Understanding Term Insurance Compatibility With Islamic Principles

Islam has specific rules regarding finance and insurance, and life insurance is a topic that has been widely debated in Islamic financial circles. The consensus of most Islamic scholars is that life insurance is not Halal, but there are some who disagree with this stance. The disagreement centres around the interpretation of Islamic law, specifically the concepts of gharar, riba, and maysir.

Gharar refers to uncertainty, risk, and deception, and is forbidden in Islam. Riba, or interest, is also forbidden. Maysir refers to the gambling element within insurance policies. Life insurance policies can be seen as a form of gambling, as the policyholder may pay premiums their whole life and never receive a payout, or they may pay one premium and then die, in which case their family receives a large payout.

Some scholars argue that life insurance is Halal if it is seen as a form of protection rather than an investment vehicle. Takaful, a form of insurance compliant with Sharia law, is based on principles of cooperation, mutuality, and shared investment and is considered Halal.

Term insurance as protective insurance

Term insurance is a type of life insurance that provides coverage for a specific period, usually 10 to 40 years. It is considered protective insurance as it covers lost income when the insured dies, helping to maintain the lifestyle of the policyholder's family. It can also be used to cover mortgage costs, children's education, and other debts.

Term insurance is simple to understand and affordable, with fixed, level premiums for the duration of the policy. The premiums are calculated based on health, age, and life expectancy, and a medical exam may be required. If the insured dies during the policy period, a death benefit will be paid to their beneficiaries. However, if the insured outlives the policy, there is no payout, and renewal premiums can be expensive.

Term insurance can be a good option for those who want to provide financial protection for their loved ones at an affordable cost. It is ideal for covering a single need, such as a mortgage or business loan, for a specific amount of time.

Betting on life as Haram

Life insurance is a contentious issue in Islam, with scholars debating its permissibility. The consensus among most Islamic scholars is that life insurance is not Halal, with two primary reasons cited: the involvement of interest income, which is forbidden in Islam, and the element of betting on one's life, akin to gambling, which is also prohibited.

Interest Income

Life insurance policies often involve interest income, which is considered Haram in Islam. When insurance companies earn interest with the policyholder's premium, it ultimately reaches the policyholder or their family, making it a key reason why life insurance is deemed Haram.

Betting on Life

The second reason life insurance is considered Haram is the gambling element. If a policyholder dies after paying a single premium, their family receives the full insurance amount. This money is not earned through permissible means in Islam, and even if the insurance company does not earn interest income, the gambling aspect renders it impermissible.

Islamic Perspective on Gambling

Gambling is a major sin in Islam, and the Quran explicitly prohibits it. Allah states in Surah al-Ma'idah:

> "O you who have believed, indeed, intoxicants, gambling, [sacrificing on] stone alters [to other than Allah], and divining arrows are but defilement from the work of Satan, so avoid it that you may be successful. Satan only wants to cause enmity and hatred between you through intoxicants and gambling and to avert you from the remembrance of Allah and from prayer." Surah al-Ma'idah, Verses 90-91

Gambling is defined as wagering money or something of value on an event with an uncertain outcome, intending to win money or material goods. It involves consideration (an amount wagered), risk (chance), and a prize. While some games and competitions may not seem like gambling, they fall under this definition if they meet these criteria.

Gambling has detrimental effects on individuals and society, leading to financial losses, addiction, and a distraction from religious duties. It can cause anxiety, depression, and stress-related health issues. Additionally, it can lead to crime, suicide, and chronic illness.

Islamic Alternatives to Life Insurance

While life insurance is a means to secure the future of one's family, Islam offers alternative options that are Halal. These include investing in real estate, savings, business ventures, and other investments that can generate a regular income.

Interest income as Haram

Interest income is considered "haram" in Islam because it is deemed "riba", which translates from Arabic as "to increase" or "to exceed". In the context of Islamic finance, riba refers to interest charged on loans or deposits, and it is forbidden under Sharia law.

The Quran states that receiving or paying interest is a major sin, and it is expected that anyone who receives interest donates that money to charity. This is because interest is seen as an exploitative practice that increases inequality between the rich and poor.

In Islamic banking, lending is viewed as a relationship that unfairly favours the lender, who charges interest at the borrower's expense. Islam considers money as a measuring tool for value, not an asset in itself, and therefore, one should not be able to receive income from money alone.

Islamic law promotes the concept of risk-sharing in raising capital, and it is essential to avoid riba and gharar (ambiguity or deception). While riba refers to interest, gharar refers to the sale of items whose existence is uncertain, such as insurance.

Muslims seeking insurance policies that comply with Islamic law should ensure that elements of uncertainty, risk, and interest are not present in the products they invest in.

Gharar (uncertainty) in term insurance

Gharar, an Arabic word meaning "risk" or "uncertainty", is a significant concept in Islamic finance. It refers to situations where the outcome or essential elements of a transaction are unclear, unpredictable, or based on chance. In Islamic finance, gharar is prohibited because it goes against the principle of certainty and transparency in business dealings.

In the context of term insurance, gharar refers to the uncertainty surrounding whether the payout will be made. This is because the payout is contingent on the insured person's death during the term of the insurance policy. While modern insurance policies use due diligence to assess risks, the timing of death is ultimately uncertain, introducing an element of gharar.

Islamic scholars differentiate between minor and substantial gharar. While some scholars advocate for a complete prohibition of any degree of gharar, others adopt a proportional approach, allowing a certain level of uncertainty deemed acceptable. In the case of term insurance, the level of gharar is subjective and depends on factors such as the extent of uncertainty and the potential for disputes.

To comply with Islamic principles, it is crucial to minimise gharar in insurance contracts. This can be achieved by ensuring clarity of terms, avoiding ambiguity, and disclosing relevant information to all parties involved. By addressing gharar, Islamic financial institutions promote fairness, transparency, and ethical conduct in financial transactions.

Takaful as Shariah-compliant insurance

Takaful is a form of Islamic insurance that complies with Sharia law. The word 'takaful' is Arabic for "guaranteeing each other" or "joint guarantee". It is a co-operative system of reimbursement or repayment in case of loss, organised as an alternative to conventional insurance, which contains riba (usury) and gharar (excessive uncertainty).

Under takaful, people and companies concerned about hazards make regular contributions ("donations") to a common pool, which are reimbursed or repaid to members in the event of loss. Takaful policies cover health, life, and general insurance needs.

Takaful is based on the Islamic religious law that explains how individuals are responsible for cooperating and protecting one another. The basic principles of takaful are as follows:

• Policyholders cooperate among themselves for their common good.
• Policyholders' contributions are considered donations to the fund (pool).
• Every policyholder pays a subscription to help those who need assistance.
• Losses are divided and liabilities spread according to the community pooling system.
• Uncertainty is eliminated concerning subscription and compensation.
• It does not derive advantage at the cost of others.

Takaful is an alternative form of cover that a Muslim can avail themselves of against the risk of loss due to disasters. It is not a new concept and has been practised by the Muhajrin (emigrants) of Mecca and the Ansar (supporters or followers) of Medina following the hijra of the Prophet Muhammad over 1400 years ago.

The global takaful insurance market was valued at $24.85 billion in 2020 and is projected to reach $97.17 billion by 2030, growing at a CAGR of 14.6% from 2021 to 2030.

Frequently asked questions