Alhuda CIBE -The need for insurance for the low income segment

1. The needforinsurance forthe lowincome segmentof the populationiswell documented.Inthis
segment,anunexpectedeventresultinginalossof income can have a catastrophiceffect onthe family
unit.The problemwithinsurance isthatitis usuallyrunasa businessandassuch maybe an
inappropriate vehicletoservice the lowincome segmentof the market.Thinkaboutitthisway,there
are significantbusinessrisksinmicroinsurance andinsurersinthe developingworld(where the low
income segmentof the marketisprobablythe largest) see betterbusinessopportunitiestappingthe
growingaffluentmiddleincome segmentof the market.The risk-returnstoryforthisgrowingmiddle
classin developingcountries,where insurance penetrationitself isstill below thatof more developed
markets,ismore compellingthanforthe lowerincome segmentof the market.Thus,without
governmentinterventioninthe formof subsidyorlikewise, itisunlikelythatthe problemof
underinsurance forthe poorwill be resolvedanytime soonif we were todependentirelyoninsurance
companiestoleadthe way.
The Insurance Landscape:-
Insurance isone alternative tomanagingrisks.Forinsurance this involvespayingapremiumfora
transferof riskfrom the insuredtothe insurance company.Formost individualswhobuyinsuranceitis
for the purpose of protectingassets.These assetscanbe property(casualtyorgeneral insurance) or
future income (lifeinsurance).Insurance,like banking,isheavilyregulatedasthisinvolvescollecting
moneyfromthe publicandprovidingcustodial servicesuntil claimsare paid.Althoughthere canbe
manyforms of insurance (e.g.directandre insurers) inmostcountriesone setof regulationscoverall
insurers.Successfulinsurance companiesare those thathave attainedcritical size (definedaswhen
expense loadingexceedsexpensesincurred) andunderwriteprofitably.Asaconsequence of thisthe
insurerisable toprovide a goodreturnto shareholders.The yardstickof profitabilityfromthe
shareholdersperspective isthe unitreturnperdollarcapital invested.Thus,the optimal positionisto
write the mostprofitable businessforthe leastamountof capital employed.
The Curse of beingMicro:-
In mostcountriesinsurersservingthe “micro”marketalsoserve the “mainstream”market.Thus,
maximizingprofitstoshareholdersremainsanimportantconsiderationforthe “micro”market.In
certaincountries,like India,the regulatorregulatesthataminimumtargetof grosswrittenpremium
shouldbe fromthe “micro” marketto ensure thatthe insurance industrycontributestothe national
agendaof financial inclusion.Insurance isnormallySOLDnotBOUGHT andthe level of financial literacy
amongbuyersof micro insurance isprobablylow.The costof providingfinancial advice ishighasa
percentage of the micropremium.Where thencanmicropolicyholdersaffordtosource financial advice
on insurance?Inthe absence of personalizedfinancialadvice,the micromarketshouldonlyserve simple
and standardizedprotectionproductswhere minimalfinancial adviceisnecessary.
The Spiritof Takaful:-
Islamisnot onlyaboutbelief inGodandhow God shouldbe worshiped.Islamprovidesguidance onall
aspectsof life,fromresolvingfamilymatters,tocrime andpunishmentandtothe conductof business.
Insurance,asa businessthereforeneedstosatisfythe conditionsplacedbyShariaforitto be

2. consideredhalal (permissible).Islamisnotagainstprofitingfromtrade andservicesbutShariaprinciples
require thatsuch transactionsshouldavoidexploitationof the individual.Thismeansavoidingriba
(interest),gharar(uncertaintyinthe contract) andmaysir(gambling).Thisappliestoboththe insurance
contract and howinsurance fundsare invested.The 1985 FiqhAcademyinMakkah concludedthatthe
conventional forprofitinsurance contracthaselementsof ghararandmaysirmakingit notSharia
compliant.Forinsurance to be halal it mustsatisfytwoconditions;(1) Itiscooperative innature (this
meansthat insurance mustfollow the cooperativeorMutual model).(2) The insurance riskpool hasto
be establishedonthe basisof charityandcooperation(the oppositeof charityandcooperationwould
be an institutiondrivenbyprofit).
The FiqhAcademyreasonedthata more acceptable formof insurance isthe cooperative orMutual
model where the intentionistofostersolidarity,all membersinthe grouplendingahelpinghandto
those inthe group whoare unfortunate.The ghararelementitwouldseemisoffsetbythe intentionof
mutual assistance amongthe participantsinthe cooperative,while the maysirelementisremovedby
removingthe emphasisonprofitingfromthe program.
While Takaful itselfisina relative stage of infancyinPakistan(4% percentof the overall insurance
industry’sgrosswrittenpremium1),microinsuranceisalsostrugglingtobreakthroughitsembryonic
shell andcarve a niche foritself withthe growingnumberof policyholders(currently4millionapprox.2
).Similarly,microtakaful inPakistanisalsoallowedasan offshootof the microinsurance regulatory
frameworkasenvisagedinthe recentTakaful Rulesof 2012. Pakistan,whichisa countrywitha
predominantmajorityMuslimpopulation(98percent3),hashistoricallywitnessedalowerinsurance
penetrationanddensityascomparedtoitsregional peers.A slightimprovement,however,hasbeen
witnessedduringthe lastfive yearswhenthe penetrationhadanupsurge from0.74 to 0.92 percentof
GDP, whereasthe densityhasjumpedfromUSD5.38 to USD 7.64 percapita4 , withoutincorporating
the inflationaryaswell ascurrencydevaluationfactors.
Takaful and Micro Takaful inMalaysia:-
In Malaysia,takaful isa hybrid,acombinationof proprietary(the operator’sfund) andmutual (the
participants’fund) operations.The ‘insurance’isconductedinthe participants’fund.All takaful
operatorsare from 2014 subjecttoa Riskbasedapproachto solvencycapital requirements.The
Regulationplacesthe onusonthe operatortoguarantee that takaful benefitsare paid.The operator
providesatemporaryqard(interestfree loan) tocoveranydeficitsinthe participant’sfundwhichis
thenrepaidfromfuture surplusesinthe participants’fund.Microtakaful productsinMalaysiaare
primarilydesignedas“small size”regulartakaful productssubjecttothe same considerationswith
regardto profitability/sustainabilityasothertakaful products.Usuallytakafulispackagedwithsmall
loansto save on distributioncosts.InMalaysiatherefore,itismore “mini”takaful ratherthan“micro”
takaful.
What aboutTakaful Product:-
The needto ensure transparencymeansthe deductionforexpensesandcommissionsmustbe clearly
setout. Thisdeduction,calledthe agencyorwakalafees,ispaidtothe takaful operatortomeetits

3. distributionandmanagementexpenses.Currentlythe wakalafee chargedbythe operatorisexpressed
as a percentage of the contributions(i.e.premium) notafixeddollaramount.Whetherthe policyis
‘regular’or‘mini’the wakalafee asa percentage of contributionisunchanged.Thusthe percentage of
contributionpaidoutasclaims(whichistotal contributionlessthe wakalafee) isindependentof the
size of the contribution.Inthe example forthe conventionaltermandendowmentpoliciesgivenearlier
we saw that the percentage thatactuallygoestowardspayingclaimsvarybysize of premium.The
existingTakaful Model canbe consideredasTakaful Tijari (Business).
Shouldwe use thissame Takaful Model forthe “micro” segmentof the insurance market?The Islamic
economicsystemisanchoredonthe needsof the communityoverthe needsof the individual.Indeed
for a Muslimhiswealthisnothisbut has beengivenbyGodto be heldintrust forthe benefitof the
community.Itissaidthat onlythat part of his wealththathe givesawayas charityishis.Apart from
sadakah(charity),the othertwomeansof achievingthe objective of anequitablesocietyare through
the paymentof zakat (tithe) andwaqf (endowment).Zakatisanannual ‘tax’puton idle capital (assets
whichhave notbeenputto productive use fora periodof one complete lunaryear) whilewaqf isan
endowmentmade bythe individual forthe use of the publicgood.How can the resourcesobtained
throughzakat and waqf be usedto supportthe microtakaful industry?analternative model tothe Tijari
model,one where one stakeholderisremovedfromthe equation(theshareholders) andreplacedwith
another,the trustees.We termthisalternative model TakafulTa’awuni (orthe cooperativemodel).The
proposedmodel isnotimmune tothe otherproblemsbesettingmicroinsurance.While the needto
satisfyshareholders’profitexpectationsisremovedthere are expensestocontrol andprocessesthat
needtobe optimizedtoensure the model isworkable.
Summary:-
Giventhe level of transparencypracticedintakaful itisproposedthatmicrotakaful ratherthanmicro
insurance ismore suitedforthe microsegmentof the market.The micro takaful organizationwouldbe
basedon a cooperative modelratherthanthe hybridtakaful model.Furthermore where possible,
considerationshouldbe giventothe use of waqf moneytoprovide forthe capital necessarytoestablish
the micro takaful operation.Consistentwiththe conceptof awaqf,these fundsshouldbe managedwith
the intentionthatitwill be preservedovertime notwithstandingthatthese fundsmaybe temporarily
drawndownby the participants’fundtomeettemporarydeficitsdue tofluctuatingclaimsexperience.
Indeeditshouldgrowasit is‘fed’bysurplusesfromthe microtakaful operation.Thiswaqf wouldbe
managedbysuitablyqualifiedtrusteesinplace of aBoard of Directors.Expensesforthe operationcan
be minimizedbystandardizationof benefitsandcontributionsandthe use of a thirdparty
administrator.Toensure thatthe poorestare coveredandinstalmentpremiumsare paidontime,
considerationshouldbe giventoutilize zakatmoneytosubsidize the contributionsonbehalf of the
poorerparticipants.Thiswouldmitigatethe effectof the uncertainincome flowexperiencedbythe
poor whichinmanyinstancesmeansthatthe lapse experience amongmicroinsurance policyholders
may be exceptionallyhigh.
Finally,toavoidbeinglabelledasaninsurance operation,benefitsshouldnotbe guaranteed(i.e.similar
to a discretionarymutual).Thiswill avoidpunitive solvencyrequirementsandexpensive regulatory

4. oversight.Nonetheless, onavoluntarybasisthe Trusteesmustensure thatbestpracticesincorporate
governance are maintained.A holisticapproachwiththe supportfromthe government,particularlyin
termsof legislationandthe appropriate capital requirement,isessential forthe successful development
of a microtakaful market.