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ombudsman news

issue 2

February 2001

case studies - mortgage endowment policies

02/01 Sale of mortgage endowment policy unsuitable and led to customers suffering loss so they were entitled to redress.
02/02 Customers complained they had been unaware of risks involved in mortgage endowment policy. They had suffered no loss so no redress was payable.
02/03 Customers' complaint about inappropriate sale of mortgage endowment policy upheld - but they suffered no loss so no redress was payable.
02/04 Mortgage endowment policy suitable in all respects except that it extended into customers' retirement.
02/05 Mortgage endowment policy inappropriate in view of customers' circumstances and attitude to risk. It also ran beyond their retirement.
02/06 Adviser's negligent behaviour compounded problems caused by his selling a policy which was unsuitable and which extended into client's retirement.
02/07 There was no loss and therefore no redress payable, but unusually, the company concerned asked us to determine the suitability of their sale.
02/08 It appeared likely that clients had been mis-sold their policy, although the company denied this and there was no conclusive proof.

Most of the mortgage endowment complaints we receive raise one or both of the following issues:

  • suitability of the policy for the customer's circumstances - with particular emphasis on their attitude to risk; and
  • customers' allegations that they were guaranteed their endowment policy would produce sufficient funds to repay the loan.

In addition, we receive a number of complaints from individuals whose policies continue after their retirement dates. Some policyholders were led to believe this was immaterial, since the value of their policy would be sufficient by the time they retired to let them pay off their mortgage at that point. In other cases, the adviser simply failed to consider whether the policyholder could afford the policy and mortgage payments after retirement.

The following cases studies illustrate some of the mortgage endowment complaints we have dealt with and the approach we have taken.

  • In this case, the customers were entitled to redress. Their endowment mortgage was unsuitable, given their attitude to risk, and they suffered a loss as a result of having the endowment rather than a capital repayment mortgage.

02/01

Mr & Mrs R had a capital repayment mortgage for 12 years before they decided to move house in 1992. Initially, they were wary of changing to a different type of mortgage, when the life company representative suggested it. However, they were assured that an endowment mortgage would be cheaper for them. Moreover, the representative said that when the endowment policy matured, it was guaranteed to repay their mortgage.

These were important considerations, not least because Mr R was facing the possibility of redundancy at the time, so they agreed to the change.

In August 2000, the life company sent Mr & Mrs R a ‘re-projection' letter showing a projected shortfall when the policy matured. This prompted Mr & Mrs R to complain about the advice they were given and about the suitability of the unit-linked endowment policy.

We upheld their complaint on the basis that the policy was not compatible with their attitude to risk. The literature they were given at the time did point out that the policy's maturity value was not guaranteed and would depend on investment performance over the policy term. However, we decided that in the circumstances of this case, this risk warning did not transform an unsuitable sale into a suitable one.

When looking at the question of redress, we found that if Mr and Mrs R had chosen a capital repayment mortgage, they would have repaid £3,440 more, to date, than the amount they would get if they cashed in the endowment policy. And comparing their mortgage outgoings, we found the endowment mortgage was £1,700 more expensive than an equivalent capital repayment mortgage over the same period. So the redress payable to them was the total of these two figures, plus the £125 administration fee they needed to pay to switch to a repayment mortgage. This all added up to £5,265.

In addition, we awarded £200 for distress and inconvenience, since Mr and Mrs R were by now in their early fifties and had suffered a certain degree of distress after learning of the potential shortfall.

In the following two cases, the customers had suffered no loss, so were not entitled to redress.

02/02

  • In August 1992, Mr & Mrs A were advised by their independent financial adviser (IFA) to take out a low-cost joint-life endowment policy (unit-linked) to cover their mortgage. The amount payable when the policy matured was not guaranteed.

In June last year, Mr and Mrs A learnt from the product provider that if their policy achieved a rate of return of 4% each year until the maturity date, it would produce £13,700 less than they needed to pay off the mortgage. If the policy achieved the higher rate of 8% p.a, they would have a projected surplus of £1,700.

Concerned by the possibility of a shortfall, Mr & Mrs A complained to the IFA. They said that when the policy was sold, they were told it would produce enough to let them repay their mortgage early, or repay it at the end of its term and have a lump sum as well. They were unaware that a shortfall was possible and they would not willingly have taken a risk that the policy might not fully repay their mortgage.

The IFA could find no documents from the time of the sale which might have supported the recommending of the endowment policy. The IFA therefore went straight to looking at whether the investors had suffered any loss.

The calculations showed that if Mr and Mrs A cashed in their policy, they would get £2,800 more than the amount of capital they would have repaid on a capital repayment mortgage over the same period. Furthermore, they had actually paid £4,800 less in mortgage outgoings than they would have done with a capital repayment mortgage.

The net result was that Mr and Mrs A had not suffered any loss, so the firm decided not to pay any redress. We upheld this decision when the case was referred to us.

02/03

  • In November 1989, acting on the advice of an estate agent who was an appointed representative of a life company, first-time buyers Mr & Mrs C took out an endowment policy. This ran over a 25-year term to repay the £70,000 mortgage on their new house.

Early in 2000, after reading a newspaper report about mortgage endowment policies, they asked for a forecast of the policy's value when it matured. They were concerned to learn that, based on an assumed future growth rate of 6% pa, it was likely to produce a shortfall of £9,500.

Mr & Mrs C complained to the life company. They said that if they had known the policy was not guaranteed to repay their loan, they would have opted for a capital repayment mortgage instead. The firm rejected the complaint, maintaining that Mr and Mrs C received sufficient information at the point of sale to make them aware of the risks associated with the policy.

The firm also said there was no evidence to suggest the policy's maturity value had been guaranteed. However, there was documentation showing that this value would depend on investment performance over the period.

We considered the unit-linked endowment policy was inappropriate for Mr and Mrs C, as there was sufficient evidence to show that their attitude to risk was cautious. We therefore upheld their complaint.

Having regard to CP75, we found the couple's mortgage outgoings over the period were £3,750 greater than they would have been with a capital repayment mortgage. The endowment policy's surrender value was, however, £5,980 greater than the amount of capital they would have repaid to date with an equivalent capital repayment mortgage.

So Mr and Mrs C had suffered no loss and no redress was owed to them. They were able to surrender the endowment policy and switch to a repayment mortgage, using the proceeds of the endowment policy to reduce their mortgage.

In the following case, the mortgage endowment policy was suitable in all respects except that it extended into the customers' retirement.

02/04

Mr & Mrs Y took out their joint-life with-profits endowment policy in November 1992, on the advice of a life company representative. It was to be used in connection with a mortgage for £90,000 over 25 years.

They recently complained to the firm when they discovered the policy was not due to mature until three years after Mr Y retired.

When the complaint was referred to us, we concluded that the firm's recommendation of a with-profits endowment had not been inappropriate. Mr and Mrs Y's existing investments and circumstances indicated they had a balanced attitude to risk, compatible with the policy sold to them.

However, when he recommended the policy, the adviser had not considered the fact that it extended beyond Mr Y's retirement date. If the adviser had looked at Mr and Mrs Y's likely pension income, it would have been clear that they would not be able to afford the policy and mortgage repayments when they retired; the payments would then take up more than 50% of their net income.

As the policy was suitable in all other respects, we asked the firm to reconstruct the endowment policy so it would mature in the same year that Mr Y reached age 65. The firm agreed and quoted a revised premium, which Mr and Mrs Y agreed to pay from that point onwards. This was the same amount they would have paid from the outset if the policy had originally been set up over the shorter term.

The total of the revised premium plus the mortgage interest did not exceed 35% of Mr and Mrs Y's net income when they took out the initial policy. So they could have afforded it from the outset, if the firm had recommended it. The firm agreed to our request that it should make good the difference between the original and revised policy premiums to date.

Here the endowment policy was inappropriate, in view of the customers' circumstances and attitude to risk, and it also ran beyond their retirement.

02/05

Mr & Mrs O took out their with-profits endowment plan in May 1988, to enable them to buy their council house. The mortgage was for £24,000 and was set up over a 20-year term. The endowment policy to support the mortgage was also for a 20-year term and would mature when Mr O reached the age of 68.

When they complained recently to the firm, Mr and Mrs O claimed they were never warned of the risks of an endowment policy and were not aware they would still be making policy and mortgage payments after Mr O retired. They also said they were given the impression the policy was guaranteed to repay their mortgage when it matured.

The firm offered to pay them a lump sum. This was the equivalent of the premiums that would be due from Mr O's retirement date until the end of the policy term, discounted to allow for the interest Mr and Mrs O could earn by investing the money until it was needed.

Dissatisfied with this offer, Mr and Mrs O contacted us. We found no evidence to support their allegation that the policy had been guaranteed to repay their mortgage. But there was also no evidence to show that the adviser had considered whether they could afford the endowment policy and mortgage after they retired. And there was no reason to think Mr and Mrs O had been willing to take risks in view of their ages and the fact that this was their first (and only) house purchase. When looking at redress, we considered not only the inappropriateness in these circumstances of a policy which extended into the customers' retirement, but also the fact that the policy itself was unsuitable for them.

We looked at the cost of a capital repayment mortgage over the shorter term, to end at Mr O's retirement date. We compared this to Mr and Mrs O's income and outgoings at the time they took out the policy. Based on the evidence presented to us, it was clear they could have afforded the shorter-term capital repayment mortgage at the outset.

We calculated redress by looking at the amount of capital Mr and Mrs O would have repaid to date if, from the outset, they had taken a capital repayment mortgage with the shorter term. We compared this to the amount they would get if they cashed in the current policy.

The firm's payment of the resultant redress enabled Mr and Mrs O to switch to a repayment mortgage and reduce its term, so that it ended just before Mr O's 65th birthday.

The adviser's negligent behaviour in this case compounded the problems caused by his selling a policy which was unsuitable and which extended into his client's retirement.

02/06

Just before she was due to retire, Miss C discovered serious problems with her mortgage endowment policy. Not only did it run beyond her retirement age, but the product provider wrote to tell her it was not forecast to produce enough to pay off her mortgage.

To add to these concerns, her financial adviser had arranged a top-up interest-only mortgage for her, but failed to put any mechanism in place to repay it. He simply advised her to take out a Free Standing Additional Voluntary Contribution (FSAVC) plan to enhance her pension benefits.

The firm concerned accepted that the original endowment had not been appropriate for Miss C's needs and offered her a refund of premiums with interest. However, it did not accept liability for any other aspect of the complaint.

Regrettably, the firm had taken considerable time to complete their investigations and a significant amount of paperwork was missing. We decided:

  1. The original mortgage endowment had been unsuitable, both because of the length of the policy term and because it did not take into account Miss C's attitude to risk. Affordability had not been an issue. The redress we considered appropriate was therefore the amount needed to put her in the position she would have been in if, at the outset, she had taken out a capital and interest mortgage and it had run until her selected retirement date.
  2. The representative had acted in a negligent manner concerning the unprotected top-up mortgage. Here, the redress we considered appropriate was the amount Miss C needed to put her in the position she would have been in if she had taken out a capital and interest mortgage rather than the top-up endowment, and this had run until she retired.
  3. The adviser had not discussed with Miss C the generic differences between the FSAVC and her employer's in-house scheme. The redress considered appropriate was reinstatement to her AVC scheme, the company making up any shortfall in fund value.
  4. The maximum award we can make for distress and inconvenience in a complaint dealt with under our mandatory jurisdiction, £1,500, was appropriate in this case, taking into account the report provided by Miss C's doctor. n This case was unusual in that, after establishing that there was no loss, and that no redress was payable, the company that provided the endowment policy asked us to determine the suitability of the sale in relation to the customers' attitude to risk.

This case was unusual in that, after establishing that there was no loss, and that no redress was payable, the company that provided the endowment policy asked us to determine the suitability of the sale in relation to the customers' attitude to risk.

02/07

Mr and Mrs B took out a mortgage endowment policy in 1987, followed by a top-up endowment policy in 1989. Both policies extended past their retirement ages. They maintained they had not fully understood the policies and had not been made aware that their premiums would be invested in funds linked to the stock market. They did recall great emphasis being laid on the possibility of their receiving a "nest egg" when the policies matured.

We established that the representative had provided Mr and Mrs B with a comprehensive report on the affordability of their policies after their retirement. He had also given them illustrations of shorter policy terms than the ones they took. However, there was no evidence that he had discussed their attitude to investment risk or given them risk warnings.

As a result of corresponding with Mr and Mrs B, we established they were "no risk" investors. And after corresponding with the representative, we thought it unlikely he understood how endowment policies worked. He said that endowments were "not invested in the stock market" and were "minimal risk". This suggested to us that he might have given Mr and Mrs B misleading information.

We upheld Mr and Mrs B's complaints about both policies. The company refused to agree. It considered the representative's comments about endowments not being stock market investments, made in his letter to us, to be part of "communication between two professionals", when "careful wording" was not necessary.

We issued a Provisional Assessment, upholding the complaint on the grounds of Mr and Mrs B's attitude to risk and the fact that misleading information may have been provided both in 1987 and 1989.

The company did not accept this. They asked us to refer the case for an ombudsman's decision on the question of attitude to risk, even though, since Mr and Mrs B had suffered no loss, no compensation was payable. The company's argument was that a "no risk" investment did not exist. They said that even government securities could fail to deliver anticipated returns, and simple bank deposit accounts could suffer from a decline in interest rates or a bank's insolvency. They maintained, therefore, that there was risk attached to repayment mortgages and, in particular, that "failure to maintain repayments may lead ultimately to the repossession of the property by the lender".

We pointed out that if a bank fails, deposit protection is available to its customers. We also noted that the company's attitude towards repayment mortgages "could be extended to the inability of a tenant to pay rent. And if this argument is pursued, it could lead to the conclusion that all forms of accommodation are too financially risky to be acceptable". The ombudsman's final decision in this case upheld Mr and Mrs B's complaints.

Here it appeared likely that the clients had been
mis-sold their policy, although the company denied this and there was no conclusive evidence.

02/08

Mr and Mrs V said their adviser had "promised" that their endowment policy would repay their mortgage when it matured. They claimed the company had subsequently dismissed the adviser because of the large number of complaints about him, and they asked the company to guarantee to pay the estimated shortfall of £24,378.

The company denied that they had dismissed the adviser or that he had made any promise that the policy would repay the loan. They did, however, offer to pay Mr and Mrs V £15,126.84. This sum comprised a refund of their premiums, plus interest.

We were unable to find evidence to support Mr and Mrs V's assertion about the adviser's "promise", and wrote to tell them this. In their reply, Mr and Mrs V told us the adviser had been under investigation by the company and had mis-sold policies to 30 other clients. They claimed that this justified their receiving a higher amount of compensation.

We then asked the company for details of the adviser's complaint record and found that 56 relevant complaints had been made against him; 21 of them had been upheld and three were still pending.

Noting this high level of complaints, we informed the company that, in the absence of any rebuttal by the adviser, the balance of probabilities indicated that he had misled Mr and Mrs V.

The company did not concede that there had been any mis-selling. However, they offered a one-off payment of £5,640. They calculated that if this was invested at 6%, it would produce £11,401 (the projected shortfall at 6%) when the policy matured.

They also asked us to point out to Mr and Mrs V that if the company ceased to be a mutual, and Mr and Mrs V surrendered their policy, they would lose any possible "windfall" benefits. Mr and Mrs V accepted the offer.

Walter Merricks, chief ombudsman

ombudsman news gives general information on the position at the date of publication. It is not a definitive statement of the law, our approach or our procedure.

The illustrative case studies are based broadly on real-life cases, but are not precedents. Individual cases are decided on their own facts.