Unrealistic expectations

Why projected growth rates must be cut. By James Moore

MILLIONS OF people are likely to have a nasty shock when they review their pension, investment and endowment plans next year. The Personal Investment Authority, the City regulator, is proposing to slash the rates insurance firms and financial advisers use to project the future values that products such as pensions may reach.

Although they are intended only as illustrations, the PIA fears the rates' current levels could mislead people into a false sense of security, and holders may need to increase premiums if their policies are to reach the levels required.

Standard projections were introduced to prevent financial advisers making wild claims about how products may perform. They also show the effect of charges on the final value of a policy; by assuming equal growth rates across the board, investors can compare different providers' charges.

Insurers currently provide illustrations using a low rate of growth of 6 per cent a year, a medium of 9 per cent and a high of 12 per cent for pensions, PEPS and future ISAs The PIA proposes to cut these to 5, 7.5 and 10 per cent respectively.

Currently, a man of 40 wanting a pension fund of pounds 100,000 from Scottish Life to retire with at 60 would be told to pay pounds 183 per month, assuming the medium 9 per cent growth rate; but at the proposed 7.5 per cent rate he would need to pay pounds 216 a month.

For other life business, including endowments, the current rates are 5, 7.5 and 10 per cent, but these could be cut to 4, 6.5 and 9 per cent. Using the medium rate, a man aged 30 with a 25-year mortgage of pounds 75,000 would need to pay pounds 65.44 a month, assuming growth of 7.5 per cent to pay it off, but the figure is pounds 73.75 using 6.5 per cent.

Sarah Modlock, of PIA, says: "Our research shows that these rates should come down as they may give customers unrealistic expectations. There is an argument that with some products, people may need to increase their premiums. Dropping projections may encourage that."

The PIA is to review the issue, fearing that economic uncertainties make it virtually impossible to make realistic predictions. The new rates will be used from 1 January.

Alasdair Buchanan, Scottish Life's marketing consultant, says: "The current figures are unrealistic. People could be encouraged that they are providing properly for the future, when in fact they are not putting enough away."

Nick Bamford, principal of the independent adviser Informed Choice, says: "Everyone should look at their plans and ask themselves how realistic their expectations are, based on their current contributions."