Risk management can
be defined as a systematic approach to managing risks that threaten the assets
and income of a business or entrepreneurship. There are five types of risks in business have been
identified that are relevant to takaful
Underwriting risk and
operational risk are directly related to the operations of the takaful company.
Whereas, credit risk, liquidity risk and market risk are associated with the
company’s investment activities. All types of risk in takaful require specific
risk management strategies and need to be managed individually.
The effectively manage the risks in
takaful include the following steps:
risks management culture in takaful industry
The three current practical challenges
in risk management which is confronting takaful operators as follows:
Shari’ah Based Challenges
Practically, most of the risk management techniques
are not applicable to Islamic financial institutions due to Shariah compliance
requirements. Therefore, Shari’ah-based challenge to risk management was
created for takaful companies. These challenges arise because Shari’ah
prohibits the use of certain instruments such as derivatives involving futures,
options, swaps; and debt sales. But these mentioned instruments are beneficial
in conventional risk management.
Internal controls are
important to recognize and assess the risks faced by takaful companies. Effective
internal control plays a crucial role in risk management of takaful companies
which can evade takaful companies from systemic crises and enable companies to
be aware of the possible problems and risks they may face in the future. To
have an effective internal control mechanism, the takaful company must ensure
that Shariah controls are in addition to all statutory regulations. It urges
Syariah audit requirements as part of an on-going system of internal control.
3. Corporate Governance
It is crucial for takaful
company to have an effective corporate governance to ensure the independence
and efficiency of board of director and management level who take the
responsibility to develop policies and implement strategies for risk managment.
The lack of effective corporate governance may caused BOD not functioning
independently and thereby poses a challenge to risk management. If the
ineffective corporate governance phenomenon persist, it will increase the
operating risks which may lead to operational failure. This operational failure
is due to the inability of BOD to implement independent and unbiased decisions
for the best interests of all stakeholders. As a shari’ah compliance insurance
company, takaful companies are facing with additional challenge related to the
Shari’ah Supervidory Board’s corporate governance. This additional challenge
highlight more need to incorporate corparate governance culture to resolve
issues related to the takaful industry.
In takaful, the surplus is defined
as an asset minus the liability of takaful risk fund. Surplus exists due to the
difference between actual experience and price assumptions. Total of surplus
depends on how assets and liabilities of the takaful fund are assessed. Surplus
can be split among participants (policyholders), to takaful operators
(shareholders), and keep in the fund for contingencies.
The surplus of the tabarru
‘account to be distributed between participants and takaful operators is based
on the fact that takaful contracts are generally built on tabarru’ (donation)
and ta’awun (help-assist) along with mutual consent between parties. Tabarru is
a key principle that underlies takaful products. Other shari’ah principles such
as mudarabah are wakalah are used to support the implementation of takaful
Surplus comes from many sources such
as excessive investment income, favourable experience in benefits such as
mortality benefits, fire etc. However, in family takaful, the surplus is
usually treated separately, namely underwriting surplus. This is due to that
there are often separate models used for investment, such as mudarabah while underwriting
surplus aspects are more likely to be considered under the wakala model.
From Shari’ah perspective of
surplus, underwriting surplus arise from risk funds which are actually an
excess of takaful contributions derived from claims incurred regardless of any
investment gains arising from the contributions accumulated in the fund.
Therefore, the operator does not contribute to any incremental growth or
increase in the value of the funds.
The Accounting and Auditing
Organization for Islamic Financial Institutions (AAOIFI) is an well-known Islamic
international autonomous non-for-profit corporate body that prepare and provide
standards for Islamic financial institutions and the industry, including
takaful. According to AAOIFI, there are relevant standards allocating for the
surplus, namely Financial Accounting Standards (FAS) No. 13 (Disclosure of
Bases for Determining and Allocating Surplus or Deficit in Islamic Insurance
Companies). FAS 13 is intentionally incorporated to determine and allocate
surplus or deficit in Islamic Insurance Companies. It is required in the
standards for takaful operators to provide a statement of surplus (or deficit)
of the policyholder. The takaful operators themselves should disclose the
method they use in allocating underwriting surplus and the shari’ah basis
applied in the notes.
For general takaful funds, the
underwriting surplus is determined for each takaful business class after taking
into account commissions, unearned contributions, retakaful, claiming incurred
and management expenses. Surplus can be distributed according to the terms and
conditions set by the company’s shari’ah committees and all takaful operators
have to disclose the amount of surplus in their takaful fund.
For family takaful, the surplus is
determined by the annual actuarial valuation of the family takaful fund. The
surplus that can be distributed to the participants is determined after
deducting the claims or benefits paid, retakaful provisions, commissions, management
expenses and reserves. It is distributed according to the terms and conditions
set by the company’s Shari’ah committees.
Takaful company may invest the insurance
surplus for the policyholder’s account, if there is a real provision for this
effect in the insurance policy. The consideration to be paid to the party in
such investment related with percentage of investment profit in mudarabah or
commission amount in the case of the agency, shall be stated in the insurance