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In the late 1980's and early 1990's, Endowments were
the belle of the ball. Now all of a sudden they are portrayed as the ugly
sister of the finance industry. If you're about to buy a property you
may still be offered an endowment policy to support your mortgage. If
you have an endowment policy already you may have been worried by the
concerns and hype surrounding these policies.
An endowment policy is simply a medium to a long-term
investment plan that has an element of life insurance built into it. It
is designed to produce a lump sum of money for the policyholder, or holders,
at the end of its term, which is usually between 10 and 25 years.
It is most commonly used as a method of paying off an
Interest Only mortgage though it is sometimes used as a stand alone long-term
savings plan, independent of any mortgage arrangements.
The future of endowments is uncertain. Many carry high
up-front charges, often penalise early surrender and offer results dependent
on performance. Endowments come in many different types and it is important
to understand the differences between them.
With Profit Endowments they do have the advantage of
building up bonuses which are a form of guarantee, so long as they are
left for their full term. They don't guarantee to repay the full mortgage,
but once bonuses are declared they can't be taken away.
Like most investments Endowments often suffer from management
charges, which can result in them often being worth very little in the
early years. They should only be viewed as a long-term investment.
Unit Linked endowments are not so secure as With Profits
Funds as they invest heavily into shares and equities. They normally offer
a range of managed funds which depend on an increase in the unit price
for growth. These prices can fluctuate and do not offer the guaranteed
bonuses offered by With Profits Funds.
Don't Panic
If you have an existing endowment plan, you may have
recently received projections relating to the future repayment of your
mortgage. These letters have caused widespread panic and confusion!
You should remember that these figures are only a projection.
The percentage rates used within these documents are set by the industry
regulator and do not reflect actual performance that has been attained.
If your values do not look favourable then you should seek advice! Ask
your financial adviser for the actual past performance figures for the
fund you've invested in before making any decisions. Your investment may
be exceeding estimates and it is possible that you may be worrying over
very little. 
Please remember that an endowment is a long-term investment
and most of the charges were paid up front. Endowments tend to be designed
to pay a large bonus on maturity, if you surrender you could lose this
benefit. If you are likely to fall short in repaying your mortgage then
you should consider changing part of your mortgage to a standard repayment
loan. This will settle your mind in the short term and if the endowment
does exceed expectations you will still receive the cash in your hand
at maturity.
If you prefer not to be dependent on your endowment
for repayment of your mortgage, the policy could be used as a form of
"Wealth Creation" for the future. You may then elect to switch
your mortgage to a standard repayment loan. This will result in higher
expenses in the short-term and you should asses your monthly budget carefully
before taking this route.
It is not normally recommended to cash in an endowment,
as the only winner in this situation will be the product provider. If
you are adamant on off-loading the policy then you should consider selling
it on the Traded Endowment market. This will normally yield a higher I
value for your asset, however this is only available to policy holders
invested in With Profits funds.
Taxation of Endowments
Provided an endowment runs for at least 10 years, it
is regarded by the taxman as a "qualifying policy" policy. What
this means is, an endowment that runs for at least 10 years and qualifies
for a tax-free payout at the end of the term.
However…
Lets get one thing straight. Endowments, qualifying
or not, are not tax-free. Some advisers sometimes point out that the proceeds
of an endowment are free of all taxes.
That's true, the proceeds are, however the growth of
the policy has been taxed throughout its life. Therefore it's more accurate
to say that the proceeds of endowments are free of any further tax liability
on your part.
The tax man has already charged, he just doesn't do
it twice!!!!
The life assurance company pays tax on the investment
growth in two ways. First of all it pays tax at 22% on the capital gain
of the assets of the fund, in other words the growth in value of the shares
etc. Secondly it pays 20% tax on income, this would come from the share
dividends etc.
The actual tax paid is less however, because the insurance
companies are allowed to offset certain expenses against the tax bill,
in effect reducing it.
For lower rate tax payers any tax paid within the fund
is not refundable, this means that lower rate payers would end up paying
tax they wouldn't have normally been liable to. Standard rate payers simply
would be paying the equivalent tax they would of paid on alternative investments.
Higher rate tax payers have the most to gain from an
Endowment contract as the tax applied to the policy is likely to work
out at around 17%.
This is lower than a number of alternative types of
plan.
Whether considering a new policy or contemplating the
future of any existing plan don't rush your decision. As a form of building
capital Endowments do meet one golden rule of saving. The strict regime
of contributions provide long-term discipline, commitment that may not
be provided by other savings plans. Each case should be treated individually.
In the gay community we know only to well there's no accounting for taste
(You know what I'm saying).
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