Topic 17 - Using Endowment Policies for Mortgage Repayment

Question 1

Endowment plans are composed of two parts. What are these?

Answer 1

Life assurance - guarantees to pay the sum assured if the borrower dies during the term.

Investment element - targeted to provide a maturity value sufficient to repay the loan in full at the end of the term and provide a surplus for the borrower.

Question 2

Where are premiums invested in a with-profits fund?

Answer 2

• Blue-chip shares
• Gilts
• Bonds
• Cash

Question 3

The with-profits fund is assessed annually and money is set aside to:

Answer 3

• Covert current and future liabilities e.g. death benefits
• Cover admin expenses related to the fund

-Provide a reserve

Question 4

Smoothing:

Answer 4

Bonuses may not be paid in years when the fund performance would not normally justify these.

Smoothing is creating a reserve in years of good growth so that it may still be possible to pay a bonus in poorer years.

Question 5

What happens if the plan is surrendered before the end of the term?

Answer 5

Actuaries will calculate the surrender value.

Question 6

GSA:

Answer 6

Guaranteed sum assured. The amount that is paid on maturity or death.

Question 7

Joint life first death policy:

Answer 7

Pays out on maturity or when the first of the lives assured dies during the term.

Question 8

Reversionary bonuses:

Answer 8

Added to the policy as a percentage of the plan’s GSA. They are guaranteed to be paid on maturity.

They can be paid on a simple, compound or combined bonus basis.

Question 9

Terminal bonuses:

Answer 9

Added at maturity, or sometimes at death. They are designed to reward longstanding policyholders. They are paid at the discretion of the company.

Question 10

Charges for unit-linked endowments:

Answer 10

• Stated monthly policy fee of £2 - £3 a month.
• The costs of managing the fund.
• If the policyholder cashes in the plan early, the policy might incur a market value adjuster (MVA) where it reduces the value of units transferred to protect other investors.

Question 11

Disadvantages of full with-profits endowments:

Answer 11

• Likely to be more expensive than a repayment mortgage
• Inflexible - the term cannot be extended and early surrender is likely to result in a payment below the plan’s real value.

Question 12

Disadvantages of low-cost with-profits endowments:

Answer 12

• Final value not guaranteed to pay off mortgage
• Often difficult to identify product charges
• Inflexible policies

Question 13

What is the offer price in a unit-linked endowment?

Answer 13

The price at which the policyholder buys units.

Question 14

What is the bid price in a unit-linked endowment?

Answer 14

The price at which units are bought back by the fund: the maturity or surrender value.

Question 15

Units in a unit-linked fund are used to pay for what?

Answer 15

Life cover, admin and benefits.

Question 16

What is the most common investment made in unit-linked funds?

Answer 16

Managed ones composed of blue-chip equities and gilts. It produces reasonable capital growth without taking excessive risks.

Question 17

Charges on a unit-linked plan

Answer 17

• Initial charge
• Monthly management fee
• Annual management charge
• Early surrender charge
• Charges deducted by cancelling units

Question 18

Unitised with-profits endowments combine what?

Answer 18

The security of a with-profits policy with the greater growth potential of a unit-linked one.

Question 19

What are the two types of units in a unitised with-profits fund?

Answer 19

• Variable

- Fixed

Question 20

Endowments taken out from 6 April 2013 are what?

Answer 20

Non-qualifying if the annual premiums exceed £3,600.

This means gains on them are subject to income tax.

Question 21

How often are reviews required for endowment plans used as mortgage repayment vehicles?

Answer 21

Every 2 years.

Question 22

What actions can an endowment policyholder take on review if the pay-out will not cover their mortgage?

Answer 22

• Switch projected shortfall to capital repayment
• Convert the whole mortgage to a capital repayment basis
• Accumulate savings and use these to reduce the mortgage debt
• Extend the term
• Early repayment

Question 23

What are the grounds for a complaint with regards to endowments?

Answer 23

• The adviser did not explain that it would not necessarily mature with sufficient funds
• The maturity is after the agreed redemption date of the mortgage
• The maturity is after the policyholder’s selected retirement date
• The adviser recommend an existing policy be surrendered and replaced with a new one