Personal Finance: How to avoid hidden charges

The current disclosure regime has failed to protect consumers. John Chapman explains how some simple changes could work

High-charging and poor-value pension plans and endowments are still being sold in their hundreds of thousands to the unknowing British public. A third of pension plan holders make losses or very poor returns on these vital savings.

The industry runs up almost unlimited costs in competing to sell policies, which are then passed on to plan holders through a variety of charges. The Consumers' Association has referred to the "euphemisms and obscure language used to disguise charges".

The industry itself agrees. A leading pensions handbook refers to the use of "capital" or "initial units", present in a quarter of pension plans, as invidious, as "the only reason for having them is so the plan holder will not realise what the charges are".

Yet the watchdog supposedly there to oversee the industry takes a far laxer approach. In its recent report on product charges, the Personal Investment Authority (PIA) merely describes them as "many, different and subtle".

The charges scams were meant to end with the so-called "disclosure regime" introduced in 1995. This involved companies being forced to tell consumers how much was being taken in commission and other fees from the plans they were selling. But the impact of this new regime has been very limited.

All the PIA can report is a marginal improvement in early "transfer or surrender values". These are the terms given to describe the value of a product - such as a pension or an endowment - at the moment when it is switched from one company or another, or when a punter tries to cash it in. An improvement in these values would mean customers were getting a better deal.

Yet the PIA's claim that it may be responsible for this better deal is open to question. In fact, research shows that trend began earlier, with the publication of a report on surrender values by the Office of Fair Trading claim at least a year earlier.

In practice, the costly disclosure regime that is now in place has failed. Clients are still uninformed about which are low-charge and high-charge products. The problem lies with the "key features" document - an example of which is shown on this page - handed to all clients at the moment when they buy a policy. This document fails to alert them adequately to the poor value in many policies.

The key features document is difficult to understand and there appears to be no connection between the figures it shows. For example, what is the difference between actual deductions and the effect of deductions? How are the transfer values derived?

Second, the most revealing bits have been censored. There is no indication of the appalling rates of return in the early and, indeed, mid-years of many policies. Instead, the only "projected rate of return" - the amount a plan will be worth - indicated is the most favourable one, at maturity, which only a minority of plan holders reach - a misleading practice indeed.

Third, the health warning about stopping early is half-hearted. No use is made of the poor "persistency rates" which are now known. This term describes the percentage figure of the number of people who let their policies lapse after a few years. On average, about 20 per cent of pension plans lapse by year two and 30 per cent by year three, reflecting poor selling and changes in personal circumstances.

Making things clearer would be easy. It would be possible to do so by subtly changing the key features document already shown, by delivering more information. The introduction of a "growth with no charges" column to give a logical link between the columns is supported by many insurance company actuaries.

Some might argue that consumers might be put off by tables showing they might receive a negative return. They should be. Where high early lapse rates occur, with poor early returns, consumers should realise that they could be the next to lose on their savings.

Even if a key features document were improved in the manner described, it would still be necessary to have a rating system so that consumers know of the good value products. The Consumers' Association and industry thinkers have recently called for such a system.

I suggested in late 1995 an ABC rating system at three different stages of plans, and this has been used for the last two years by Money Marketing, a specialist magazine. To show the ABC system applied to the rates of return in the "Full Monty" disclosure table, I have taken a sample from an analysis based on a survey of 48 pension plans by another magazine, Money Management. If consumers followed such ratings, charges would plummet.