ACCOUNTING
TREATMENT
AND ISSUES IN TAKAFUL
ACCOUNTING
Process of communicating It is basically the
financial information about a recording and
business entity to users such presentation of economic
as shareholders and transactions to defined
managers business operations,
usually a legal entity
TAKAFUL
Mutual cooperation
which it has become
synonymous with
Islamic Insurance
NATURE OF TAKAFUL
In terms of detailed accounting, is largely similar to that
of conventional insurance operations. Both receive
contributions, investment income, pay claims, maintain
reserves, and have assets and liabilities
DIFFERENCES
• The method used to remunerate the Takaful operator
• The nature of mitigating risks (re-takaful vs reinsurance)
• The nature of investments, which, by their very nature,
excludes fixed income investments.
Malaysian Takaful Accounting & Reporting Regulations
The accounting and reporting for Takaful has not been covered
by FRSi and is still being developed. As an alternative, the
Malaysian Government through its specific Takaful Act (1984)
delegated the function of formulating the accounting techniques,
format and contents of accounting disclosure of Takaful
companies to the Central Bank (BNM)
Takaful operators are also presented with Shari’ah based,
non-legal backed accounting and reporting standards produced
by the Accounting and Auditing Organization for Islamic
Financial Institutions (AAOIFI). These standards however, have
never been enforced on operators for their adoption by BNM but
it did indirectly allowed operators to adopt AAOIFI standards on
a voluntary basis.
Given similarities with conventional insurance with respect to
most economic transactions, therefore accounting methods for
these transactions should be similar. It is not necessary to
define all-encompassing accounting standards for takaful
operators separately (as has been done by the AAOIFI), but
instead to deal with issues where the nature of takaful
operations is different from conventional insurance
There are 3 models of takaful been implemented:
• Mudharabah model
• Wakala model
• Waqf
However, the accounting issues are common
ACCOUNTING ISSUES
1. Segregation of assets, liabilities, income and expenditure
2. Reserves
3. Revenue and expenditure recognition
4. Qard-e-hasn
1. SEGREGATION OF ASSETS,
LIABILITIES, INCOME AND
EXPENDITURE
• Determine the surplus or deficit which would impact the
distribution to participants
• Determine the solvency position of the takaful fund,qard-e
hasana or repayment
• Income=assets
• expenditure=liabilities
• Contributions,claims= takaful funds
• Bank charges, investment=equity
2. RESERVES
Takaful operator need to set up the reserves consist of:
Unearned revenue reserves
-Tabarru which is received for periods which extend beyond
the financial reporting date
Claims
- claims incurred before the reporting date
- claims which have been reported or not
Deficiency reserves
-expecting contributions charged are not adequate to cover
expected claims
Contingency reserves
- set aside proportion of claims which will be made in the future
3. REVENUE AND EXPENDITURE
RECOGNITION
• Cash vs accrual
• takaful organizations recommend the recognition of
revenues under cash basis
• surpluses determined based on “actual” and not
“accrued” revenue
• Shubber and alzafri: deposit accounts+liability and equity
because of hybrid source of capital
• Muhammad (2002):
Revenues on investment=income
• He also highlights the treatment of cash and accrual basis in
takaful
• Takaful only applyling cash basis due to gharar exist in the
creation of unearned revenue
4. ACCOUNTING FOR QARD
HASANA
• Qard-e-Hasana, in a Takaful concept, is a loan made to the takaful
fund in order to cover a deficit in that fund after exhausting any
contingency reserves.
• While discussing the accounting treatment of amounts so
transferred, both in the period of transfer as well as amounts due,
at the balance sheet date, from the takaful fund to the takaful
operator, one can draw a parallel with capital contributions from
the shareholders’ fund to a statutory fund which is describe
under the Insurance Ordinance 2000.
• It is not appropriate to treat the amount outstanding as a liability
of the takaful fund and an asset of the takaful operator.
ACCOUNTING FOR RETAKAFUL
• A pooling risk mechanism
• The takaful operator has to share any surplus or deficit arising in
the pool
• Widening the spectrum of the principle of solidarity or mutual help
• Without retakaful, takaful operator has limited implementation of
principle of tabarru within the boundary of single takaful pool
• Takaful operator has extended a qard ul-hasan to the retakaful
pool
• The qard has to be set aside separately by letting go the takaful
funds, and it is going to be earned back from future surpluses
ACCOUNTING FOR REINVESTMENT
• Follows the same principle in other Islamic financial institutions
• Recognition of dividends declared on equity investments
• Recognition of unrealized capital gains
• When a single participant exits, another single participant must
replace and enter at the same time
• Dividends from ordinary shares that have become ex-dividend
before balance sheet date is recognized as accrued investment
income
• Investment must be noticeable for the purpose of computing capital
gain
• Make sure investment activities are compliance with Shariah
• Consider participants expectation on investment strategy for
takaful fund
TREATMENT OF SURPLUS
Surplus in life insurance
• In conventional insurance, the surplus from the
investments is transferred to shareholders as income.
• but in the family takaful (life), the company is not entitled
to recognize this as a revenue surplus.
• In family takaful, only income from investment funds will
be distributed among the participants and the company
according to the agreement ratios (eg 70:30 or 60:40).
• Net profits for the company, the rest of this profit is
revenue for the takaful participants are credited to the
account of participants.
Surplus in general insurance
• Profit from the general takaful (losses) are distributed
based on the profit sharing ratio agreed upon between the
companies and takaful participants.
• Benefits paid if the participant is still bound by the
agreement or takaful contract.
• If the loss occurs in the general takaful, the participants
come to bear, together with other participants.
• This is based on the principle of al-Mudaraba where
Shahibul-mal (owner of the funds) will bear any losses that
occur, in this case is the participant.
DIFFERENCES BETWEEN CONVENTIONAL
INSURANCE ACCOUNTING AND TAKAFUL
ACCOUNTING
NO CONVENTIONAL INSURANCE TAKAFUL
1 Insurance premiums are Insurance premium is
recognized as revenue even actually recognized as
though the insurance premium is income when received in
not paid cash
2 Retakaful expense over the initial Retakaful expense
agreement recognized as a recognized as a debt to be
covered insurance. paid installments or takaful
premiums. And expenses
are recognized as revenue
retakaful if paid in advance.
!
3 Insurance funds collected are Cumulative takaful
managed for the benefit of insurance funds are
business profits enjoyed by the managed by the concept of
company and shareholders mudharabah
4 Profit or surplus from the Investment earnings from
investments is transferred to family takaful funds are
shareholders. distributed to the
participants and takaful
companies are not entitled
to recognize this as a
revenue surplus.
5 The advantage gained by the There is profit sharing
insurance company is a profit to based on the ratio agreed in
the company the contract.
!
ISSUES OF IFRS
WHY CURRENT APPLICATION OF IFRS IS PROBLEMATIC
FOR TAKAFUL BUSINESSES
• With significant growth outside their current major
markets of the Middle East and Malaysia, a large number
of Takaful businesses are reporting under International
Financial Reporting Standards (IFRS)
• Despite these key conceptual differences, regulations in
many jurisdictions treat Takaful operators exactly the
same as conventional insurance companies.
• This gives rise to accounting and reporting treatments
under IFRS which can be at best a poor fit, and at worst
fundamentally unsuitable to reflect Takaful principles.
For example:
• Definitions under IFRS relating to insurance contracts and
insurers do not reflect the risk sharing nature of Takaful
contracts: IFRS assume a transfer of risk.
• In order to present comparable financial information, IFRS
largely ignores actual Takaful structures.
• Contributions from participants are treated as
revenue, when it would be more accurate to record
them as liabilities.
• Claims and other expenditure paid out of Takaful
funds are recorded as expenses, when in fact they
are a reduction of liability.
• Some Sharia scholars argue that funds received by
Takaful operators are fiduciary in nature and therefore
should not even be shown on the operator’s balance
sheet.
• The IFRS accounting treatment of agency fees earned by
the Takaful operator and charged to the fund can result in
a confusing mismatch within the financial statement.
• This is because fees are deferred in the Takaful
fund as an acquisition cost, but recognized upfront
in the operator’s income statement as service
revenue.
