The Islamic perspective on insurance

To determine the Islamic view on insurance let us first understand how insurance works by looking at the simple example below:

Mr Rich buys the latest model of BMW and gets it insured with Dodgy Insurance. As per the terms of the agreement, Mr Rich will pay Dodgy Insurance a yearly premium in return for a promise that if the car is stolen or damaged in an accident, Dodgy Insurance will pay Mr Rich for the loss.
From the above example we can tell that insurance is a contract, as it involves offer and acceptance between two parties, the insurer (Dodgy Insurance) and the insured (Mr Rich). Therefore, to be allowed in Islam it must meet the criteria laid down by the Shari’ah for allowable contracts.
In Islam, a contract has to be concluded over either:

1. An object, where the object is exchanged for some compensation (e.g. selling, trading), or given away without compensation (e.g. gifts), or,
2. A benefit, where the benefit is provided for some compensation (e.g. leasing), or without compensation (e.g. loans).

If we carefully consider the insurance contract, we will find that the contract is neither over an object, nor a benefit. Rather, the contract is concluded over a promise. For example, in the scenario mentioned previously, Mr Rich was paying a premium to Dodgy Insurance merely for the promise by the latter to compensate him should the new BMW be stolen or damaged in an accident. The guarantee in itself carries no benefit, because Mr Rich would still have to pay the premium to Dodgy Insurance even if nothing ever happened to his car. Therefore, the insurance contract contradicts the Shari’ah.

Also, as Dodgy Insurance has promised to compensate Mr Rich for any damage to the car, the insurance contract can be considered a form of guarantee. Once again, we need to use the Islamic yardstick to assess whether the insurance contract is a legitimate form of guarantee.

The Shar’a requirements of a valid guarantee can be derived from the following Hadith:
Abu Dawud narrated from Jabir who said: “The Prophet (saw) would not pray over any person who died while indebted. A dead man was brought. He (saw) said: ‘Is he indebted?’ They said: ‘Yes, two dinars.’ He (saw) said: ‘Pray for your companion.’ Abu Qatadah al-Ansari said: ‘O Messenger of Allah, they are upon me.’ The Messenger of Allah (saw) then prayed over him.
From the above Hadith, we can say that a valid guarantee in Islam has the following characteristics:

1. There must exist an immediate or potential financial liability on someone for which the guarantee is made.
2. There must exist a guarantor, a person guaranteed for and a guaranteed person. For example, in the Hadith, the guarantor was Abu Qatadah (may Allah be pleased with him), the person guaranteed for was the deceased, and the guaranteed person was the one who had lent the money to the deceased.
3. The guarantor takes responsibility of the financial liability of the person guaranteed for.
4. The guarantee is made without any compensation being charged by the guarantor.
5. The person guaranteed for and the guaranteed person need not be known at the time of making the guarantee.

Using the above criteria to judge insurance contracts, we’ll find that the insurance contract contradicts a valid Shar’a guarantee in the following ways:

1. In an insurance contract, generally the guarantee is made without the existence of an actual financial liability on anyone, whether immediate or potential. Therefore, there does not exist a person guaranteed for, rather only the guarantor (the insurance company) and the guaranteed (the insured). For example, if Mr Rich accidentally hits his expensive BMW against a pole on the street, Dodgy Insurance would reimburse him the cost of repair as per the contract. However, Dodgy Insurance’s promise to pay for the damage was not made on behalf of someone who actually or potentially owed Mr Rich money for the damage. Therefore, the person guaranteed for does not exist.
2. Besides, an insurance contract requires the insured to pay a premium, whereas, in Islam, no remuneration or compensation is charged in return for a guarantee.

Considering the above points, we can see that insurance is void as a contract and also as a guarantee according to the Shari’ah, and therefore not permitted in Islam.
Reference:
The Economic System of Islam by Taqi ud-deen an-Nabhani

- Shafi