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ombudsman news

issue 5

May 2001

mortgage endowment complaints assessment guide


On 29 May 2001, the Financial Services Authority (FSA) published its Regulatory Update 89 and Guidance on Mortgage Endowment Complaints, setting out the principles that regulated firms should apply when they deal with complaints about mortgage endowment policies. In the light of this regulatory guidance we have developed new procedures and tools that we will use when we consider mortgage endowment complaints.

We hope that any firms handling mortgage endowment complaints will choose to adopt our procedures. They are designed to provide a fair basis for resolving complaints in accordance with legal principles and regulatory guidance, and to ensure that people with complaints receive appropriate offers of compensation in a reasonable time.

By making our process transparent, we aim to:

  • promote a clearer understanding among firms and consumers of what we consider to be the correct approach to investigating complaints;
  • achieve greater consistency of approach in determining liability and compensation for complaints - whether they are dealt with by the ombudsman or by firms themselves, without referral to the Financial Ombudsman Service;
  • clarify the main issues that we consider and the principles we follow in upholding or rejecting individual complaints; and
  • indicate the links we make between types of upheld complaint and appropriate forms of compensation.

calculating compensation

The main issue the FSA guidance deals with is the approach to calculating the compensation payable if a mortgage endowment complaint is upheld. Compensation will now have to be based on a comparison of the consumer's current position with the position he or she would have been in had a repayment mortgage been recommended and taken out instead of an endowment mortgage.

This new basis of calculation is much more exact, and necessarily much more complex, than the previously most commonly-used method of compensation - refunding premiums plus interest. The new basis of calculation is also being introduced at a time when we and firms are both continuing to receive increasing numbers of mortgage endowment complaints. Our aim has been to streamline the process as far as possible, so that we can cope with the likely volume of cases and resolve them within a reasonable time.

policy guarantees

There is also another reason for upholding a mortgage endowment complaint. This is where consumers allege that, at the outset, they were given a guarantee of their endowment policy's maturity value, and the ombudsman considers that a binding guarantee has been shown to exist. This situation is covered in the assessment guide in decision tree number 19, where we refer to an internal guidance note on the subject. That guidance note is also now available on our website.

the assessment documents

We have refined the endowment mortgage questionnaire, first introduced in October 2000, which we ask people with mortgage endowment complaints to complete. We have also developed a new set of documents and reference guides to structure our approach to mortgage endowment complaints. These comprise:

  • an assessment template to record factual information about the complaint, the issues identified, our findings and, if appropriate, the compensation;
  • a list of the nature of complaint identified, so we can record this information consistently and use it for analysis in the future;
  • decision trees which document the factors that should be considered in reaching a decision on whether to uphold or reject a complaint and suggest appropriate types of compensation, if applicable; and
  • a list of the categories of redress, setting out the types of compensation methodologies available.

For complaints where a case-specific calculation on actual figures is not being undertaken, we also include a table of average historic decreasing term assurance (DTA) rates that may be used to produce an estimate of the premiums that would have been charged in past years for life cover accompanying a repayment mortgage.

calculating compensation

In its guidance, the FSA describes the way in which the comparison of an endowment mortgage and a repayment mortgage should be carried out, once it has been established that this form of compensation may be due. One element of the calculation is the comparison of capital - comparing the endowment policy's surrender value with the amount by which the outstanding balance on an appropriate repayment mortgage would have decreased since the endowment mortgage was taken out.

A separate element of the compensation calculation is comparison of the monthly outgoings - comparing how much the interest-only mortgage and the accompanying endowment policy have cost the consumer in monthly payments so far, measured against what a suitable repayment mortgage (with any necessary life cover) would have cost over the same period. If the monthly outgoings under the endowment mortgage were higher than under the alternative repayment mortgage, this gives rise to a loss. But if the monthly cost of the endowment mortgage was lower than a repayment mortgage, the consumer may have benefited from these ‘notional savings' and some account may have to be taken of this in calculating overall compensation.

comparison of the capital position

Comparing the capital and outgoings elements of an endowment mortgage with a repayment mortgage is a complex calculation in itself, and we have concluded that we need to purchase computer software to assist us with this. The software must:

  • contain the actual standard variable rates of interest charged by each of the major lenders over the past 15 years;
  • allow customisation to reflect special deals such as fixed, discounted or capped rates that may have applied to one or both types of mortgage in a particular case;
  • use the individual lenders' different methods of operating accounts and the timing of their year end, balance and interest calculations; and
  • take account of the consumer's payment history, for example any lump sum repayments made, payment holidays or arrears.

We have bought a licence to use software designed for this purpose, called Mortgage Fundamentals, produced by Exasoft Limited. Mortgage Fundamentals contains information from most of the major UK mortgage lenders about the historic interest rates they have charged and the account operating procedures they have used, up to the present day. It also incorporates the other features mentioned above and enables us to calculate easily, and with a good degree of accuracy, the actual capital and outgoings losses and gains for each complaint. We are aware that other similar software products are being developed.

taking account of notional savings

As well as comparing the capital position, it is appropriate to consider any 'notional savings' consumers have made over the period the mortgage endowment has been in existence. Consumers may, however, have spent such notional savings on general living expenses rather than actually saving the money. The FSA has stated that if the complainant was advised or informed at the point of sale that he or she would have lower outgoings under an endowment mortgage than under a repayment mortgage (whether or not this was quantified), and, on the strength of this information, has spent these notional savings, then it would be likely to be inappropriate to take them into account.

As part of the normal advisory process, most firms would have provided information to enable their customers to consider the alternatives available to them. This may have taken the form of a discussion or even have involved production of illustrations for comparison. We therefore believe, on the basis of our experience to date, that there are likely to be a significant number of cases where it will be inappropriate to take notional savings into account.

However, where for some reason the customer was not advised or informed at the point of sale that he or she might have lower outgoings under the endowment mortgage than under a repayment mortgage, the FSA guidance states that it may be appropriate to take account of some or all of the notional savings, if the customer is of sufficient means for a firm to assume the savings contributed to those means.

The FSA guidance also makes the point that the full amount of notional savings should never automatically be taken into account in these circumstances. The guidance mentions ways in which assessment may be carried out to arrive at a figure that it is reasonable to include in the compensation calculation.

These ways are:

a) the firm may choose to disregard in their entirety any notional savings the customer made as a result of having had lower monthly outgoings under the endowment mortgage; or
b) if the firm wishes to reduce the compensation figure by an amount in respect of all or part of any notional savings the customer made as a result of lower monthly outgoings, it must carry out a full assessment of the customer's present financial circumstances to establish that he or she has sufficient means to make it reasonable for the firm to do this; alternatively
c) the firm may adopt streamlined processes to assist them in individual assessments of customers' means, subject to the need to ensure the customers' position is protected.

Conducting a full assessment of a customer's present financial circumstances raises a number of practical difficulties. The foremost is that the customer has to provide a great deal of personal financial information about his or her present circumstances, to allow the firm to decide the amount it might be reasonable to deduct from the compensation figure for notional savings arising from lower monthly outgoings. The information required is likely to include: current income; average expenditure; value and type of all assets; type, term and amount of all debts; details of dependants; and any other information relevant to the individual case.

We are concerned that widespread use of the full assessment methodology could lead to delays in resolving complaints where customers were not advised or informed about possible notional savings. The full assessment methodology might require an extended exchange of correspondence between all parties, to collect the information and discuss any disagreements that could arise over the reasonableness of any notional savings taken into account. We recognise that customers may also consider the need to provide this level of information intrusive of their privacy, especially as they would have to give the information to a firm in which they may have lost confidence. However, the FSA guidance confirms that complainants must provide such information as the firm reasonably requires if they wish to dispute any amount the firm seeks to deduct in respect of notional savings.

We face the prospect of having to deal with an estimated 13,000 mortgage endowment complaints in the year from 1 April 2001 to 31 March 2002. We hope that, in the light of the FSA guidance, it will not be necessary to carry out a full assessment of individual customers' current finances in significant numbers of cases.

We will keep this matter under review. If the number of cases where it may be appropriate to take some notional savings into account becomes significant, we may consider introducing a more streamlined approach as part of our decision-making process. Any such approach would be designed to replace the need for a full assessment of the individual consumer's financial circumstances, while allowing for the impact on ongoing affordability of deducting any notional savings from the compensation calculation.

We will also review our experience of applying the FSA guidance in the light of the change in the terms of our jurisdiction after 'N2', the date when the new complaints-handling rules come into force, to ensure our policies are appropriately harmonised across the different areas of our remit. We welcome any comments on these issues from interested parties.


We will add other useful explanatory information to our website as it becomes available, to assist in the use of our assessment guide.


Firms wishing to receive training on how the Financial Ombudsman Service uses this process can contact our external liaison team, on 020 7964 1400.

Walter Merricks, chief ombudsman

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