We have discussed in the previous article Conventional Insurance vs Islamic Insurance: Relationship between Parties that conventional and Islamic insurance has a fundamental difference in terms of the nature of the agreement between the parties involved. In conventional insurance, there is only one agreement or contract i.e. buying and selling, where the insured is the buyer and the insurer is the seller. Whereas, in Islamic insurance there are at least two agreements that run simultaneously, namely agreements between fellow risk owners or participants to help each other or bear one another risk and agreements between participants and insurance companies whereby participants give a mandate to insurance companies to manage risk sharing schemes.
Difference in types of agreements lead to differences in the roles, rights and obligations of the parties, which we will discuss here.
In conventional insurance with a simpler contractual structure, the roles, rights and obligations of the parties are relatively easy to understand. The risk owner acts as the insured who transfers the risk to the insurer. While insurance companies play a role as a insurer who accept risk transferred.
The insured is obliged to pay premium within the agreed time period, which is the right of the insurer. Conversely, when there is a valid loss, it is the obligation of the insurance company to pay the claim, which is the right of the insured. We should be able to see here that insurance or underwriting risks are fully assumed by the insurance company. Even if no claim occur during the period of insurance, the promise of the insurer to pay compensation within the scope of the policy, is considered to be an implementation of carrying out the obligation.
It is not that simple when it comes Islamic insurance, since there are at least two agreements or contracts that run in paralel.
The first agreement is among the participants to help each other or bear one another risk. So, the insured and the insurer are on the same side. The same participant carries both roles of the insured and the insurer. Seriously, how is it possible?
Yes, indeed so. If any of participants experience a valid loss, financial impact of the loss will be borne together. In other words, a participant is the insured in his individual capacity and at the same time he is the insurer along with other participants in his collective capacity.
The rights and obligations of the insured and the insurer, as in conventional insurance, apply here too. As the insured, a participant is obliged to pay contributions into tabarru funds commensurate with the level of risk he bring into. Likewise, when any participant suffers a valid loss within the scope of policy, it is mandatory for other participants through Tabarru funds to honor his rights by paying compensation or claim. One should be able to see here that, under Islamic insurance, underwriting risks are jointly shoulder by the participants through tabarru funds‘.
Since the Islamic insurance risk sharing scheme is a joint effort by the participants in managing risk, entire operational activities of the scheme are their collective responsibility. However, it is off course not practical to let a group of participants to run the operation. The insurance scheme is not simple to manage and it require specific skills, such as underwriting, administration, accounting, finance and claims. Therefore the most reasonable option is to outsource these activities to the expert, in this case, the Islamic insurance company.
This leads us to the second contract, which is a contract between the participant and the insurance company by which the participants give the insurance company mandate to operate the risk sharing scheme including marketing, product development, underwriting, administration, contribution collection, reinsurance, claim settlement, payment, recording, reporting etc.
At this point, the differences between conventional and Islamic insurance in terms of the role that insurance companies play become obvious. In conventional insurance, the role of an insurance company is all-inclusive as it operate the entire all risk transfer scheme and at the same time, assume all kinds of risks both underwriting and non-insurance risks. Therefore it is only natural if the company is entitled to the entire premium paid by the customer.
Whereas in Islamic insurance, the role of insurance companies has been reduced to the extent those only associated with operating a risk sharing scheme. It does not carry the insurance risk or underwriting risk because it is now shouldered by the participants collectively through Tabarru funds. Thus, the contributions paid by participants need to be split between the Tabarru funds and the insurance company as the operator of the scheme.