reserves, improve services, reduce future contribution rates, or expand protection to underserved communities, depending on the applicable Takaful structure.

Therefore, “not-for-profit” does not mean “no surplus” and does not mean “charity.” It means that the organisation is designed primarily to sustain the Takaful scheme and serve participants rather than maximise shareholder returns.

The key distinction is the priority of the institution.

A commercial Takaful operator may need to balance:

Participant Protection + Business Sustainability + Shareholder Return

A not-for-profit Takaful operator would focus more strongly on:

Participant Protection + Financial Sustainability + Wider Social Access

This approach could help Takaful return more closely to its original principles of mutual assistance, solidarity, and social protection, while still operating in a professionally managed and financially sustainable manner.

Easy Way to Remember

Commercial Takaful

= Needs shareholder capital

= Shareholders expect returns

= Greater pressure to focus on profitable markets

Not-for-Profit Takaful

= Initial capital may come from donors or benefactors

= Must still cover its own costs

= Priority is sustainable protection rather than shareholder profit

Simple Formula

Risk Pooling + Tabarru’ + Mutual Assistance = Core Takaful Principle

But:

Commercialisation + Shareholder Return Pressure → Possible Reduced Access for Low-Profit Segments

Possible alternative:

Donor Capital + Sustainable Operations + No Profit-Maximisation Objective = Wider Takaful Access

Takaful - Consumer Perception and Service Quality

Many customers perceive Takaful as being very similar to conventional insurance because both provide financial protection against specified risks. From the customer’s point of view, the practical experience may appear similar: they pay a contribution, receive a certificate of protection, and expect compensation when a covered event occurs. However, many customers do not fully understand the underlying Shari’ah contract, the role of tabarru’, or the relationship between the participant, the Participants’ Risk Fund, and the Takaful operator.

Some customers choose Takaful mainly because of religious considerations. They prefer a protection arrangement that avoids elements such as riba, gharar, and maysir and that is structured according to Shari’ah principles. For this group, Shari’ah compliance is an important reason for selecting Takaful instead of conventional insurance.

However, for many customers, service quality is still the most important factor when deciding whether to purchase or continue with a Takaful plan. Even if a product is Shari’ah compliant, customers may be dissatisfied if the service is poor, the plan is difficult to understand, or claims are delayed.

Good service begins with providing a clear and adequate explanation of the Takaful plan. Customers should understand what is covered, what is excluded, how much contribution they must pay, how claims are made, and what benefits they may receive. The operator should also explain the basic structure of Takaful so that the customer understands that it is based on mutual assistance rather than a conventional risk-transfer arrangement.

Another important factor is offering a plan that is suitable for the customer’s actual needs. The operator should not simply sell the same product to everyone. For example, a young family may need strong family protection and medical coverage, while a small business owner may require property, liability, or business interruption protection.

Customers also consider whether the Takaful contribution rate is reasonable and affordable. If the contribution is too high compared with the benefits offered, customers may choose another Takaful provider or even a conventional insurer. Therefore, operators need to balance affordability with the financial sustainability of the Participants’ Risk Fund.

The most important service factor is often claims handling. Customers expect claims to be processed quickly, fairly, and transparently. A Takaful operator may have strong Shari’ah governance and good products, but if claims are delayed or handled poorly, customers may lose confidence in the operator.

Example

Suppose Ahmad is choosing between two protection plans.

Operator A

• Strong Shari’ah branding
• Poor explanation of benefits
• Higher contribution
• Slow claims process

Operator B

• Also Shari’ah compliant
• Clearly explains the plan
• Offers suitable coverage
• Charges a reasonable contribution
• Processes claims quickly

Ahmad may prefer Operator B because the overall service quality and customer experience are better.

This means that Takaful operators cannot rely only on their Islamic identity to attract and retain customers. They must combine Shari’ah compliance with strong service quality, suitable products, fair pricing, and efficient claims management.

Simple Idea

Religious preference may attract the customer, but good service helps retain the customer.

Simple Formula

Customer Preference = Shari’ah Compliance + Clear Explanation + Suitable Product + Reasonable Contribution + Efficient Claims Service

Takaful - Can the Participants’ Risk Fund Be Invested?

Yes. The Participants’ Risk Fund (PRF) can be invested, but the operator cannot simply invest any amount it wants. The amount invested is subject to liquidity needs, expected claims, solvency requirements, regulatory investment limits, asset concentration limits, and Shari’ah requirements.

Clarifying the Investment Limit

There is no single universal rule saying, for example, that exactly 60% or 70% of every PRF must be invested. The permitted amount depends on the jurisdiction, the regulator, the type of Takaful business, the expected pattern of claims, and the characteristics of the investments.

Therefore, the earlier example of:

RM4 million liquid + RM6 million invested

was only an illustration, not a regulatory requirement.

1. Enough Liquidity Must Be Maintained

The PRF exists primarily to pay participants’ covered claims. Therefore, the operator must keep enough assets in cash or highly liquid investments to meet expected claims when they fall due.

For example, if a General Takaful operator expects many motor claims to be paid over the next few months, it should not place most of the PRF into long-term investments that cannot easily be sold.

Higher short-term claim needs → More liquidity required → Less money available for long-term investment

2. Regulatory Investment Limits Apply

The regulator may specify what types of assets Takaful funds can invest in and may impose limits on exposure to particular investments.

For example, regulations may restrict excessive investment in:

• Equities
• Property
• A single company
• A single Sukuk issuer
• Foreign assets
• Illiquid investments
• Higher-risk assets

The purpose is to prevent the PRF from becoming too concentrated or exposed to excessive investment risk.

3. Solvency Must Be Protected

The operator must ensure that investment decisions do not weaken the PRF’s ability to meet its liabilities.

For example, suppose:

PRF assets = RM100 million

Expected claims and liabilities = RM80 million

The operator cannot simply invest the whole RM100 million in volatile equities in search of higher returns. A severe market decline could reduce the value of the assets and make it difficult for the fund to meet claims.

Therefore:

Investment return is important, but claim-paying ability comes first.

4. Shari’ah Limits Also Apply

Every PRF investment must comply with Shari’ah principles.

The operator cannot invest the PRF in:

• Conventional interest-bearing bonds
• Conventional interest-based deposits
• Companies whose activities fail applicable Shari’ah screening
• Other prohibited investments

Suitable investments may include:

• Islamic bank deposits
• Sukuk
• Islamic money-market instruments
• Shari’ah-compliant equities
• Other approved Islamic investments

5. Asset-Liability Matching Is Important

The investment period should also match the expected timing of claims.

General Takaful

Claims may arise relatively quickly.

Therefore, the PRF normally needs a greater proportion of:

Short-term + liquid investments

Longer-Term Liabilities

Where obligations are expected further into the future, the fund may be able to hold more:

Medium- or long-term Shari’ah-compliant investments

Example

Suppose a PRF contains RM100 million.

The operator estimates that it may need RM30 million relatively soon for claims and other obligations.

It might therefore maintain:

RM30 million → Cash / highly liquid Islamic instruments

and invest part of the remaining funds in:

Sukuk + Islamic money-market instruments + Shari’ah-compliant equities

However, the actual allocation must remain within the operator’s regulatory, solvency, risk-management, and Shari’ah limits.

Easy Way to Remember

The PRF is not limited by one fixed investment percentage.

Instead, the operator asks:

How much must remain available for claims?

How much can safely be invested?

What investments are permitted by Shari’ah and regulation?

Simple Formula

PRF Investment Limit = Available Funds − Required Liquidity − Claim Obligations − Required Financial Buffers

subject to:

Shari’ah Rules + Regulatory Limits + Solvency Requirements + Diversification Requirements

So, the main principle is:

PRF can be invested, but protection of participants and ability to pay claims take priority over earning the highest possible investment return.

Takaful - Can the Participants’ Risk Fund Be Invested?

Yes. The Participants’ Risk Fund (PRF) can be invested, but the operator normally does not invest all of it. Part of the fund must remain sufficiently liquid so that claims can be paid when they arise.

The Takaful operator may invest part of the PRF in Shari’ah-compliant investments such as Islamic deposits, Sukuk, Islamic money-market instruments, or other approved assets. The purpose is to earn additional returns and strengthen the risk fund.

Example

Suppose the PRF contains RM10 million.

The operator may keep:

RM4 million → Cash or highly liquid Islamic deposits

and invest:

RM6 million → Sukuk and other Shari’ah-compliant investments

If claims of RM3 million arise, the operator can use the liquid portion of the PRF to pay them.

The investment profit earned from the PRF generally remains part of the Participants’ Risk Fund. It strengthens the fund and can help meet future claims, reserves, and other obligations according to the Takaful model.

For example:

PRF = RM10 million

Investment return = RM300,000

The fund may then become:

RM10.3 million, before claims and other expenses.

This is different from the Individual Investment Fund. The Individual Investment Fund is mainly for a participant’s personal savings and investment, whereas the PRF is a collective fund for mutual protection.

Easy Way to Remember

Individual Investment Fund → Invested for the individual participant

Participants’ Risk Fund → Invested to strengthen the collective risk pool

So the flow is:

Participants’ contributions → PRF → Part kept liquid + Part invested → Investment returns added to PRF → Claims paid from PRF

Takaful - Difference Between Individual Investment Fund and Participants’ Risk Fund

The Individual Investment Fund and the Participants’ Risk Fund (PRF) have different purposes in Takaful. The Individual Investment Fund is mainly for the participant’s personal savings and investment, while the Participants’ Risk Fund is a collective pool used to pay claims and provide mutual protection.

1. Individual Investment Fund

The Individual Investment Fund belongs to the individual participant and is commonly found in Family Takaful products. Part of the participant’s contribution is placed into this account and invested in Shari’ah-compliant assets so that it can grow over time.

The participant may receive the accumulated value of this fund at maturity, surrender, or according to the terms of the Takaful certificate. Investment returns generated by the fund are generally credited to the participant, subject to the applicable fees and Takaful model.

Simple Idea

Individual Investment Fund = My personal savings/investment account

2. Participants’ Risk Fund

The Participants’ Risk Fund is a collective fund belonging to the participating group. Participants contribute part of their money as tabarru’, or donation, into this fund for the purpose of helping any participant who suffers a covered loss.

Claims are mainly paid from this fund. Unlike the Individual Investment Fund, the money in the PRF is not simply the participant’s personal savings that can be withdrawn whenever desired.

Simple Idea

Participants’ Risk Fund = Our common protection fund

Example

Suppose Ahmad pays a Family Takaful contribution of RM1,000.

For illustration, the contribution may be divided as follows:

RM700 → Individual Investment Fund

RM300 → Participants’ Risk Fund

The RM700 is invested for Ahmad’s personal long-term savings and may grow through Shari’ah-compliant investments.

The RM300 goes into the common risk pool together with contributions from other participants.

If another participant, Ali, dies or suffers a covered event, the Takaful benefit relating to risk protection is paid from the Participants’ Risk Fund.

Main Difference

Individual Investment Fund

= Individual participant’s money

= Savings and investment purpose

= Accumulates for that participant

= May be received at maturity or surrender, depending on the contract

Participants’ Risk Fund

= Collective participants’ money

= Mutual protection purpose

= Used to pay covered claims

= Built mainly from tabarru’ contributions

Easy Way to Remember

Individual Investment Fund = “My money for my future.”

Participants’ Risk Fund = “Our money to help anyone in the group who suffers a covered loss.”

Simple Flow

Participant’s Contribution → Split

Part 1 → Individual Investment Fund → Savings + Investment

Part 2 → Participants’ Risk Fund → Tabarru’ + Claims

The exact split and treatment depend on the particular Family Takaful product and operating model. General Takaful products may mainly use a Participants’ Risk Fund and may not have a separate individual investment fund.

Takaful - Investment Management

The particular Takaful model adopted by an operator can influence how its funds are invested. Different models may determine how investment profits are allocated and how the operator manages participants’ funds. However, the common objective is to invest available funds in a Shari’ah-compliant manner so that they can grow while remaining sufficiently safe and liquid.

⸻

Takaful operators generally manage several types of funds. These may include the participants’ individual or investment fund, the Participants’ Risk Fund, and the operator’s own shareholders’ fund. Instead of leaving all these funds as idle cash, the operator invests appropriate amounts to generate returns and strengthen the financial position of the Takaful arrangement.

⸻

A major challenge is the limited availability of suitable halal investment opportunities. This problem can be especially serious in countries where the Islamic financial system is still at an early stage of development. Such markets may have only a small number of Islamic banks, Sukuk, Shari’ah-compliant shares, and other Islamic financial instruments available for investment.

⸻

For example, Takaful operators need Islamic bank accounts or Islamic money-market instruments where they can place short-term funds while earning competitive Shari’ah-compliant returns. This is particularly important because part of the Participants’ Risk Fund must remain liquid so that claims can be paid when they arise. If there are very few Islamic banking facilities available, the operator may find it difficult to achieve both liquidity and attractive returns.

⸻

Investment in shares or equities creates another challenge. A Takaful operator cannot simply invest in any listed company. The company must satisfy the relevant Shari’ah screening requirements, including restrictions relating to prohibited business activities and excessive involvement in interest-based financing.

⸻

This can become difficult in markets where companies depend heavily on conventional bank loans and interest-based financial instruments. Even if the company’s main business activity is permissible, excessive conventional debt or non-compliant financial income may cause its shares to fail the applicable Shari’ah screening criteria. Therefore, the number of suitable stocks available to the Takaful operator may be limited.

⸻

Sukuk provide another important investment avenue for Takaful operators because they can offer Shari’ah-compliant income and may be suitable for matching longer-term obligations. However, not every Sukuk has the same level of liquidity. Some Sukuk may be difficult to sell quickly in the secondary market.

⸻

Liquidity can be particularly important for certain debt-based Sukuk or similar instruments. Some Shari’ah scholars and standards, including relevant AAOIFI principles, place restrictions on the trading of instruments that predominantly represent debts or receivables. Consequently, a Takaful operator may not always be able to freely buy and sell such instruments at market prices.

⸻

This creates an important investment-management problem. The operator may find an investment that is Shari’ah compliant and provides a good return, but if it cannot easily convert that investment into cash, it may not be suitable for a fund that needs to pay claims at short notice.

⸻

Example

Suppose a General Takaful operator has RM100 million available in its Participants’ Risk Fund. It cannot invest the entire RM100 million in long-term or illiquid Sukuk because claims may arise unexpectedly.

It may therefore allocate the money between:

• Islamic bank deposits for short-term liquidity
• Highly liquid Shari’ah-compliant instruments
• Sukuk for more stable returns
• Shari’ah-compliant equities for potential growth

The operator must balance return, safety and liquidity.

⸻

Takaful operators must also consider regulatory requirements when making investment decisions. Shari’ah compliance alone is not sufficient. The operator must also comply with the investment rules imposed by the regulator in the jurisdiction where it operates.

⸻

One important consideration is the solvency ratio. Regulators require Takaful operators to maintain sufficient financial resources to meet their obligations to participants and claimants. Certain investments may carry greater risk or may receive less favourable treatment when calculating regulatory capital. Therefore, an operator cannot simply select an investment because it provides the highest return.

⸻

For example, investing heavily in volatile shares might produce higher potential returns, but it could also increase the possibility of investment losses and weaken the operator’s solvency position. The operator must therefore construct a portfolio that supports both investment growth and financial stability.

⸻

Investment management in Takaful therefore requires the operator to balance several objectives at the same time:

Shari’ah Compliance + Return + Safety + Liquidity + Solvency + Regulatory Compliance

⸻

The overall challenge is that Takaful operators must grow participants’ and shareholders’ funds without compromising Shari’ah principles or their ability to meet claims. This becomes more difficult in markets where Islamic investment instruments are limited or where Shari’ah-compliant securities have insufficient liquidity.

Simple Idea

Takaful funds should not remain idle → Funds are invested → Investments must be halal → They must also provide suitable returns, remain sufficiently liquid, and satisfy regulatory and solvency requirements.

Takaful - Retakaful Windows and Profitability

Most, if not all, Retakaful operations that have a sufficiently acceptable rating from major rating agencies are now operated as Retakaful windows within larger reinsurance companies.

One important reason is that Retakaful windows can often operate more profitably than standalone Retakaful operators because they can share the parent company’s existing infrastructure, staff, systems, technical expertise, and distribution network.

A standalone Retakaful operator has to bear all of its own operating costs, including offices, employees, technology, underwriting systems, claims management, compliance, and Shari’ah governance. This means it usually needs a much larger volume of business before it can become profitable.

By contrast, a Retakaful window can operate with a lower volume of business because many of these costs are already covered by the larger parent company. As a result, the additional cost of running the Retakaful window is lower.

Therefore, Retakaful windows may achieve profitability more easily, while standalone Retakaful operators may struggle if the market does not provide enough business to cover their higher fixed costs.