Unit Linked Endowment Policy - What To Do?

mramra

Hi,

I have a 'Low cost mortgage plan' with Scottish Widows (originally Lloyds TSB) which, you'll be surprised to hear, has performed terribly. Some details:

Commencement date: August 1998
End date: August 2023
Monthly payment: £238.45
Payments to date: £29,823
Value of units at August 2009: £26,993

We no longer need the endowment to cover our mortgage as we have switched to a full repayment mortgage.

I am strongly considering surrendering the policy rather than throwing good money after bad. If I did, my thoughts are to invest half in S&S ISAs (my wife and I still have our full 2009-2010 allowance) and pay half off the mortgage.

I would be most grateful for any thoughts regarding:
1. Surrendering - are there any hidden catches?
2. What to do with the money - my plan is to reduce living costs now (by reducing mortgage) and plan for the future (S&S ISAs)

Thanks in advance,

mramra

dunstonh

I have a 'Low cost mortgage plan' with Scottish Widows (originally Lloyds TSB) which, you'll be surprised to hear, has performed terribly.

I am surprised it has performed terribly. The old lloyds/black horse funds available on their endowments were not too bad. You even had a latin america and emerging markets funds available on this contract and that sort of fund range was rare on an endowment.

If I did, my thoughts are to invest half in S&S ISAs

Why do you think that the performance in a S&S ISA would be any different had they been available for the same period? You may well find the endowment is cheaper as some of the black horse versions the charges were front loaded in the early years (which have gone) but then gave an increased allocation in the later years as well as having fairly low annual management charges.

1. Surrendering - are there any hidden catches?

loss of life cover and possibly critical illness cover. Possible surrender penalty. Alternative options you are considering could be more expensive than what you have.

2. What to do with the money - my plan is to reduce living costs now (by reducing mortgage) and plan for the future (S&S ISAs)

Thats too specific really to be answered as we dont know your objectives and financial position (both now and likely future). Switching to S&S ISA is a possibility but I wouldnt jump to it on the assumption that it is better than what you already have.

mramra

dunstonh, thanks for the reply.

The funds in the endowment are INCOM and BALAN (income and balanced I presume). Not sure if these include the emerging markets you mentioned, but the basic fact is that the policy is worth significantly less than our 11 years of contributions.

I take on board your comments about S&S ISAs, but surely a benefit there would be that I could choose where to invest and not be stuck in what seem to be poorly performing funds in the endowment? Even if I knocked the full amount of our mortgage (or offset against) I would effectively be earning 2.99% (our current mortgage rate) rather than going backwards? This is the thought process that has led me to this point, is there any reason to think that after 11 years things will improve (e.g. pattern of charges you mentioned)?

For clarification, I have arrangements in place for life cover, so this is not essential.

Is there a third option, to stop payments (or reduce to a lesser amount), or is there normally a penalty for doing so?

Another question, do unit linked policies normally pay a final bonus or anything similar for continuing to term?

EdInvestor

Post the maturity forecasts for the policy. it won't attract a terminal bonus.

dunstonh

The funds in the endowment are INCOM and BALAN (income and balanced I presume). Not sure if these include the emerging markets you mentioned, but the basic fact is that the policy is worth significantly less than our 11 years of contributions.

Had you paid into the S&S ISA in the same funds then it would be the same (obviously cost of setting up wiped out first 12-24 months and cost of life cover as well).

Lloyds offer a wider fund range than just those two funds. You could ask them for a funds list and projection until maturity. Then you could use the surrender value and ongoing contribution to get an illustration from an ISA provider using your chosen funds and see what the difference comes out at.

I take on board your comments about S&S ISAs, but surely a benefit there would be that I could choose where to invest and not be stuck in what seem to be poorly performing funds in the endowment?

You would be able to choose but would you choose better? The balanced fund is their jack of all trades, master of none fund. I dislike that type of fund but it is designed for the low knowledge investor. Lloyds one is virtually mid table consistently. The income fund has moved between above and below sector average. Partly as its slightly higher risk so it suffered more in bad days and performed better in good times.

Even if I knocked the full amount of our mortgage (or offset against) I would effectively be earning 2.99% (our current mortgage rate) rather than going backwards?

You are not going backwards though. Both funds have grown by around 30-40% in recent months. Had you made this decision say 5 months ago, you would have saved 2.99% on the mortgage but lost 30-40% by not being in the endowment. The mortgage is a defined cost that goes up and down within a typical band. So, you can more or less know what is going to happen. Investments zig zag and you get good and bad periods. We had a bad last year but this year so far is good. Last year the income fund lost 30.8%. This year so far its up 20.79%. in 2007 it lost 3.77%. In 2006 it made 18.95% in 2005 it made 20.75%. Had it not been for drop of last year then your value would have been much higher. Hoewver, that isnt a bad thing as your monthly contributions have been buying units cheaper and in the long term, the downs can be highly beneficial when paying monthly even if it looks bad in the short term.

This is the thought process that has led me to this point, is there any reason to think that after 11 years things will improve (e.g. pattern of charges you mentioned)?

the future is unknown. We have had two major stockmarket crashes in that ten year period that by themeselves were bigger than anything seen in generations, let alone two closely together like that. If you had been in equity funds in a S&S ISA then you would have suffered the same had you had equity income or balanced managed funds.

i am partly playing devils advocate here as my preference would be ISA as well. However, its important you realise that its not the endowment that has performed badly. It is investments that are within it and both are very close to their sector averages so they havent really performed badly either. They just havent performed in line with your expectations.

Going into a S&S ISA could see you have the same view in 10 years time or it could see things a lot better. However, that wont be because its an endowment or an ISA. It will be because the investments within them performed better.

Is there a third option, to stop payments (or reduce to a lesser amount), or is there normally a penalty for doing so?

Making it paid up can be an option if you have a surrender penalty now but there wont be in the near future. i.e. you wait until the free exit point.

Another question, do unit linked policies normally pay a final bonus or anything similar for continuing to term?

Not on unit linked plans.

mramra

dunstonh, thanks again for taking the time to provide such a detailed response.

I have just called Scottish Widows for some further information. The pleasant news was that the policy as of close of yesterday was £29,238, up over £2,200 (8%) in one month which seems an incredible jump.

Forecasts as of my last review in May were as follows:
4% £83,500
6% £103,000
8% £128,000

Not sure how relevant these forecasts are now due to big jumps in the last few months, but apparently they are unable to give me any more up to date forecast figures.

There are no surrender penalties at any time, and no future bonuses to complicate any decision regarding surrender.

I will take some time to digest your comments. :T

EdInvestor

dunstonh wrote: »

Going into a S&S ISA could see you have the same view in 10 years time or it could see things a lot better. However, that wont be because its an endowment or an ISA. It will be because the investments within them performed better.

And also because there is no tax payable on the investments within the ISA, as there is within the endowment, and no charges for possibly unnecessary life cover.

It's not possible to do a proper comparison on the current arrangment with no maturity forecasts.

dunstonh

And also because there is no tax payable on the investments within the ISA, as there is within the endowment, and no charges for possibly unnecessary life cover.

Income within the fund is treated the same apart from fixed interest. Only the growth is taxed and life companies still benefit from taper relief so in reality the impact is not as great as made out. Chances are the charges are lower on the endowment funds now than the typical unit trust fund. So, that could cancel out the difference.

As I said, i would prefer ISAs but you need to realise (as I know you do Ed) that the bulk of the performance issues are not down to the tax wrapper but the investments within it and the timing. Look at a mid table equity income fund in an ISA over that same period and the performance will be similar to the equity income fund in the endowment.