Conventional insurance is not compatible in Islam, because it involves with some of the elements which are clearly prohibited from the Shariah point of view.
However, the concept of risk management by itself is a very valid concept in Islam.
Because Muslims are in fact encouraged to mitigate as much as possible all types of risk that a certain disaster may happen or befall them.
So the words “insurance”, as to insure oneself against a certain type of disaster, is fairly fine.
However, the thing is, the mechanism or the risk management method have to comply with the Shariah requirements.
So in the Islamic Finance industry today, we have a very competitive alternative to the conventional insurance that we call the Takaful Industry.
So what is Takaful?
Takaful is in fact an Arabic word which means co-operative or mutual guarantee. It is indeed a cooperative scheme which involves all the participants in the scheme to contribute a certan contribution to a pool of funds with the purpose of coverage between all the participants.
So the payment of the contribution, will be pooled together with other participants’ contribution as well, and all the participants will have the mutual agreement amongst them that the fund will be used for the purpose of coverage in the event of loss or certain disaster that may happen to any of the participants in the scheme.
What is tabarru’?
Therefore the contribution that a participant pays to the pool of fund is not similar with the “premium” concept in the conventional insurance, because the word which is used in the Takaful scheme is actually “tabarru’”.
Tabarru’ means a “donation”.
So a participant of a Takaful scheme is actually giving donation to the pool of fund which at the end will benefit each other, all the participants in the scheme.
I think it is also worth mentioning here that all Takaful Operators in the world will have its own Shariah Committee or Shariah team which will help and assist to ensure that the pool of fund will be administered, managed and invested according to the Shariah principles.
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