Endowment Shortfall, endowment shortfall calculator

What the Press are saying

“Re-projection letters are useless”

Have you ever wondered how accurate the re-projection figures for your endowment policy provided by your life office really are?

These days life companies send out re-projection figures quite frequently. These letters quoting the estimated maturity value of endowments, usually at 4%, 6% and 8%. Depending on how close or far off those re-projection figures are from the original policy target amount the letters will come in “green, amber or red”. Red means, your policy is in severe danger of not reaching its target amount. If you have two endowments from two different life companies you will probably wonder why one life company is quoting their re-projection figures at 4%, 6% and 8% and the other company at 3.25%, 4% and 5%. Confused? Life companies can choose which range of projection figures they use as long as they are within the limits set by the FSA (Financial Services Authority)

How helpful and accurate are those re-projection figures really? Let’s assume that a Standard Life endowment policy’s target amount was £30,000 at the outset of the policy. The projection figure at a growth rate of 4% now shows a maturity value of £24,800 and at a growth rate of 8% the projected maturity is £32,100. It is left up to the policy holder to decide which figure he considers to be the one most likely to be achieved. Not an easy thing to do if at one end of the spectrum you could be £2,100 better off than you originally thought and on the other end you could be £5,200 worse off and well below the policy’s original target amount.

Relying in projection figures would not be good enough for someone who buys an endowment policy on the second hand market. More and more endowments are being sold rather that surrendered to life companies. So,what criteria is the purchaser looking at when deciding to buy endowments on the second hand market? Well, he wants to know what he potentially gets in return for his money, not only at the time of purchase, but also including future premiums. Most importantly, he will want to know what estimated maturity value he can expect. For that he will not rely on the projection figures from the life company. About £250 Million worth of endowments have been sold to foreign investors last year. Those investors regard projection letters as useless as they do not reflect the true potential of endowments when purchased and do not provide them with ability to track the performance of their endowments during the remaining term.

Investor in TEPs (Traded Endowment Policies) want to know what the estimated maturity value, calculated at current bonus rates at purchase, would be, thus using the same calculation as the life company would use at maturity. They know that if bonus rates are being maintained during the remaining term of the policy the maturity value will be exactly what was calculated. By recalculating the future maturity value every time bonus rates change, the investor gets a true and accurate picture of his policy’s performance without giving the projection figures provided by the life companies a second thought.

NOW - UK endowment with profit policy holders don’t have to relay solely on projection figures any longer. EndowmentCheck offers policy holders an alternative endowment shortfall and endowment maturity calculation which gives the policy holder the opportunity to see at any time how his endowment is really performing.

Re-projection Shenanigans (Article)

By Alan Lakey - Highclere Financial Services

In my article ‘False Premises’ (MM September 2005) I exposed the bizarre and mathematically corrupt world of mortgage endowment re-projection letters.

Surprisingly my criticisms were met with a deafening silence from the policy providers, although defending the indefensible is always a tough task.

Most complaints about ‘endowment mis-selling’ have been generated by the prospect of a shortfall, a perceived failure to hit the target. Complaints about investment performance cannot generally succeed unless the firm has foolishly given some kind of guarantee. Nonetheless, if referred, such complaints will be investigated by the Financial Ombudsman Service (FOS) using various assessment methods they have devised. Whilst a disappointing investment performance does not constitute a valid complaint it serves to act as the catalyst for complaints which may or may not succeed on some other basis.

Were it not for the projected shortfalls the recent levels of complaints would be greatly diminished which brings me back to the methodology used by providers when concocting their re-projections. FSA guidance is sufficiently woolly, or the outcomes insufficiently policed, to allow myriad re-projection methods to be used. The FSA, usually so prescriptive within its rulebook, allows providers extensive flexibility in determining the following;

a) The ‘current value’ of a policy which then serves as the base figure for the re-projected maturity values.

b) A choice of using the standard assumptions or other lower growth figures as considered appropriate

c) Whether to reduce the current plan value by the use of Market Value Adjusters (MVA’s)

d) Whether to include an allowance for terminal bonus within the ‘current value’

e) The ignoring of ‘endowment shortfall promises’, such as given by Standard Life, when re-projecting maturity values.

Throughout this farrago the consumer page of the FSA website continues to declare that “generally the current value will be the surrender value.”

The LAUTRO Charges Fiasco

Money Management readers will be aware that during 2005 the FSA confirmed that 11 providers had used the much lower LAUTRO charges rather than their own when setting premium rates for endowments and other investment plans. The FSA refused to name these providers but did state that these companies had been engaged in “pre-contractual misrepresentation and in (some) cases a breach of contractual warranty.” The FSA states that providers should have applied their own charges when calculating the endowment premiums but LAUTRO charges when projecting future benefits.

AXA Equity & Law confirmed its involvement in an October 1998 letter, “If any plans were set up on the LAUTRO basis, the actual charges taken from these plans would have been higher than what was assumed (within the LAUTRO basis) when the plans were taken out. The LAUTRO assumptions regarding future expenses did not take into account how the plans actually work.”

This was backed up by the booklet ‘Keeping Your Low Cost Homebuyers Plan On Target’ which was sent out by AXA Equity & Law with the five-yearly review information during September 1997. Under the section headed ‘why hasn’t my plan stayed on target to repay my mortgage’ it stated “thirdly, the level of charges which apply to your plan may be higher than the charges originally assumed when calculating how much you should contribute. In particular, between 1^st January 1991 and 31^st December 1994 all life offices were required, by law, to provide illustrations on a prescribed basis using standard charges, so these illustrations did not reflect the actual charges under the plan purchased. If this applies to you, a higher proportion of your contributions may have been used for charges than the illustration allowed for.”

During August 2004 AXA felt it prudent to make one off payments where it had calculated a charge differential due to use of the LAUTRO charges. A number of other providers, such as Clerical Medical, have also carried out a similar exercise although Standard Life stands out because of its continuing intransigence.

In an August 2005 letter Standard Life’s solicitor, Laura Hogg, defended their stance by explaining that any projected charges are only an estimate because the exact charges would not have been known. She rationalised, “between July 1988 and December 1994, we were required by the Regulator (LAUTRO) to use the standard LAUTRO charges when projecting future values. Had Standard Life used its own charges (as opposed to the LAUTRO standard charges) when setting the premiums for the policy this would have caused problems with the illustration – the projected maturity value would not match the loan amount unless the charging bases used for premium calculation and projection were the same, and hence would have created confusion for customers”.

Apparently, for reasons of expediency, it was fairer to apply higher charges than originally illustrated than it was to confuse the consumer by explaining the difference between real and LAUTRO charges. This is where Standard Life and the FSA seem to have differences. Standard explains it was just following orders. Standard Life policyholders have a right to know whether the company was ‘right’ and the FSA ‘wrong’ or vice versa. In turn, the FSA has a duty to inspire market confidence and this is one area where it seems to be falling asleep at the wheel. The industry has already suffered one regulator causing mayhem by enforcing a standard charge assumption that few companies could claim to meet. We now need clarity and explanations.

The differences between ‘own charges’ and LAUTRO charges is showcased in Table 1. During 2001 Guardian provided precise comparative figures for a 25 year low cost endowment plan. The difference in management charges is significant and LAUTRO’s higher later years life cover charges are outweighed by the imposition of a bid/offer spread.

Typically, the reduction in yield (RIY) using LAUTRO charges (male 30 n/b £50 p.m. 25 year term) equates to 0.30%. Money Management’s April 1994 with-profits survey confirmed that the average RIY was 1.23%. In simplistic terms this means that a typical plan costing £50 p.m. would, in reality, require a monthly premium of £57.78.

Responding to an enquiry Prudential was moved to state, “we are unable to take responsibility for industry-wide directions which were issued by LAUTRO”. Quite.

Calculation Bases

Many weird and wonderful techniques are used when calculating the base figure for the re-projection letters. In reality it should be relatively simple – take the current value and project ahead using annual growth of 4%, 6% and 8%. However two distortions are frequently applied which throws the whole exercise into disrepute.

Firstly, using the correct base figure is essential because all other calculations stem from it. Using a surrender value which involves some element of penalty, such as the application of an MVA (Market Value Adjuster) is diabolical and pointless because MVA’s only apply on surrender and the plan is not being surrendered. Treating the Customer Fairly? The ABI Code of Practice maintains that “there is a general duty not to mislead an investor in any investor communication.”

Secondly, providers have been allowed to use lower growth rates if they feel it appropriate. This has an element of logic if it is reflective of the provider’s current asset allocation but, like much of the financial services world, logic slips through the cracks. For example, Scottish Widows which has 86% of its with-profits fund invested in real assets has chosen to use 4%, 5% and 6% for its annual growth assumptions, a conservative estimate. Scottish Equitable, with only 15% in real assets, uses 3.50%, 5.50% and 7.50% for re-projections. Alba Life with its closed fund and bleak future prospects uses rates of 3%, 6% and 8%.

Table 2 shows recent variations in real asset levels within the with profits funds. Scottish Widows has been increasing its real asset percentage and this should transfer through to higher bonus additions – primarily terminal bonus payments. On this basis 4%, 5% and 6% re-projection assumptions appear harsh.

Scottish Widows concedes that it uses an MVA within its re-projection calculation but further information is refused on the dubious “business sensitive” justification. Phoenix advises that for its Royal & Sun Alliance policies its projections are based on the rate of return it expects to achieve within its with-profits fund and are not based on the 3.75%, 4.50% and 5.25% growth figures it uses. In other words it accepts that the use of growth rates is meaningless. Standard Life, in an ill-considered manoeuvre, has removed the estimated benefits of its ‘Mortgage Promise’ from the re-projection letters thereby making the projected maturity values even less savoury than otherwise.

Many providers use a variation of ‘net asset value’ as their base figure. Net asset values alter as markets rise and fall and this serves to explain why, during the past year, many re-projection values have shown marked improvements. This must create confusion amongst policyholders who have suffered minuscule reversionary bonus additions.

A net asset value basis aligns with profit plans more closely with their unit-linked cousins. If the net value increases then so will the re-projection values. If the net asset value falls, the base calculation figure will fall and whilst such a reduction does not imply lower future returns the resulting lower re-projection figures give such an impression.

Both Friends Provident and Standard Life make explicit deductions from the re-projection figures. This is being carried out to allow the rebuilding of reserves stricken by the 2000-2003 bear market. In Standard Life’s case they are reducing future growth assumptions by up to 0.50% p.a. It is suggested that boosting reserves in this way will increase the likelihood of a terminal bonus being paid, confirming that providers are increasingly using terminal bonuses as a convenient mechanism to reduce the strain on reserves and the consequent pressures on asset allocations. A lower guarantee translates into a lower reserve requirement and allows for a higher proportion of real assets within the with-profits fund.

Such a move is likely to increase the actual maturity of the endowment but at a price…the price being lower guarantees during the life of the plan which in turn translates into lower re-projection figures. In many instances the with profit ethos today is markedly different to when the majority of plans started.

Re-projection Nonsense

Table 3 highlights the nonsense of one particular re-projection by Clerical Medical. Their April 2006 re-projection letter highlights that on maturity in October 2011 the plan is targeted to achieve £10,600 using 4% annual growth. The plan currently has a guarantee of £10,600 so Clerical Medical is advising the client that over a 5½ year period the plan will achieve no further growth!

Back in 2003 the plan provided a guarantee of £9,689 and Clerical was then projecting £9,689 at the same 4%. This re-projection has proven ineffective because an additional £911 has been added since.

Endowment Check, which provides realistic projections for with profit endowment plans, has calculated that if current reversionary and terminal bonuses are maintained the plan will achieve £13,536, some 27% higher than the current projection. Now you may reasonably argue that bonus rates will continue to tumble however Endowment Check has also assessed that if reversionary and terminal bonus levels fall to and remain at half of today’s levels the plan will still achieve £11,757.

Table 4 offers a similarly misleading re-projection from Standard Life. In this case a plan with just over 6 years to maturity is projecting no additional growth using the 4% figure. Unlike some providers both Clerical Medical and Standard Life continue to make annual bonus additions.

The question to be asked is whether Clerical Medical, Standard Life and other providers guilty of similar re-projections are being fair to their customers and to the advisers who are reeling from the onslaught of consumer complaints. I believe the answer to be self evident and it further raises the question as to why, like a modern day Nero, the FSA stands idly by watching the with-profits concept burn alongside the public’s confidence in financial services per se?

The FSA is concerned with empowering the consumer yet it is frankly astonishing that they consider it appropriate that these same consumers are allowed to be misled in the same way that the application of LAUTRO charges misled them. Advisers have also suffered due to the LAUTRO mess and now they are suffering again as the irrationality of the re-projection letters inspires both plan surrenders and complaints.

Table 1

Homebuilder Plan Charges			LAUTRO Charges
		Basis 1 7% p.a.		Basis 2 10.5% p.a.
Management charge years 1-10	3.00%	0.20%		0.20%
Management charge years 11-25	0.75%	0.20%		0.20%
Renewal commission charge	nil – see note 1	2.00%		2.00%
Bid/offer spread	5.00%	nil		nil
Annual charge	nil – see note 2	£9		£9
Initial charge	nil – see note 3	£537.33		£537.33
Increment charge year 2	nil – see note 3	£132.59		£132.59
Increment charge year 3	nil – see note 3	£125.71		£125.71
Increment charge year 4	nil – see note 3	£123.98		£123.98
Increment charge year 5	nil – see note 3	£118.82		£118.82
Life cover charge year 1	£586	£139		£139
Life cover charge year 2	£181	£155		£155
Life cover charge year 3	£217	£172		£172
Life cover charge year 4	£253	£191		£191
Life cover charge year 5	£289	£212		£212
Life cover charge year 6	£289	£235		£234
Life cover charge year 7	£289	£259		£257
Life cover charge year 8	£289	£284		£281
Life cover charge year 9	£289	£311		£306
Life cover charge year 10	£289	£340		£331
Life cover charge year 11	£289	£370		£356
Life cover charge year 12	£289	£402		£381
Life cover charge year 13	£289	£434		£403
Life cover charge year 14	£289	£466		£421
Life cover charge year 15	£289	£497		£434
Life cover charge year 16	£289	£527		£440
Life cover charge year 17	£289	£555		£434
Life cover charge year 18	£289	£579		£414
Life cover charge year 19	£289	£598		£373
Life cover charge year 20	£289	£609		£306
Life cover charge year 21	£289	£610		£204
Life cover charge year 22	£289	£597		£56
Life cover charge year 23	£289	£567		nil
Life cover charge year 24	£289	£513		nil
Life cover charge year 25	£289	£430		nil

Note 1 – included in the 5% bid/offer spread

Note 2 – included in the life cover charge

Note 3 – included in the life cover year 1 charge

Table 2

Asset Allocations 1990 -2006 (Equity & Property component)
	2006	2001	1997	1994	1991
Clerical Medical	62.6	77	72	76	67
Friends Provident	60.6	66	67	75	74
Norwich Union	59.8	78	79	75	83
Prudential	75.9	75	89	92	90
Scottish Amicable	69.1	76	89	61	59
Scottish Equitable	15.0	16	48	45	60
Scottish Mutual	37.0	59	74	75	63
Scottish Widows	86.0	71	74	81	81
Standard Life	54.5	85	80	86	98

Clerical Medical low cost endowment
£19.36 p.m. 25 years to 31/10/11
Clerical Medical re-projection 4.00% = £10,048

Guaranteed sum £ 5,224

Attaching bonuses £ 4,824

Total Guarantee £10,048

Surrender value £ 6,798

Figures as at April 2006

Change on Annual Bonus
Change on Terminal Bonus		-100%	-75%	-50%	-25%	0	25%	50%	75%	100%
	100%	15,877	16,049	16,224	16,400	16,579	16,760	16,943	17,128	17,316
	75%	15,148	15,313	15,479	15,648	15,818	15,991	16,165	16,342	16,521
	50%	14,420	14,576	14,735	14,895	15,057	15,222	15,388	15,556	15,727
	25%	13,691	13,840	13,990	14,143	14,297	14,453	14,611	14,770	14,932
	0	12,963	13,103	13,246	13,390	13,536	13,684	13,833	13,984	14,138
	-25%	12,234	12,367	12,501	12,637	12,775	12,915	13,056	13,198	13,343
	-50%	11,506	11,630	11,757	11,885	12,014	12,146	12,278	12,413	12,548
	-75%	10,777	10,894	11,012	11,132	11,254	11,377	11,501	11,627	11,754
	-100%	10,049	10,158	10,268	10,380	10,493	10,607	10,723	10,841	10,959

Figures courtesy of Endowment Check

Table 4

Standard Life low cost endowment
£39.10 p.m. 25 years to 08/07/2012
Standard Life re-projection at 4% £19,108

Guaranteed sum £10,725

Attaching bonuses £ 8,383

Total Guarantee £19,108

Surrender value £13,783
Figures as at April 2006

Change on Annual Bonus
Change on Terminal Bonus		-100%	-75%	-50%	-25%	0	25%	50%	75%	100%
	100%	29,085	29,146	29,449	29,653	29,860	30,067	30,277	30,489	30,702
	75%	27,803	27,996	28.190	28,385	28,583	28,782	28,982	29,185	29,389
	50%	26,561	26,745	26,930	27,117	27,306	27,496	27,688	27,881	28,076
	25%	25,319	25,494	25,671	25,849	26,029	26,210	26,393	26,577	26,763
	0	24,077	24,244	24,412	24,581	24,752	24,924	25,098	25,273	25,450
	-25%	22,835	22,993	23,152	23,313	23,475	23,639	23,803	23,970	24,137
	-50%	21,593	21,742	21,893	22,045	22,198	22,353	22,509	22,666	22,824
	-75%	20,351	20,492	20,634	20,777	20,921	21,067	21,214	21,362	21,511
	-100%	29,109	19,241	19,374	19,509	19,644	19,781	19,909	20,058	20,198

Figures courtesy of Endowment Check

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Endowment Policy Shortfall Check ::

Calculate the shortfall of your endowment policy!
What is the problem?

Calculate the maturity and shortfall of your endowment policy first before you
surrender or sell.

Endowment Policy Shortfall Check ::

Calculate the shortfall of your endowment policy! What is the problem?

Calculate the maturity and shortfall of your endowment policy first before you surrender or sell.

Calculate the shortfall of your endowment policy!
What is the problem?

Calculate the maturity and shortfall of your endowment policy first before you
surrender or sell.