Sharia And Conventional Insurance Difference You Must Know
Insurance provides a reliable backup whenever you face any problem while your finances are in not good condition. Many insurance products we use today are called conventional insurance. However, there is another type of insurance you also need to know, the Sharia insurance. This article will help you learn the Sharia and conventional insurance difference.
What is Sharia Insurance?
Sharia insurance is a financial product that was created based on Islamic law or system. It uses a different concept or principle than conventional insurance. This insurance uses the agreement return pattern to deal with the risk. When the agreement was made, it should use the Sharia principle.
The company that manages this insurance uses a fund management system called tabarru or sharing risk. Therefore, the owner of the insurance will work together in facing the risk. This element could be the biggest Sharia and conventional insurance difference.
The company can only use and manage the fund through four methods. They are ujrah or a reward/payment for doing a certain job, risk claim, paying for reinsurance, and surplus underwriting. Other than that, the management can't use the funds that the insurance holder pays to the company for other purposes.
What is Conventional Insurance?
You might be more familiar with this insurance. However, do you know what conventional insurance is? This information could help you a lot when you manage your insurance. Plus, it is also a good start to find out more about the Sharia and conventional insurance difference.
Conventional insurance is a financial product that uses the transfer risk system. We also call it a risk transaction. Therefore, you should pay the insurance fee to get the protection you need. Otherwise, the company won't give you the protection you need.
For example, you own health insurance. Then, you get health problems and have to stay in the hospital. You can claim for your insurance, but it will only pay for what you have agreed. So, the protection you get matches with the policy you know when you buy it.
The Different Between Sharia and Conventional Insurance
Now, let's move to a more detailed Sharia and conventional insurance difference. Below, we have several points that can help you to understand these two insurance products.
1. Principle
One of the Sharia and conventional insurance difference comes from their principle. Let's see the Sharia insurance first. This insurance product uses three different principles to manage the fund, which are tabarru, mudharabah, and wakalah.
- Tabarru - we also can translate it as a working together system. The owner of the insurance pays the insurance, and that fund will be used to help other insurance owners who have a problem. It is something like charity, but you won't lose anything because there is management that will control the fund.
- Mudharabah - this principle is related to the profit that the insurance company makes from investing the funds from the insurance owner. The profit sharing was agreed in the beginning based on fair principles. Therefore, no party will lose their fund because of the investment. This part might be the big Sharia and conventional insurance difference you can find.
- Wakalah - this principle refers to the appointment of a company or organization that will manage the funds you and other people who buy Sharia insurance. Therefore, any company can handle this fund management process. It should be a company that understands and runs its business with the Sharia system.
Next, let's see the principle of conventional insurance to know the Sharia and conventional insurance difference. It also uses three principles to run its business, which are indemnity, subrogation, and utmost good faith. Here is the explanation of each conventional principle for insurance products:
- Indemnity - this principle regulates how much money the company must pay to the insurance holder. In general, the company will pay similar to the loss that the insurance holder experiences. The amount is mentioned in the insurance policy as part of the insurance coverage.
- Subrogation - the insurance company has the right to take over the insurance holder's rights in the claiming process.
- Utmost Good Faith - it refers to the trust that the insurance company and clients have in providing correct and detailed information.
From the information above, principle-wise, the Sharia and conventional insurance difference is about the role of the insurance company. The provider of Sharia insurance has something like an equal position with the clients. They work together to use that fund for more benefits.
As for conventional insurance, the insurance company has a role like a lender. They provide service according to the money that clients paid to them. Therefore, the amount of money the insurance holder gets is fixed as mentioned in the insurance policy.
2. Fund Monitoring
Another Sharia and conventional insurance difference is the institution or organization that monitors the usage of funds. Sharia insurance uses a specific Sharia organization to monitor its funds. This organization makes a report and works under an Islamic organization that regulates the Islamic law application. Therefore, the Sharia insurance system will always follow the Islamic law.
On the other hand, conventional insurance is regulated under a financial institution. Then, those companies work by using the system they made based on the demand and business market. So, we can say that it mostly is about business.
3. The Agreement
The agreement between insurance providers and clients also is different between Sharia and conventional insurance. The main Sharia and conventional insurance difference in this part is the purpose of the agreement. As for Sharia insurance, the provider and client agreed to work together to help each other.
As for conventional insurance, the company and clients agree to have a transaction. So, the client buys the insurance product from the provider. Then, the insurance company provides the insurance product and service that the client needs.
4. Profit Sharing
You also can see the Sharia and conventional insurance difference in how they manage the profit. The insurance company will use the funds it receives from clients for investment. This investment will create more profit, which will develop the fund into a larger amount.
Sharia insurance providers share that profit equally between the provider and clients. As for conventional insurance providers, they take all profit made from the investment of funds. Their purpose is to develop their business.
5. Zakat
Zakat is one of the obligations of Muslims in Islam. Through this rule, Muslims must donate part of their wealth to others who need it. Every Muslim who fits the criteria must pay Zakat, as it is also one of the five pillars of Islam. It becomes another Sharia and conventional insurance difference you must know.
Sharia insurance also includes this Muslim obligation in its system. The insurance holder must pay for zakat from the profit they receive from the profit-sharing system we explained above. However, conventional insurance doesn't obligate its holder to pay something like this.
6. Fund Ownership
Let's move to the next Sharia and conventional insurance difference. It is about the fund ownership. Sharia insurance uses a different method than conventional insurance to approach the funds they collect from clients.
In Sharia insurance, all funds paid by clients are owned by clients. The insurance company only manages the insurance fund clients keep within the company. They can use it for investment to make a profit, but the company needs to make an agreement with the client regarding this matter.
However, conventional insurance funds are all owned by the company. They can use it for anything they want, mostly for developing their business through investment. Therefore, the client didn't receive the profit that the company made from investment or other business. That might be the easy-to-notice Sharia and conventional insurance difference.
7. Unclaimed Fund
When a Sharia insurance owner doesn't claim their fund, they can still receive the funds they have paid. The insurance company will keep the fund forever until the owner can claim it. There is no certain period where the client must submit a claim to be able to get the funds.
As for the Sharia and conventional insurance difference from this part, many conventional insurance providers use this rule in their business and service. When you buy conventional insurance, there will be an agreement about the period when you can claim your funds. Once you pass that period, your fund will disappear forever, then you can't claim it.
It also happens when you are unable to pay the insurance premium. The company will take over your fund. Therefore, you need to pay it regularly to get the benefits from your insurance.
8. Claiming Method
One Sharia and conventional insurance difference is noticeable in how you claim your fund. You will get the funds you need from a joint account. The insurance company creates this account for you and the company to manage your fund. As for conventional insurance, the company will withdraw it from the company's business bank account.
9. Surplus Underwriting
Sharia insurance uses this system to share the profit from clients' funds. The amount is equal to or similar to what both parties had agreed before you bought it. On the other hand, conventional insurance doesn't apply this concept. The surplus or profit will enter the company's account as part of their business profit.
10. Risk Management
The insurance company for both types of insurance also uses different approaches to managing the risk. The Sharia insurance company holds the risk together with the clients. It follows the principle of Sharia insurance.
As for conventional insurance, the insurance company holds the risk entirely. Therefore, they can decide how much premium clients must pay for insurance policies and coverage. That is the Sharia and conventional insurance difference from how they manage the risk.
11. Policy Holder
Sharia insurance registers a whole family as a policyholder for its insurance. As for conventional insurance, it registers one person for one policyholder. Those are everything you need to know about the Sharia and conventional insurance difference.
Pros and Cons of Sharia and Conventional Insurance
After you learn more about the Sharia and conventional insurance difference, you also need to know the advantages and disadvantages of both insurance products. Let's start with Sharia insurance's pros and cons.
Sharia Insurance Pros and Cons
Pros:
- Transparency in Fund Management - it has a detailed agreement at the beginning. You will know how the company will manage your fund because of the usage of a joint account.
- High-profit sharing - the percentage of profit sharing in Sharia insurance is around 70% for clients and 30% for insurance companies.
- No unclaimed funds - you don't have to worry about unclaimed funds. Your fund won't go away. You can claim it anytime you need it.
Cons:
- Lack of operational support - modern insurance business and system is unsuitable for Sharia insurance. Therefore, it is a bit difficult to apply for now.
- Low investment usability - the company can't invest all the client's funds to make a profit. It must be according to the agreement. Therefore, there is a chance that the company misses the investment opportunity that could produce more profit, which is beneficial to clients and the company.
Conventional Insurance Pros and Cons
Pros:
- Better coverage - conventional insurance provides better coverage for all financial losses that the client has experienced. Of course, the loss should match the policy or agreement.
- Easy to manage - you only need to pay the insurance premium and let the professional or insurance company deal with the management.
- More options - these days, you can find all kinds of conventional insurance for different purposes. Therefore, conventional insurance can give you what you need.
Cons:
- Unclaimed fund - you have a risk of losing your fund.
- You get no profit sharing part - all profit will enter the company's account after they use the fund for investment and make a profit.
Final Words
Which insurance should you choose between Sharia and conventional? We hope you can choose the product you need after you learn more about Sharia and conventional insurance difference. Choose wisely and get the best financial protection for your future.
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