Best Price to Sell Endowment Policies

Endowments, Pearls of wisdom

Focus, 4 September 2006, By Adam Samuel, principal of Adam Samuel Training & Consulting

The industry is reaching a critical stage in the mortgage endowment crisis and advisers have much to learn from the past when taking client relationships forward Last month, the Financial Ombudsman Service (FOS) suggested that mortgage endowment complaints at its office have peaked. At an astounding 69,000 cases annually, this has become an extraordinary consumer phenomenon costing the industry an estimated £2bn. About 15 years ago, the Insurance Ombudsman Bureau received less than 5000 cases a year.

At this 'mature' phase of this crisis, things look very different from 2000, when the Financial Services Authority (FSA) decided not to hold a proactive review in this area. The mortgage endowment policy has almost disappeared, and with it the spate of fines for miss-selling them. Major life assurers uphold around 70-75% of complaints whereas in 2000 figures of less than 20% were not uncommon. This is reflected in a trickle of fines meted out to product providers for mishandling complaints. The types of issues coming up at the FOS and even the Courts in this area have changed. With the industry seeing the end in sight, thoughts are turning to the lessons to be learnt. There have been two phases of endowment complaints. The first happened quietly in the 1990s, when customers who should not have been recommended a regular payment commitment because of their lifestyles, budget restrictions and need for flexibility complained during this period. The late 1990s produced a new type of complainant, upset about the risk that the policy would not repay their loan or the 'mortgage risk'. The almost complete disappearance of mortgage endowments by 2001 strongly suggested that very few customers were happy tying the risks inherent in a savings vehicle to the fate of their loan. Otherwise, one would have expected some demand in this area – there are still individual savings accounts (ISAs) and pension mortgages being sold.

Crucial phenomenon

This phenomenon is important. In spite of poor investment returns and modest consumer understanding in this area, there have been relatively few complaints about ISAs. The joining of two types of risk – investment and mortgage – seems to be the root of the problem. This is reflected in the split-cap crisis where many complainants bought the zero dividend preference shares to pay school fees or to cope with pension shortfalls. But complaints have now reached a plateau.

The most obvious reason for this is the FSA's timebar rules in DISP 2.3.6. The DISP time-limit rules have a tawdry history. Initially, they barred complaints three years after the customer knew he had cause to complain, if this was six years after the sale. Unless the customer had been told by a firm that the policy had made a loss, he had no way of knowing whether he had a justified complaint, even if the policy was unsuitable. Under pressure from the Association of British Insurers, this was changed to three years from a red letter and six months from one of any colour. The Treasury Select Committee forced the FSA to alter this in May 2004 to three years from a red and six months from a time-bar warning. FOS, though, interprets the transitional rules as barring complaints not made to firms before 1 June 2004, which were barred under the three years and six months rules. This is in spite of the fact that such cases were not classed as 'complaints' at the time. FOS is desperate to lower the numbers of cases, which is reflected in its approach to time-bars. Almost one-in-six of its endowment cases last year concerned time limits. But another twist in the tale emerged in May this year when Mr Vincent Cunningham sued Friends Provident. Deputy District Judge Read found the red letters he had received had no significance for Limitation Act purposes. They failed to tell the customer that he had been miss-sold his policy or that he had suffered a loss. The judge also concluded that an endowment should not have been sold to a single person without dependants or into retirement. She based her damages calculation on the assumption that the correct loan would have run to the latter age. This raises the spectre of customers dissatisfied with FOS going to court. The courtroom risk is severe if a trade union or claim handler pairs up with an effective firm of solicitors, but Courts terrify consumers and that should keep the case volumes down. Increasingly, compensation problems dominate FOS. This has been complicated by increasing numbers of complainants encashing their endowments and switching to repayment loans. FOS issued a technical paper earlier this year on how to identify the date as at which the figures have to be calculated. Essentially, one finds a point at which the original advice no longer affects the client, does the calculation as at that date and adds interest on the calculation at 8% less tax.

Claim management

Claim management firms are due to be regulated next year. However, it seems unlikely this will have a significant effect on mortgage endowments. Time and market pressure have increased competence amongst those firms continuing to operate, many of which are run by ex-IFAs or solicitors. Firms concerned that a claims company may fail to pass on compensation can always pay the company its fee separately and then transfer the balance to the complainant. FOS says these businesses do not increase customers' chances of success. Indeed, its statements could suggest possible bias against such businesses which may have an effect on their customers. However, where large numbers of complaints exist, such firms will have a role for people who do not want the aggravation of dealing with their ex-service providers and FOS. Since 2001, the regulator has issued a trickle of fines against product providers for rejecting too many complaints. These form part of any textbook on both miss-selling and complaint handling. The key message is that firms who set out to reject complaints automatically will find themselves in trouble. Even firms who have avoided fines have been told to re-open cases, often when the compensation figures have gone up in the meantime. Meanwhile, the industry is still awaiting disciplinary action against an individual. The new team in enforcement is publicly committed to individual action. More positively, the regulator found no signs of systemic trouble with small IFAs although the complaint rejection levels were high. Even though the independent sector represents well over half the UK's distribution of financial services, it only accounts for 18% of FOS endowment complaints. There are a number of reasons for this. First, the greater customer care from IFAs reduces the numbers of dissatisfied clients. Secondly, the advice standards are much better. Finally, even non-compliant sales in the IFA sector tend to be much less inappropriate for customers.

The key learning area during the mortgage endowment crisis has been understanding risk. The combination of investment risk with the possibility of fund performance not matching another goal is central to this. Advisers need to ensure that the customer can tolerate the possible non-delivery of his objectives before recommending an approach that creates that possibility. A tick-box approach will no longer do as a means of assessing risk appetite.

Customers have different attitudes towards different areas of their finances: home, pension and investments may all be seen in distinct ways. The recent FSA TCF report stressed that the regulator is much more sensitive to these distinctions than before. The regulator's concerns about the quality of advice in these papers suggest that it may be ahead of the industry in grasping these points. Before the mid-90s, many endowments were sold because they were cheaper for the customer. The responsible mortgage intermediary now must refuse to help people with their dreams if they cannot afford them safely. Mortgage endowments may be behind the FSA's attack in recent years on commission bias, reflected in depolarisation. Levels of commission on endowments always far exceeded that available for term assurance. This situation where competing products have drastically different remuneration must not occur again. The bigger issue is the industry's tendency to follow prevailing trends rather than take an independent view. Firms recommended endowments often because everyone else was doing it. Then, when complaints arrived in large numbers, the industry kept down rejection rates to show that no problem existed. The FSA intervened at this point and forced a cultural change. Firms who bucked the trend and resisted the commission inducement have far fewer complaints now. Equally, those businesses who upheld the bulk of their complaints early would have reduced their compensation bill considerably. The passage of time makes endowments sold into retirement much more expensive to fix. Equally, the period of poor stock market returns has increased compensation paid to later complainants. In spite of all this, the FSA continues to be concerned about advice standards generally. It has major worries about the use of equity and pension release strategies which involve multiple types of risk. Perhaps the key message is that firms must remember that the advice process involves a more sensitive approach to their clients' needs, objectives and fears. We are looking at a more paternalistic adviser emerging, a more cautious, careful, competent adviser.

key points

The FOS has been receiving 69,000 mortgage endowment cases annually but this is peaking. From May 2004, endowment customers have six months from a time-bar warning to lodge a complaint. In 2006 Vincent Cunn-ingham sued Friends Provident for £1500 compensation despite being time-barred.


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