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ombudsman news

issue 38

July 2004

investment - market value adjustments

Market value adjustments (MVAs) generally take the form of a charge levied on investors who withdraw some, or all, of their money from a with-profits policy before the policy has reached the end of its term. MVAs are applied as a percentage of the amount that the investor withdraws. So, for example, if a firm decides to make a 15% MVA, then when an investor cashes in an investment worth £10,000, the investor will receive £8,500.

The use of MVAs has become more widespread in the last two or three years, and the size of the percentage that firms charge has grown considerably in that time. In part, at least, this reflects stock market conditions, which have caused a general fall in the value of the funds' underlying investments.

Normally once a year, based partly on how well a with-profits fund has performed over the previous 12 months, a firm will decide whether it will declare a bonus - and what size any bonus should be. Once a bonus has been added to a fund, it cannot usually be removed.

Firms use MVAs to try to ensure that policyholders who cash in some or all of their with-profits investment before the end of the policy term do not disadvantage the remaining policyholders.

In many of the complaints we see, investors say that the firm had never mentioned the possibility of an MVA. It therefore came as a particularly unwelcome surprise to them when they withdrew their money and found that a large percentage had been deducted. We are also seeing complaints from investors who discover, after investing their money, that they then have no way of making any withdrawals before the end of the term without the firm imposing an MVA. This can be a particular worry for those who had planned to draw a regular income from their investment.

Some complaints about MVAs also concern, or are influenced by, the general fall in value of bonuses on with-profits policies in recent years, and the fact that smaller bonuses may lead to a reduced level of income from the investment.

In dealing with complaints involving MVAs, we look to see whether the firm's policy documents stated clearly that MVAs might be applied and explained the effect they could have. We also look at the investor's circumstances and requirements at the time of the advice, to see if that advice was appropriate. This will be particularly important if MVAs were being applied at the time of the advice.

In such cases we will look at whether the investor would have had a clear understanding - from the product documents or from the adviser - of the potential impact of an MVA if, for example, the investor needed access to their money in the shorter term.

Where we find that:

  • the investment advice was suitable;
  • the MVA was correctly applied; and
  • the policy gave clear information about possible MVAs;

we will not uphold the complaint.

A firm's decisions about when it will apply an MVA and how large it will be, together with its decisions about bonuses, are usually matters that are entirely for the firm itself to determine. We would not generally look into complaints about these issues, since - under our rules - we can dismiss a complaint without considering its merits if it concerns a firm's legitimate exercise of its commercial judgement.

However, we may uphold a complaint if an investor lost out as a result of being wrongly advised to invest in a with-profits fund, or where a firm failed to give clear information about MVAs in its policy document.

case studies - market value adjustments

pensioner seeking income - advised to invest in with-profits bond - firm reduces bonuses to zero, then tells pensioner it will make an MVA if he withdraws capital

After Mr F retired, he found that his pension only just covered his basic living expenses. He had a modest amount of capital, invested in a high-interest savings account with his bank, and he soon began to rely on the interest from these savings to supplement his income.

Wondering if there was any way in which he could improve on the amount of interest he was getting, Mr F consulted the firm. It advised him to put 60% of his capital in its with-profits bond. A feature of this particular bond was that his capital was guaranteed not to drop below the amount he invested, as long as he did not withdraw more than a pre-set amount. In effect, this meant that he could not receive any more income than the value of the annual with-profit bonuses.

Just over a year after Mr F transferred his money into the bond, the firm reduced its bonus rate to zero. As a result, Mr F was not able to take any income at all.

He contacted the firm to ask why it had not warned him that this could happen, and to say that he wished to cash in his investment and put the money elsewhere. The firm told him that it would apply an MVA, significantly reducing the amount he would get. Mr F then complained that he had not been told that his capital might be reduced in this way. When the firm failed to uphold Mr F's complaint, he came to us.

complaint upheld
We concluded that Mr F had been wrongly advised to invest in this bond. It was not suitable for him, as he was relying on this investment for a steady level of income for the rest of his life and there was always a possibility that the bonus level could drop, perhaps to zero.

The fact that the firm might charge an MVA also made the bond unsuitable. The MVA could effectively lock Mr F into the investment unless he was willing and able to suffer a significant capital loss.

We upheld the complaint and asked the firm to return to Mr F the full amount he had originally invested. We did not award any further sum for "loss of use" of his money; the amount of income he had withdrawn from the bond was approximately the same as the amount of interest he would have received if he had left the money in his bank account.

customer invests in five-year with-profits bond - misunderstands illustration of effect of MVA on early withdrawals and fears value of his bond has dropped

In 2002, Mr T invested £50,000 in a five-year with-profits bond. Two years later, he was shocked to receive a statement from the firm that seemed to suggest his bond was now worth only £40,000. Dissatisfied with the firm's response to his complaint about this, he contacted us.

complaint withdrawn
Mr T could not understand how such a "loss" had come about, particularly since he had not taken any income from the bond and the firm's representative had not warned him that the value of his investment might fall.

After looking at the statement that the firm had sent Mr T, we explained to him that the actual value of his bond had increased - it was now £51,000. The firm had quoted the figure of £40,000 to illustrate the amount he would receive if he cashed in his investment at that point, since the firm would apply an MVA to the withdrawal.

We explained to Mr T how MVAs work, and pointed out that his policy provided a guarantee that he would get the full value of the bond after five years, without any reductions. Mr T said he was happy to leave his money invested in the bond for the full five-year. Satisfied with our explanation and relieved that the value of his bond had not gone down - Mr T told us he did not wish to proceed with his complaint.

retired couple invest in with-profits bonds for improved level of income - firm cuts bonuses - couple unable to withdraw their capital without deductions

Mr and Mrs A, who were retired, received a very small income from their pensions. However, they were able to supplement this with the interest Mr A received on his fairly substantial savings, spread across several different bank accounts.

After seeking the firm's advice about increasing the level of income available from these savings, Mr A took 90% of his savings out of the bank accounts and put the money in several of the firm's with-profits bonds. For a short time this did produce a slightly higher income. However, it wasn't long before the firm began cutting bonuses. Mr and Mrs A soon found they were getting only 10% of the income they'd had from the bank savings accounts. Greatly alarmed by this, they decided to withdraw all the money from their bonds as quickly as possible and put it back in the bank accounts. However, when they contacted the firm to arrange this, the couple discovered that MVA deductions would make considerable inroads into the total amount they got back.

Mr A complained that they had never been told there was any possibility that the level of income they got from the bonds could drop. He also said they not been warned that an MVA might apply if withdrew their funds before the bonds had run their full term. When the firm rejected Mr A's complaint, he came to us.

complaint upheld
We upheld the complaint. The couple were dependent on the income from their capital to meet a large proportion of their everyday living expenses. This type of investment was therefore unsuitable for them, particularly since the MVAs meant they could not withdraw their money without losing some of their capital.

We asked the firm to return the full amount that Mr and Mrs A had originally invested in the bonds. We said it should also work out whether it owed them an additional sum for "loss of use" of the money. It should do this by calculating the amount of interest the couple would have received if they had left their money in the bank accounts, and deducting the amount they had received as income from the bonds up until the point when the couple withdrew their investment.

customer invests in five-year with-profits bond - decides to cash it in after three years - claims firm's application of MVA is "jeopardising her future livelihood"

Ms C, who had been divorced for some years and had no children, made up her mind to resign from her job and move to Spain.

Nearly three years earlier, she had invested £10,000 in a with-profits bond. She had originally intended to leave this money invested for the full five-year term. However, once she began making plans to move abroad, she changed her mind and decided to cash in the bond. She had worked out that the proceeds of the bond, together with the money she got from selling her flat, would enable her to buy a property in Spain and to cover her expenses until she had settled in and found a new job.

When she contacted the firm to cash in the bond, she was greatly dismayed to learn that the firm would apply a MVA, substantially reducing the total amount she got back. She complained vehemently, saying that the firm had no right to reduce the value of her capital in this way, and that it was "jeopardising her future livelihood". However, the firm rejected her complaint.

complaint rejected
When she referred the dispute to us, Ms C insisted that the firm had not been entitled to apply the MVA. She insisted that - when she was advised to invest in the bond - she had been told there was no risk to her capital. She also complained that the firm's use of MVAs meant that her money was effectively "locked in" until the end of the five years. She said that her changed circumstances meant this restriction was not acceptable to her.

We looked first at the firm's policy documents. These stated clearly that the firm was likely to impose an MVA if investors took any of their money out of the bond before the end of the term.

We then looked at what Ms C's circumstances had been when she was advised to make this investment. We found that at that time she had been 40 years old, in full employment, and earning enough to leave her with a significant surplus after she had covered all her living expenses. In addition to the £10,000 she put into the bond, Ms C had over £30,000 of savings in her bank account.

She had told the adviser she had no plans to retire from her job until she was at least 60. And there was nothing to indicate that she might need to withdraw any money from the bond before the policy term was up. This was the first time that Ms C had invested in a with-profits bond. However, on several previous occasions she had left sizeable sums of money - untouched for over five years - in the type of savings accounts that penalised savers heavily for withdrawing any capital before the first five years were up.

We therefore rejected the complaint. The advice to invest in the with-profits bond had been suitable for Ms C's needs at the time of the sale and the firm's literature had given a clear explanation of MVA's.

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.