By Rachel Williams
Life offices are calculating endowment policy shortfalls on two different bases, and this could be skewing the reality of a shortfall.
As the starting point of their calculations, some life offices are using the surrender value of the policy, while others are using a claims basis. Tracey Merritt, investment manager at Beale Dobie, said that those using surrender values are factoring in the initial charges, which are actually only applicable when the policy is being surrendered.
“In using surrender values, the company is figuring in all the premiums that have been paid and all the bonuses that have accrued to date, plus an element of the terminal bonus. The penalties for surrendering the policy at that point are then factored in, then this sum is projected forward, based on the PIA’s calculations of 4%, 6% or 8% growth.”
On the other hand, some life offices start the calculation using a claims basis, not factoring in any of the penalties that would be incurred if the policy were surrendered. This is a more favourable approach, Merritt said, in that many of these policies will be seen through to maturity. The penalties, therefore, would not have to be applied, so the shortfall figures given could be much lower than is being presented.
But John Hylands, general marketing manager at Standard Life, said that it would be difficult to clarify the PIA rules any further. “The rules are very clear in their intent. Due to the nature of with-profit business it would not be practical to specify detailed rules,” he said. This is because each office manages its funds differently. Under the PIA rules, life offices are simply asked to start their calculation with a fair valuation of the policy to date and there would be limited scope for them to do it any differently.
Hylands added that much of the confusion stems from providers using different terms in the calculation process.
He said: “Most big players start with a surrender value but this will be very close to the real value of the policy. But some players might use a surrender value that includes charges.”
But Merritt added that, aside from the different approaches to calculation, terminal bonuses are causing confusion. The letters going to endowment policyholders also do not explain whether or not the office has taken their individual policy into account or if the calculations are based on a uniform product.
Merritt said: “The terminal bonus on a policy could be 50%, but the figures given to clients do not state whether all or only a portion of this has been taken into account.”
She added: “We have seen an increase in enquiries from people wanting to dispose of their policies and this seems to correlate with the mailing of letters. Trading a policy will decrease their losses but it may not be the best thing for them.”