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Savings and Investments
Guide to Endowments
What is an Endowment policy?
What are the different types of Endowment
policies?
What is a With Profits Investment?
How are bonuses calculated?
What are my options if I need money from my
policy?
Can I take a loan against the value of my policy?
What happens if I surrender my With Profits
policy?
Do I have to surrender the whole of my policy?
Will I pay any tax if I surrender a policy early?
What are the benefits by selling my endowment
policy?
What happens if I decide to sell my endowment
policy?
Can I sell my endowment policy?
What is a traded endowment?
Will I pay any tax if I sell a policy?
What is an Endowment policy?
What is an Endowment policy?
Although most people come across a Life Assurance Endowment
policy as a means of repaying a mortgage, the policy is in fact a
savings plan, the proceeds of which are used, on it reaching the
end of its term, to repay the outstanding mortgage.
It is not uncommon for endowments to be established purely as a
method of saving for the long term. Prior to March 1984 endowment
savings plans were very popular as the government gave tax relief
on the premiums paid to the policy. Policies started before this
date still receive this Life Assurance Premium Relief.
The premiums paid into the policy have a dual purpose. Firstly
they cover the cost of the Life Assurance protection offered
within the policy. The person insured under the terms of the
policy is called the Life Assured. The balance premiums are
invested by the Life Assurance Company to increase the value of
the policy.
Secondly, over the term of the policy the value of the savings
element grows and over time the value of the policy exceeds the
total of the premiums paid. This provides the growth on your
money.
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What are the different types of Endowment
policies?
Most Endowment policies are established for a set period (the
policy term) of 10 years or more, this is because advantageous
taxation rules apply to Life Assurance policies with terms of 10
years or more. These taxation rules (called the Qualifying rules)
allow for any investment gains made within suitable policies,
called Qualifying policies, to be paid to the policyholder without
any personal tax being deducted.
As endowment policies are Life Assurance policies then a term
for the policy must be established at outset. Although it is
possible for policies to have terms of less than 10 years, this is
quite rare.
Most Endowments sold in the UK have traditionally been used as
mortgage repayment vehicles, and so the term of these policies
would normally be the same term as the owner's original mortgage
term (frequently that is 25 years).
Where the policy premiums are invested will differ in
accordance with the policy type. The majority of such policies are
'With Profits'. In these instances the policy premiums are
invested in the With Profits fund of the Life Assurance company.
With Profits type policies have been popular for decades. Under
these policies the Life Assurance Company makes all the investment
decisions. They use any investment profits gained to provide
bonuses, which are added to the policy, normally on an annual
basis, to increase the policy's value.
The amount of bonuses added year on year is at the discretion
of the Life Assurance Company. Often some of the profits made in
years of high investment returns are held in reserve, and not
distributed as bonuses. This allows the Life assurance Company to
maintain the level of bonus during years of less attractive
investment gains.
This smoothing of investment returns has, in the past, proved
popular with savers. However more recently With Profits type
investments have witnessed a series of reductions in bonuses.
These have been triggered because the investment reserves built up
during years of generous investment profits have been reduced as
lower investment returns have become more common during the late
1990's and through into the new century.
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What is a With Profits Investment?
The term 'with profits' refers to a form of investment
available from Life Assurance products whereby the policy shares
in the profits generated by the life insurance company on the
money invested in the 'with profits' fund. This investment fund
contains a mixture of shares, commercial property, government
loans (gilts) and loans to large businesses (corporate bonds).
A With Profits policy grows through the addition of bonuses.
These are calculated by the Life Assurance Company and take into
account the investment returns made within the fund. The bonus
system allows Life Assurance Companies to smooth out stock market
fluctuations, this helps With Profit Endowment policies to produce
steady growth.
To state that in the event of early surrender in adverse market
condition the provider may make a Market Value Reduction. This is
a reduction in the amount you receive to product the remaining
policyholders from the impact of withdrawals made when the
markets, and therefore the fund value is at a low point.
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How are bonuses calculated?
There are normally two types of bonus. The first is the annual
(reversionary) bonus which is guaranteed and once added cannot be
taken away so long as you maintain your policy to the end of its
term. However most Life Assurance Companies have the right to
recalculate the value of annual bonuses on cancellation of the
policy before the end of its term.
In addition to the annual bonuses many With Profits policies
can also benefit from final (terminal) bonuses which are only
available at the end of the policy term and are not guaranteed.
To calculate the value of any bonuses, the Life Assurance
Company has to reflect factors such as past investment returns,
future predictions of likely investment gains and an estimate of
the expenses for running the investment fund. In times of strong
investment gains, rather than paying out large bonuses, providers
will store up profits to compensate for years when investment
returns are lower. This is the smoothing effect offered by With
Profits investments.
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What are my options if I need money from my
policy?
Although it is not generally a good idea to cash a policy
early, there can be times during a person's life when money is in
short supply and the value of savings plans, like endowment
policies, could help to tide you over. As endowment policies are
normally established as long term savings (or mortgage repayment)
plans, the money invested in them may not be immediately
available. You should contact the policy provider for details of
what is available from your plan.
If you need to draw money from the policy prior to the end of
its established term (maturity date) you may find that the terms
of the policy restrict you from doing so. There are however
instances where you may be able to gain access to some money by
electing for one of following:
- Take a loan from the Life Assurance Company based upon the
value of your policy.
- Surrender all or part of the policy by arranging for the
policy to be closed before the end of its normal term.
- Sell your policy to someone else
In the event of early surrender in adverse market condition the
provider may make a Market Value Reduction. This is a reduction in
the amount you receive to protect the remaining policyholders from
the impact of withdrawals made when the markets, and therefore the
fund value, is at a low point.
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Can I take a loan against the value of my
policy?
Some endowment policies contain an option that allows the owner
to take a small loan from the Life Assurance Company that holds
the endowment. The amount of any loan available would be
calculated by the company and based on the policy’s value.
Any loan taken would normally be repaid at the end of the
policy term from the maturity proceeds. If a loan is available you
will be required to pay interest on the loan amount until it is
repaid.
If a loan is available and you elect to take one, it is likely
that you will be expected to maintain policy premiums until such
time as the loan is repaid.
In recent years the number of Life Assurance Companies offering
such loan facilities has reduced sharply. It is unlikely that any
loan facility will be available on Unit Linked policies.
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What happens if I surrender my With Profits
policy?
At the time the policy is first created its term is established
(i.e. the number of years it is expected to run). However, many
endowment policies are cancelled before they reach the end of this
original policy term. The Life Assurance Company closes the
policy, stops the collection of premiums and makes a cash payment
to the owner based on the policy's value. This process is known as
surrendering the policy.
Although the process can be relatively simple, the true impact
of surrendering should be considered carefully before you decide
to take this approach. The manner in which the charges are
collected under Life Assurance policies often means that the
values available on early surrender can be very small by
comparison to actual premiums paid and the investment returns
achieved.
The charges under a life assurance policy are normally spaced
out throughout the whole of the expected term (e.g. 25 years).
Should a policy be cancelled before the end of its term, most Life
Assurance companies recoup their expenses from the amount
available at the time of surrender.
To state that in the event of early surrender in adverse market
condition the provider may make a Market Value Reduction. This is
a reduction in the amount you receive to product the remaining
policyholders from the impact of withdrawals made when the
markets, and therefore the fund value is at a low point.
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Do I have to surrender the whole of my policy?
Under the tax rules that govern the majority of Life Assurance
policies it is not possible to surrender part of a policy,
therefore it is likely that you will have to surrender the entire
policy. This means you will cease to benefit from the Life
Assurance cover held within a policy. You should consider this
aspect of surrender carefully if you have held the policy for a
long time and your health is not what it was when you first
effected the policy.
There are certain types of endowment plans that contain an
alternative to surrendering the whole policy. Under these plans
you may draw benefits from a part of the plan whilst maintaining
the rest of the plan. These plans work by the Life Assurance
Company clustering together a series of small identical policies.
This clustered policy approach could mean that you can withdraw
money from some of the policies, either because they have reached
the end of the original term or alternatively by choosing to
surrender them. You would only need to pay the future premiums on
the policies that continue.
For details of whether your policy is clustered you may wish to
refer to the original policy documents or to contact your Life
Assurance Company. Alternatively – contact us, we may be able to
point you in the right direction.
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Will I pay any tax if I surrender a policy
early?
Most endowment policies are subject to special tax rules known
as the ‘Qualifying Rules’. Under these rules where premiums have
been paid to the policy for a period of 10 years or more then any
‘gains’ you make from the policy are free of tax.
The ‘gain’ in a policy is the difference between the amount you
receive on surrender and the total premiums paid since the
policy’s start.
Where a policy has been running for less than 10 years and has
not been maintained for a period greater than 75% of its original
term, there is the possibility that any ‘gains’ made within the
policy could be subject to tax. If you fall into this category you
should seek advice on the taxation position. You can contact us
for assistance by clicking the ‘Make contact now’ button shown on
the right.
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What are the benefits by selling my endowment
policy?
The amount available from the Life Assurance Company on the
surrender of an endowment policy has to take into account a number
of different considerations. These include the expenses that would
be collected over the policy term, investment conditions that
prevail at the time you surrender and those that have occurred
over the period you have held the policy.
If you were to sell the policy, the circumstances are
different. The policy is continued by the new owners, which allows
the Life Assurance Company to collect their charges in the normal
way. The price offered by the purchaser normally reflects the
ongoing investment opportunities for them and the fact that a good
deal of the policy charges have already been paid.
Accordingly the amount the purchaser may be willing to offer
you to buy the policy, rather than surrender it to the Life
Assurance Company, could be significantly higher than the value
available on surrender of the policy.
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What happens if I decide to sell my endowment
policy?
If you sell your policy then you will no longer be the owner
(called a grantee) even though the Life Assurance cover will
continue to be based on your life.
It is possible to change the legal owner of an endowment policy
and for the policy to continue totally unaffected by this change.
This process is known as ‘assignment’.
If you sell your policy and it is assigned to new owners and
you should die during the term of the policy, the proceeds of the
policy are paid to these new owners. Also when the policy reaches
the end of its term, the value on maturity will be paid to the new
owners.
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Can I sell my endowment policy?
Although it is possible to assign most types of Life Assurance
policy, not all of them are attractive to the investors that buy
existing policies (known as second-hand policies). Therefore
before you consider the option of selling your policy you must
establish what type of policy you own.
If you own a Unit Linked Endowment policy then it is unlikely
that you will be able to sell it on. In these instances you should
consider how much is available on surrender. The method of
charging under unit linked policies normally mean that the value
available on surrender is similar to the investment value of the
policy.
If you own a With Profits policy it is possible that this
policy will be suitable for sale as opposed to surrender. There
are businesses that specialise in arranging the purchase of With
Profits policies. These are called market makers and are often
advertised in telephone directories like Yellow Pages.
Alternatively, if you would like us to assist you click on the
‘Make Contact now’ button shown on the right.
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What is a traded endowment?
A traded endowment is the name given to an endowment policy,
normally a With Profits policy, which has been sold onto another
person by the original owner rather than being surrendered.
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Will I pay any tax if I sell a policy?
Most endowment policies are subject to special tax rules known
as the ‘Qualifying Rules’. Under these rules if premiums have been
paid to the policy for a period of 10 years or more, then any
‘gains’ you make from the policy are free of tax.
The ‘gain’ made in a policy is the difference between the
amount you receive form the sale of your policy and the total
premiums paid since the policy’s start.
Where a policy has been running for less than 10 years and has
not been maintained for a period greater than 75% of its original
term, there is the possibility that any ‘gains’ made within the
policy could be subject to tax. If you fall into this category you
should seek advice on the taxation position. You can contact us
for assistance by clicking the ‘Make contact now’ button shown on
the right.
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