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ombudsman news

issue 36

April 2004

calculating compensation payments in complex mortgage endowment mis-selling cases

In the last edition of ombudsman news we noted that we are seeing some mortgage endowment mis-selling cases where - because the customer's situation is not straightforward - the firm has been unsure how to calculate compensation. We now provide two further examples of these situations and clarify the approach that firms should take.

The situations we examine are where:

  • the firm argues that the customers "failed to mitigate" their loss;or
  • the complaint involves the mis-selling of more than one mortgage endowment policy to the same customer.

firm argues that customers failed to "mitigate their loss"

Mr and Mrs B complained that the firm had wrongly advised them to take out a mortgage endowment policy. The firm accepted that it had mis-sold the policy. However, it said that since the couple had not suffered any financial loss, no compensation was payable. Unhappy with this, the couple brought their complaint to us.

Mr and Mrs B had kept the endowment policy and were still using it to pay their mortgage. We found that when the firm calculated whether the couple had suffered any financial loss, it had failed to factor in the cost of the policy up to the present date. Instead, it had factored in this cost only up to the date when it had first written to the couple, informing them that their policy might not produce enough, when it matured, to pay off their mortgage.

The firm said that its letter had given the couple sufficient information to enable them to "mitigate their loss" (by, for example, changing to a repayment mortgage or increasing their payments into the mortgage endowment policy). So it did not consider it was liable to compensate Mr and Mrs B for any losses they incurred after receiving the letter.

We noted that although the letter in question warned of a potential shortfall, it also showed a potential surplus if the policy met the higher of the possible rates of investment return. The letter suggested that the couple had four options, one of which was to take no action at present but to "wait and see".

We did not think there was anything in the firm's letter to suggest an urgent need for Mr and Mrs B to take action. In deciding simply to leave things as they were for the time being - and to "wait and see" - the couple had chosen an option put to them by the firm itself. So we did not agree that they had "failed to mitigate their losses", or that the firm was entitled to say it would compensate them only for any losses incurred before the date of the letter.

We required the firm to calculate loss in accordance with the regulator's guidance, factoring in the cost of the mortgage endowment policy up to the present date. We said it should then compensate the couple for any loss that this calculation revealed.

complaints involving the sale of more than one mortgage endowment policy to the same customer

In some complaints of this type, the firm has tried to pool together the different policies it sold to the customer in order to make one overall calculation of loss. We do not believe this is the correct way to carry out the calculation.

When dealing with cases that involve the sale of more than one mortgage endowment policy to the same customer or customers, firms should perform a separate calculation of loss for each separate policy.

In a recent case, for example, Mr and Mrs H complained that the firm had wrongly sold them two mortgage endowment policies. The first policy, taken out on 1 August 1985, had a 25-year term and was intended to repay a mortgage loan of £70,000. The second policy, sold two years later, had a 22-year term and was intended to repay the couple's further borrowing of £25,000.

After investigation, the firm agreed that the policies were not suitable for Mr and Mrs H. When calculating whether the couple had suffered a financial loss, the firm added together the original borrowing and the further advance. It then deducted from this sum the total of the current surrender values of the two policies. This calculation showed that Mr and Mrs H had not lost out financially, so the firm told them that no compensation was payable. Unhappy with this response, the couple came to us.

We told the firm that it had not performed the calculation correctly and we said it should calculate loss as follows.

1 Compare the couple's 25-year £70,000 endowment mortgage with a repayment mortgage for the same amount, over the same term.
Calculate the loss to the current date (as the policy was still in force).
Deduct the current surrender value of the policy.
2 Compare the couple's 22-year £25,000 endowment mortgage with the cost of a repayment mortgage for the same amount, over the same term.
Calculate this loss to the current date (as this policy was also still in force).
Deduct the current surrender value of the policy.

After performing the calculation for the first endowment policy, the firm found that the surrender value was higher than the amount of capital that Mr and Mrs H would have paid off over the same period, if they had taken out a repayment mortgage instead. The couple had therefore not suffered any financial loss as a result of having this first endowment policy.

However, the second calculation revealed that Mr and Mrs H had suffered a financial loss as a result of taking the second endowment policy.

We explained to the firm that the couple's "gain" on the first policy could not be used to offset their loss on the second one, and we pointed out that each policy, and any financial loss caused, must be considered independently. The firm agreed to compensate Mr and Mrs H for their loss on the second policy.

Walter Merricks, chief ombudsman

ombudsman news issue 36 [PDF format]

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.