Takaful - Basic Corporate Models of Insurance

Insurance services can be provided through different corporate structures. Two common traditional models are the mutual insurer and the stock insurance company. The main difference between these two models is based on ownership, control, and who ultimately benefits from the financial performance of the insurer.

1. Mutual Insurer

A mutual insurer is an insurance organisation that is generally owned by its policyholders or members. Unlike a stock insurance company, there are usually no external shareholders who own the organisation.

The policyholders purchase insurance protection and may also have membership rights in the mutual insurer. Therefore, they are not only customers but may also collectively participate in the ownership of the organisation.

The mutual insurer collects premiums from its policyholders and uses the funds to pay insurance claims, administrative expenses, operating costs, and reserves.

If the mutual insurer has a financial surplus after meeting its obligations, the surplus may be retained as reserves or, depending on the rules of the insurer, returned to eligible policyholders through dividends, rebates, or other benefits.

Key Notes on a Mutual Insurer:

• Owner: The policyholders or members collectively own the mutual insurer.
• Who pays the premium: Policyholders pay premiums to obtain insurance protection.
• Who receives insurance protection: The insured policyholders or other eligible persons stated in the policy receive the benefits.
• Who receives claims payments: Eligible policyholders, insured persons, beneficiaries, or third parties may receive compensation depending on the type of insurance.
• Who may benefit from a surplus: Eligible policyholder-members may benefit from the surplus, depending on the insurer’s rules.
• Main purpose: To provide insurance protection primarily for the benefit of its members rather than external shareholders.

Practical Example – Mutual Insurer

Suppose 10,000 homeowners obtain property insurance from a mutual insurance company. Each homeowner pays an annual premium to the mutual insurer.

If some homeowners suffer covered losses such as fire damage, the mutual insurer uses its funds to pay the eligible insurance claims.

If there is money remaining after claims, operating expenses, and required reserves have been provided for, part of the surplus may be retained by the insurer or returned to eligible policyholders according to the organisation’s rules.

2. Insurer as a Stock Company

A stock insurance company is an insurance company owned by shareholders or investors. These shareholders provide capital to establish, finance, and support the insurance company’s operations.

The policyholders of a stock insurer are generally customers rather than owners. Purchasing an insurance policy does not normally give the policyholder ownership rights in the insurance company.

The insurance company collects premiums from policyholders and assumes responsibility for specified risks under the insurance contract. When a covered loss occurs, the insurer pays the eligible claim according to the terms and limits of the policy.

After the insurer pays claims, operating expenses, taxes, reserves, and other obligations, any remaining profit belongs to the company and may ultimately benefit its shareholders.

Key Notes on a Stock Insurance Company:

• Owner: The insurance company is owned by shareholders or investors.
• Who provides capital: Shareholders provide capital to support the company.
• Who pays the premium: Policyholders pay premiums in return for insurance protection.
• Who receives insurance protection: The policyholder, insured person, beneficiary, or eligible third party may receive protection depending on the type of policy.
• Who receives claims payments: Eligible insured persons, beneficiaries, or third parties receive compensation for covered claims.
• Who benefits from company profits: Shareholders may receive dividends or benefit from an increase in the value of their shares.
• Main purpose: To provide insurance services while operating as a profit-making company for its shareholders.

Practical Example – Stock Insurance Company

A stock insurance company provides motor insurance to thousands of customers. Ahmad purchases comprehensive motor insurance and pays an annual premium.

If Ahmad’s car is damaged in a covered accident, the insurance company may pay the eligible repair costs according to the terms of his policy.

Ahmad receives insurance protection because he is a policyholder. However, he does not become an owner of the insurance company simply because he purchased an insurance policy.

The company remains owned by its shareholders. If the insurer earns a profit after paying claims, expenses, and reserves, the shareholders may benefit from that profit.

Mutual Insurer and Stock Insurer – Comparison Notes

A mutual insurer is generally owned by its policyholder-members, while a stock insurer is owned by shareholders or investors.

In a mutual insurer, the policyholder may be both a customer and a member-owner. In a stock insurance company, the policyholder is normally only a customer unless that person separately purchases shares in the company.

In both models, policyholders pay premiums and may receive compensation when a covered loss occurs.

However, the treatment of financial surplus or profit differs. In a mutual insurer, eligible policyholder-members may benefit from the surplus. In a stock insurance company, profits primarily belong to the shareholders after the insurer has met its obligations.

Connection with Takaful

Takaful has some similarities with the mutual insurance concept because both involve a form of collective protection. However, takaful is not simply another name for mutual insurance.

Takaful is based on the Shari’ah principles of mutual assistance, cooperation, and risk-sharing. Participants contribute to a common risk fund that is used to provide financial assistance to participants who suffer covered losses.

The takaful operator manages the arrangement according to the agreed Shari’ah-compliant model. Depending on the structure, the operator may receive a management fee, share in investment profits, or operate under another approved contractual arrangement.

An important distinction is that the participants’ risk fund is separated from the takaful operator’s shareholders’ fund. Claims are generally paid from the participants’ risk fund rather than being treated simply as liabilities assumed directly by shareholders.

Practical Example – Takaful

Suppose 10,000 vehicle owners participate in a motor takaful scheme. Each participant contributes money into a common participants’ risk fund.

If one participant suffers a covered motor accident, the eligible claim may be paid from the participants’ risk fund.

If the fund has a surplus after claims, reserves, and permitted expenses have been provided for, the surplus may be retained, distributed to eligible participants, or otherwise managed according to the takaful arrangement, regulatory requirements, and Shari’ah principles.

Key Difference to Remember

A mutual insurer is generally owned by its policyholder-members.

A stock insurance company is owned by shareholders or investors.

A takaful arrangement is based on mutual assistance and risk-sharing among participants through a Shari’ah-compliant participants’ risk fund managed by a takaful operator.

Therefore, although takaful shares certain characteristics with mutual insurance, its contractual structure, fund management, and operations are specifically designed to comply with Shari’ah principles.