Conclusions and recommendations
Endowment mortgages as a savings product
1. Buying
a home is the largest single financial transaction most people
undertake in their lives and the financial services industry owes
a particular duty of care to its customers in the marketing and
subsequent management of relatively complex financial products
such as endowment mortgages. Unfortunately, the reality is that
in selling low-cost endowment mortgages the industry often failed
to provide homeowners with a suitable product for their individual
circumstances or a product that was fit for the purpose it was
being used for. The performance of the financial services industry
in providing reliable and effective products to those looking
to fund a house purchase is likely to be crucial in shaping consumers'
views of the industry. The failures in respect of endowment mortgage
policies are a contributory factor towards the low consumer confidence
in the industry. (Paragraph 9)
2. Many of the basic
problems identified in endowment mortgages are shared by other
with-profits products sold by the life insurance industry. The
Committee is concerned by evidence that even after the FSA's proposed
reforms, buying any with-profits policy will still be little more
than an "act of faith" for the consumer. Developing
cheaper, more transparent products offering the same smoothing
benefits to the saver as the traditional with-profits product
is now a key challenge for the long-term savings industry. (Paragraph
12)
3. It seems clear
that it was undesirable for the tax system to be so slanted as
to entice consumers into one relatively complicated financial
product rather than a broadly comparable, but much simpler, product
such as a repayment mortgage. The Committee believes that this
is an important lesson for the future and strongly endorses Mr
Sandler's call that "the overriding policy goal in this area…
should be one of reducing complexity and distortions in the taxation
of savings products". (Paragraph 14)
4. The events surrounding
Equitable Life raised questions about the effectiveness of the
pre-existing actuarial regime, but the insurance industry's approach
to endowment mortgages through the late 1990s also demonstrates
an inadequate approach to investment issues by appointed actuaries.
The Committee considers it important that the FSA's proposed reforms
of the actuarial process within insurance companies are effective
in providing warnings and a more proactive and independently minded
actuarial advice. (Paragraph 18)
5. It seems clear
to the Committee from its review of endowment mortgages that generally
more needs to be done to ensure that financial products and the
tax system surrounding them are simplified as much as possible,
that officials whose role is in part to protect and re-assure
the consumer actually discharge that function effectively and,
above all, that when complex financial products are sold to consumers
they accurately fit the purpose for which they are bought. (Paragraph
19)
Mis-selling of endowment mortgages
6. The
insurance industry was lamentably slow to respond adequately to
regulatory pressure to improve its sales process for endowment
mortgages. This forced the regulator to intervene repeatedly to
toughen its supervision of the industry. While the FSA can take
the credit for the sustained attack it has made on malpractice
within the industry from late 1999 onwards, effectively the mis-selling
of endowments only disappeared once much of the industry stopped
selling the product at all. (Paragraph 22)
7. The available evidence
suggests that between 50% and 60% of holders of endowment policies
believe their policies were mis-sold. If correct, this would be
a significantly high figure. (Paragraph 23)
8. We recognise that
estimates of past mis-selling, which depend on the memory of what
was said 10 to 15 years ago, must involve a wide margin of uncertainty.
(Paragraph 26)
Future action to address mis-selling
9. The
need to place increasingly tight regulatory constraints on the
financial services industry to ensure satisfactory behaviour on
the part of companies is imposing significant costs that risk
pricing the less affluent out of the long term savings market.
(Paragraph 28)
10. Action is needed
to better align consumer and product provider interests in the
area of financial services. The current commission structure within
the industry rewards potentially inappropriate and short-term
sales practices. Sometimes this is at the expense of the saver's
long term interests. It is unacceptable that the industry's current
commission structures rewards the industry irrespective of the
investment performance of the products it sells. (Paragraph 30)
Development of shortfalls in endowment policies
and communication with policyholders
11. Given
the central role of asset allocation in determining investment
returns, the FSA should make it a basic principle that all investors
in long-term savings products are given regular information on
the asset allocation policies of the product provider and how
this has added to, or detracted from, the performance of the investment
fund (Paragraph 33)
12. The net result
is that the shortfalls policyholders are now suffering only partially
reflect the fall in the equity market between early 2000 and spring
2003. In many cases the major problem is rather that as the economy
has settled into an era of low inflation and low nominal interest
rates, it has become increasingly improbable that the underlying
investments underpinning endowment policies will deliver the nominal
returns assumed when the policies were written in the late 1980s
and 1990s. This is particularly so given that many with-profits
funds have now switched from risky, but potentially higher growth,
equities into safer, but lower growth, bonds. Recent signs of
an equity market revival thus do not herald the end of the problems
for policyholders. (Paragraph 35)
13. To help the process
of alerting as many policyholders as possible to the shortfall
problem, the Committee recommends that "red" reprojection
letters, warning policyholders of a high probability that their
endowment policy will fall short of its target, should always
have the key section printed in red, analogous to the format used
in overdue bills from utilities and others. (Paragraph
38)
14. The industry's
track record ahead of FSA intervention in failing to keep the
customer informed about the deepening problems surrounding endowment
policies is a matter of serious concern. It is, to use the term
employed by Standard Life in its submission to the Committee,
the "crux" of the endowment mortgages issue, both because
of the problems it subsequently caused as the shortfalls confronting
policyholders spiralled, but also because of what it reveals about
the industry's attitude to the post-sale care of its customers.
(Paragraph 40)
15. The assumed rates
of returns being used in reprojection letters are central to the
FSA strategy for warning policyholders about potential shortfalls.
It is essential that the FSA closely monitors the assumptions
used and ensures that they are realistic. While it may be useful
to call in outside bodies in an advisory capacity in this process,
the responsibility of setting the rates used and ensuring that
they are realistic should rest ultimately with the relevant insurance
company, which knows the nature of its own portfolio. (Paragraph
41)
Levels of shortfalls
16. The
Committee concludes that the best available evidence suggests
that mortgage endowment policies are currently showing a collective
shortfall of around £40 billion. Looking just at policies
still being relied upon to repay a mortgage, the collective shortfall
is at least £30 billion. Around 80% of policies are currently
unlikely to generate enough funds to pay off the mortgage they
were originally sold to meet and the average shortfall is currently
around £5,500. The balance of probabilities is that both
the percentage of policies showing a shortfall and the average
size of the shortfall per policy will worsen over the coming years.
Without remedial action endowment policies maturing but failing
to meet their targets are likely to be an increasingly common
problem until 2013, 25 years after the peak in endowment policy
sales in 1988. (Paragraph 46)
17. Mortgage endowment
shortfalls are a multi-billion pound problem. The shortfalls are
a problem that could have a particularly serious impact on the
elderly and some of the more vulnerable sections of society. It
is particularly important that these individuals get timely and
accurate advice on how to tackle this problem. (Paragraph
49)
Policyholders in closed funds
18. The
treatment of policyholders in closed funds is unfair. The insurance
industry seems to be unique in preserving to itself the right
to sell a customer one product and then substitute it with another
product which is inferior in key respects. The FSA should examine
the case for a regulatory requirement that solvent companies
closing the with-profits elements of their operations to new
business should, on request, transfer their customers without
penalty to another supplier offering a product broadly similar
to the one the customer originally bought. (Paragraph 51)
Aligning the interests of savers and product providers
19. There
is an urgent need to align the interests of savers and product
providers more closely, not just in areas such as endowment mortgages
but in other areas such as the forthcoming Sandler suite of products.
From the consumer's perspective, it is perverse that most companies
are still charging their full fees on endowment policies when
80% of policies will fail to meet the product's original objective
of paying off the mortgage. A structure in which the fees charged
by product providers were tied to the product meeting set investment
targets would serve the consumer better, and we recommend that
the FSA together with the industry investigate this issue, with
a view to developing proposals for reform. (Paragraph 53)
Advice on dealing with shortfalls and on financial
services generally
20. Advice
on endowment policy shortfalls from insurance companies is both
widely distrusted and frequently found to be unsatisfactory by
consumers. Some 'red' letters imply that increased premiums will
be sufficient to restore the product to its previous promises.
Letters should refer to the possibility of contacting the mortgage
lender to discuss ways of addressing the shortfall and to give
advice on the rights of policyholders to make a complaint. Policyholders
without access to an IFA are being left in an advice vacuum, with
no access to any effective advice on what to do about the situation.
(Paragraph 58)
21. The issue of endowment
mortgage shortfalls has exposed significant gaps in the advice
framework available to consumers that require urgent corrective
action. The Committee endorses the call of many consumer groups
for a mechanism to deliver low cost or free generic advice to
consumers. We welcome the establishment by the FSA of the Financial
Capability Steering Group and look forward to its findings
on the promotion of financial education. The FSA should play a
more active role in encouraging companies to ensure basic financial
advice is available to consumers on key issues such as how to
respond to endowment mortgage shortfalls. (Paragraph 60)
Levels of complaints
22. The
available evidence suggests that 80% of endowment mortgage policies
are now showing a shortfall and that 50%-60% of holders of such
policies believe they were probably mis-sold. However, we note
that in many cases there is a lack of any contemporaneous record
of what the sales person said to the client and vice versa; this
will make it difficult to determine reliably what a client's attitude
to risk was at the time the contract was entered into. Against
this background, under 6% of policyholders have so far complained.
Urgent action is needed to ensure that the complaints process
is better understood and more accessible to policyholders.
(Paragraph 63)
23. The FSA should
include a fact sheet explaining in what circumstances policyholders
have a valid complaint, and how to make a complaint, with all
reprojection letters. (Paragraph 64)
24. The Committee
welcomes Legal & General's statement that it would not use
time limits to rule out complaints, but across the industry urgent
action is required to ensure that substantial numbers of policyholders
do not lose their rights to compensation. It would be unfair to
apply time limit rules which early mailings made little or no
mention of. These rules, which have still not been spelt out explicitly
to most policyholders, should be reviewed and the time limits
extended. (Paragraph 65)
Companies' handling of complaints
25. It
is very disappointing that it has required sustained pressure
from the FSA to ensure that companies handle complaints satisfactorily.
As with mis-selling, the need for repeated action to ensure fair
treatment for customers seems to confirm that the insurance industry
is locked into an unacceptable culture that focuses upon short
term sales rather than long term customer care. (Paragraph 68)
26. The industry's
track record, both in terms of mis-selling and in terms of handling
complaints, has not been conducive to an atmosphere of trust either
between the industry and its customers or between the industry
and its regulator. Events have demonstrated that in the future
the FSA needs to be much more rigorous in ensuring that its policies
and strategies are being effectively implemented by the financial
services industry. (Paragraph 69)
27. It is unacceptable
that some companies' complaints handling processes are so flawed
that the Ombudsman is upholding over 50% of consumer appeals against
the companies' decisions. The FSA should take swift action to
ensure that these companies begin treating their customers more
fairly. (Paragraph 71)
Complaints and the Financial Ombudsman Service
28. There
remain concerns in the industry about the statutory framework
within which the FOS works (for example in respect of the lack
of symmetry between companies and complainants over rights of
appeal from its decisions) and concerns about some of its decisions.
In other respects, the Financial Ombudsman Service process appears
to be working acceptably as an appeals body for the consumer on
endowment mortgages and providing an efficient and accessible
service. (Paragraph 72)
29. Consumers may
need more help in establishing fair redress in some cases, with
the main problem areas relating to policies sold via IFAs prior
to 1988. (Paragraph 73)
General conclusions on endowment mortgages
30. The
evidence presented to the Committee in the course of this inquiry
suggests that the financial services industry has shown significant
failings in the endowment mortgages story. (Paragraph 74)
31. Our inquiry has also identified a range
of issues which the FSA has had to address and which it needs
to continue to address. However, as the table at paragraph 7 above
indicates, the vast majority of endowment mortgage mis-selling
occurred before the FSA came into being.
(Paragraph 75)
32. Overall, it is
important for the industry, the regulators and the Government
all to recognise the size of the problem which has arisen. The
problem is likely to worsen as increasing numbers of low-cost
endowment mortgage policies mature in the coming decade. There
needs to be a constructive engagement by the industry with the
problem if difficulties—in some cases serious distress—for
a large number of people are to be avoided. (Paragraph
76)
Lessons for the future
33. There
is an overriding need to rebuild public trust and confidence in
many of the companies that currently dominate the long-term savings
industry. (Paragraph 77)
34. The picture that
emerges from our inquiry into endowment mortgages is one of a
long-term savings industry wedded to an inappropriate sales and
commission led business model which is damaging the reputation
of the industry and undermining consumer confidence in long-term
savings. In this context, the current regulatory framework is
left struggling to tackle the symptoms of that inappropriate business
model. (Paragraph 78)
35. Many of our witnesses
have argued the case for fundamental reform of the way the long-term
savings industry conducts its business. Such reform would not
just serve to restore domestic consumer confidence, it would deliver
world class financial institutions and help the UK claim the position
of international venue of choice for savers and fund managers
alike. (Paragraph 79)
36. Whatever level
the price cap on Sandler products is set at, the fee structure
proposed will simply continue to bias the industry towards the
aggressive pursuit of sales, since that is what it will be rewarded
for. It would be preferable for the fee structure in the long-term
savings industry to reward the delivery of superior investment
returns and the provision by the industry of the sort of after-sales
care for the saver that was spectacularly missing in the case
of endowment mortgages. (Paragraph 80)
37. Urgent action
is needed from the Government, the FSA and the industry to alter
a culture that has led to the multiple failures seen in the case
of endowment mortgages. Central to delivering the needed cultural
change is a shift from the current fee structure that rewards
an often inappropriate sales process. It is disappointing that
a similar fee structure has dominated the industry's thinking
on the proposed Sandler suite of products. The challenge, for
both the industry and Government, is to develop a fee structure
for long-terms savings products that reinforces the industry's
duty of care to the saver by directly rewarding good investment
returns and client retention rather than simply paying out high
rewards for client acquisition. (Paragraph 81)
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