Poor deals on the home loans front

In part two of our investigation into life assurance, Peter Rodgers and Nic Cicutti look at mortgages

For most people, the main concern when taking out a mortgage backed by an endowment or unit-linked policy is whether the eventual payout at maturity will be big enough to cover the whole of the debt.

Yet a large proportion of policies are surrendered long before they mature and the reality is that the value at an earlier stage matters just as much as the payout at maturity. Maybe 30 per cent, and perhaps even fewer, are held for the full term of the policy.

The rankings of mortgage repayment policies in the tables, devised by John Chapman, a former senior official of the Office of Fair Trading, demonstrate that investors often receive a poor deal for early surrender.

Moreover, some of the best known brand names, such as the Prudential, which this week announced a big increase in sales of its investment products as a result of its "Prudence" marketing campaign, are consistently near the bottom of the performance tables.

The tables show that at the end of year three, only two companies will pay back all the cash invested, and even after 10 years only 20 out of the 32 repay the full pounds 12,000 that has gone into the policies.

Admittedly there is some life insurance cover involved in all policies, but this may account for 4 to 5 per cent of the premiums paid, and cannot explain the meagre returns from many companies.

The importance of shopping around between insurance companies is demonstrated by dramatic differences in the amounts paid out when mortgage policies are surrendered early. This is a reflection of widely varying charges and surrender penalties.

The bottom performer in the table, Royal Insurance, would pay back only 62 per cent of the money invested after 10 years, less than half the pounds 15,700 from Equitable Life, the top performer.

The difference between top and bottom is even bigger if a mortgage policy is surrendered after three years. Royal pays pounds 1,160, less than a third of the pounds 3,610 from Equitable Life's with-profits endowment.

The lowest surrender value of all after three years is Allied Dunbar's 25-year unit-linked policy, which pays back a meagre pounds 715 after investors have put in pounds 3,600. (Cash values are omitted from the unit-linked mortgage table.)

Within the tables, it is clear that some companies, such as Sun Life of Canada combine the pitfalls of low surrender values with the enticement of reasonably good final maturity values.

This is not surprising, since insurance company marketing departments need to be able to show a good final payout at the end of the mortgage period to new customers.

However, the high payout at the end is often at the expense of those who lapse early, who have paid high charges and suffered heavy surrender penalties.

In extreme cases, insurers come to rely on a large proportion of early surrenders on mortgages and pensions for their profitability, and this is why attempts to make them publish comprehensive tables showing the proportion of early surrenders have been fiercely resisted in the insurance industry.

A company can in fact choose to take its profits early in the life of the policy, by imposing high surrender charges at that stage. In these circumstances, the larger the number of customers who surrender early, the higher the company's profit is likely to be.

Furthermore, early surrender penalties do not affect calculations of the return to maturity on a mortgage policy. The good rewards for the few who remain to the end, trumpeted by salesmen, may be cross-subsidised by penalties on those who quit early.

This makes it doubly important to look at all three surrender values when rating a company's overall performance and to pick those that offer good results after three and 10 years, as well as decent payouts at maturity. A good rule is to look very suspiciously at those that pay back little in the early years. Are they really working in the interests of their customers?

As the mortgage rankings show, for some big names such as the Pru, the payout is poor at every stage. It may be that high costs in running the business make it hard for the Pru to compete in its projections with the most efficient companies.

A few years ago, insurance companies' marketing strategies relied on claims that by taking out an endowment or unit linked policy instead of a repayment mortgage, the debt would be repaid at the end and there would probably be a lump sum left over from the policy.

Sometimes, those claims have proved hopelessly optimistic, because the returns on policies have fallen short of expectations, so much less is made nowadays of the prospects of a lump sum left over at the end. Insurers now try to keep monthly payments to the minimum necessary to hit the target of paying off the mortgage.

One result of aiming low is that many homeowners - such as those investing through the Lloyds Bank subsidiary Black Horse Financial Services - are being asked after a few years to top up the monthly contributions to their policies, simply to ensure they are not left with an unexpected debt at the end.

But the truth is that the risk of a shortfall at maturity is actually a minority problem, because such a large proportion of policyholders surrender early. These are the commonest victims of the insurance industry's charging policies, which is why Mr Chapman's rankings are so important for sorting out the good from the bad.

25-year mortgage repayment plan - with-profits

Surrender Surrender

Company value at value at Maturity Projection Past

end of yr3 end of yr10 value ratings performance

ratings

Equitable Life 3,610 15,700 75,300 A+A+A+ A+A+C

Standard Life 3,494 14,769 64,837 A+AB AAB

Clerical Medical 2,990 13,600 66,700 AAB BBA

NFU Mutual 3,600 12,200 66,600 A+BB A+CB

Friends Provident 2,390 11,900 69,900 BBA BBA

Scottish Provident 1,970 13,000 68,077 BBA BAB

Legal & General 1,926 13,092 67,657 BAB CAA

Scottish Widows 3,417 14,438 66,164 A+AB BBB

Sun Alliance 2,760 13,800 66,000 AAB CAC

Scottish Amicable 1,956 13,707 69,160 BAA CCC

Commercial Union 3,079 12,794 63,900 ABC CBA

Scottish Mutual 2,460 13,600 61,913 BAC CBB

Eagle Star 2,390 13,500 63,100 BAC BC-B

Wesleyan Assurance 2,372 12,451 65,726 BBB BAA

Norwich Union 2,274 13,454 63,530 BAC BBC

General Accident 2,206 11,568 66,517 BBB BAA

Scottish Equitable 2,050 13,400 63,100 BAC XXX

CIS 2,190 11,200 68,900 BCA ABB

Sun Life 1,950 12,500 67,000 BBB CCC-

AXA Equity & Law 1,400 12,100 70,200 CBA XBA

Medical Sickness 2,490 10,600 67,546 BCB BBC

Royal London 2,142 9,411 65,022 BC-B BBA

RNPFN 1,694 9,775 71,994 CCA+ BAA+

Britannia Life 1,800 12,600 64,400 CBC XBC

Guardian Financial 1,760 12,800 62,400 CBC XXX

Britannic Assurance 1,828 9,539 66,300 CCB BCC

Colonial 1,688 12,382 62,078 CBC CCC-

Tunbridge Wells 1,647 11,186 67,373 CCB CAA

Prudential 1,760 10,900 61,900 CCC CBB

Scottish Life 1,678 10,550 61,836 CCC CBB

Sun Life Of Canada 1,130 8,970 67,900 C-C-A BBB

Royal Insurance 1,160 7,490 61,600 C-C-C XCA+

Average 2,227 12,156 66,082

Projections based on investment of pounds 100 a month,starting at age 30

X=data not supplied

Investment funds are assumed to grow at 7.50% a year

25-year mortgage repayment plans - unit-linked

Company

Equitable Life

Scottish Widows

Standard Life

Midland Life

Woolwich Life

TSB Life

Scottish Mutual

Abbey National Life

Scottish Amicable

Legal & General

Clerical Medical

Sun Life

Eagle Star

NatWest Life

Norwich Union

Friends Provident

Gan Life and Pensions

Britannia Life

Skandia LIfe

Guardian Financial

Hambro Assured

Scottish Provident

Scottish Equitable

Canada Life

AXA Equity and Law

Scottish Life

MGM Assurance

Royal Insurance

Allied Dunbar

Old Mutual

Projection

ratings

A+A+A+

A+AA

A+A+B

AAA

BAA

AAC

AAC

BBA

BBA

BBA

BBA

BBA

BBB

BBB

BBB

BBB

BBB

BBB

CBA

BBB

BBC

BBC

BBC

BBC

CBB

CCB

CCB

CCC

C-C-C

C-C-C-