With-profits investors stung by exit fees

Growing numbers of investors are complaining to the Financial Ombudsman Service (FOS) after discovering that exit penalties have been applied on their with-profits bonds, wiping thousands of pounds off the value of their policies.

The ombudsman – which settles disputes between consumers and financial businesses – has reported that around two-thirds of current complaints about with-profits investments relate to “market value reductions” (MVRs), or exit penalties.

MVRs are used by insurers to deter investors from cashing in long-term with-profits policies before maturity, thus diluting the financial strength of the fund for remaining policyholders.

Investors should be clearly warned that an MVR might be applied if they encash their policies early, but the ombudsman has become involved in many disputes where this is not the case.

“We have seen an increase in complaints from consumers who have discovered, when withdrawing money from an investment (or attempting to do so), that the business has implemented an MVR,” the ombudsman’s office said. “MVRs can be applied to with-profits funds, resulting in investors receiving a smaller amount than they were expecting when they withdrew their investment.”

Most of the recent complaints made about MVRs – which number around 60-70 a month – centre on a lack of clarity during the sales process and in the product literature. Investors have claimed that with-profits bonds were unsuitable for them, simply because an MVR could be applied, the ombudsman’s office said.

A recent complaint upheld in the customer’s favour involved a policyholder who complained when an MVR was applied on his policy, reducing its value by £6,000.

The policyholder, in his thirties, argued that he had never been warned that an MVR might be applied if he encashed before maturity. He also said the business that sold him the policy had assured him that this investment “could not fall in value”. The case was upheld because the ombudsman found no evidence that the business had fully explained the risks.

In fact, a letter to the customer and the product brochure had both stated that unit prices could not fall, the ombudsman discovered.

“We considered this to be misleading because the business had not also mentioned that an MVR could bring about a fall in the actual value of an investment, when the investor cashed in,” the ombudsman said.

While disputes turn on individual circumstances, the ombudsman often highlights cases that it has heard to give consumers and businesses a feel for its approach.

The development comes three years after the Financial Services Authority (FSA) identified key failings in the with-profits market, including a failure by
many businesses to mention or clearly explain valuable product features, such
as MVR free-withdrawal dates.

Investors who surrendered their with-profits bonds since 2007 would have experienced a deeper financial sting as MVRs were
as high as 20 per
cent, although they have recently been lowered, or removed, as markets have recovered.

The Association of Independent Financial Advisers (AIFA) said it would be surprised if the recent flurry of complaints to the ombudsman related to policies sold in recent years.

“With-profits were heavily sold in the late 1980s and 1990s but the rules relating to oral disclosure and
ensuring product suitability have certainly tightened over the past few years
in the consumer’s favour,” said AIFA director
Robert Sinclair.

“With-profits bonds are not short-term products and
I would expect an adviser to be clear about that in the discussion and literature provided.”

The Association of British Insurers (ABI), whose
members provide product literature, said: “We have been working with our members to improve the communications around with-profits”. It has also launched a Good Practice Guide for its members. But it said that, as the guidance was only launched in November, it was too early to review what impact
it had.