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A) Introduction to Insurance

1. What is Insurance?

2. Why is it Important or Mandatory to have Insurance?

3. What Types of Insurance are there?

4. What is Takaful?

1. What is Insurance?

Insurance is the transfer of risk by the Client to the Insurance Company (“Insurer”). In exchange for taking over this risk, the Insurer charges the Client (also called the "Policyholder") a fee called an Insurance Premium. In the event that the insured risk arises and results in a loss, the Insurer compensates the Client a.k.a. Policyholder for the loss or damage subject to the terms and conditions of the Insurance Policy.

2. Why is it Important or Mandatory to have Insurance?

Insurance is a major part of risk management and financial planning for both individuals and corporate entities. An insurance policy provides protection from losses in order to ease financial hardship and also to help businesses recover from disastrous even – sometimes even helping to prevent individuals from going bankrupt.

In addition to protection from such losses, insurance provides individuals with peace of mind and businesses with the ability to continue operating as a going concern from the standpoints of business continuity planning, risk management and even financial management. It is pertinent to note that in many scenarios, banks are known to require that a prospective borrower show proof of adequate insurance before they are willing to consider an application for financing.

Case Study:

Consider the following scenario. Mr. A owns an office lot in a commercial building where he operates a mid-sized accounting, audit and company secretarial firm. One night, a terrible fire breaks out in a neighboring lot, spreads to Mr. A’s lot and completely destroys it and the contents inside it. Fortunately, no lives were lost and no one was seriously injured.

If Mr. A had purchased sufficient insurance coverage to protect against these losses, his insurance policy would respond and the insurance company would pay out an amount to settle the claim. This amount of money would help Mr. A to pay for:

* The costs of renting a temporary place to continue his business,

* The costs of reconstructing an equivalent business premises, and

* The costs of replacing much of the contents that were lost – e.g. office furniture, office stationery, computers, telephones, fax machines, photocopy machines, printers and other office equipment.

Contrast this scenario with a situation where the same person did not have the protection afforded by insurance and was left to bear the loss alone. In this latter scenario, the person’s business may have been forced to close down and the person himself may have had to bear tremendous financial losses, resulting in hardship and even bankruptcy.

3. What Types of Insurance are there?

Insurance is typically classified into Life Insurance and General Insurance.

Life Insurance covers a person’s life/body against specified mishaps up to an agreed amount (“Sum Insured”) and for a specified time period – usually for more than one year and often defined by the person’s age. Coverage under Life Insurance often includes: disability, illness, death and income during retirement.

General Insurance tends to focus on financial losses relating to property loss or legal liability. Unlike Life Insurance, General Insurance can be bought for individuals and corporate entities, and the period of coverage is usually one year. Common risks covered include:

* Property losses – e.g. burnt house, damaged car or stolen equipment

* Liability for causing death of or bodily injury to Third Parties – e.g. a hotel guest slips on a wet patch of flooring in the hotel and breaks an ankle.

* Liability for causing losses relating to property belonging to Third Parties – e.g. a construction worker excavating earth accidentally digs too deep and breaks a municipal water pipe, flooding the adjacent highway.

4. What is Takaful?

Takaful is a protection plan that complies with Shariah (Islamic) requirements. The person purchasing Takaful (the “Participant”) pays money (“Contribution”) into a common fund (“Tabarru’ Fund”). The concept is one of mutual assistance whereby the Participants contractually agree to help each other by using the money in the Tabarru’ Fund to pay out a claim in the event that any Participant suffers a defined loss.

The major difference between Takaful and Insurance is in their fundamental concept. Insurance is based on the transfer of risk where the Policyholder pays the Insurance Company to take over the defined risk. Takaful, however, is based on the sharing of risk among the Participants and the Takaful Company merely acts as a fund manager, managing and administering the Tabarru’ Fund on behalf of the Participants. As such, in Takaful, the Tabarru’ Fund is jointly owned by the Participants – whereas in Insurance, the Premium Pool is owned by the Insurance Company.