‘With-profits’ plans that are anything but...

TENS of millions of investors have £300 billion locked away in ‘with-profits’ funds – but many are in the dark about the nuances of the product or are blissfully unaware they could be heading for disappointment with their investments.

Experts say people in their 50s and 60s who are planning financially for retirement need to dig out old paperwork and seek advice on how best to use these funds – now or in the future.

Independent financial adviser Craig Palfrey, of Cardiff-based Penguin Wealth, has long been a sceptic about the merits of withprofits. He says: ‘There is a lack of transparency with these products. Insurers use tricks of the trade to make returns look reasonable when they aren’t.’

SO WHAT ARE WITH PROFITS?

THEY are medium to long-term investments that have been sold in one form or another since the 1970s – as a mortgage repayment vehicle (endowment), a pension, an investment bond, or as an annuity.

The plans are supposed to provide steady returns without the explosive ups and downs associated with the stock market – and were sold by many financial advisers as low to medium risk investments.

They are managed by insurance companies with investor returns accruing through the accumulation of annual ‘bonuses’.

The size of the bonus is determined by the insurer and depends primarily upon its success in investing planholders’ money. In ‘good’ investment years, bonuses are pared back a little to ensure bonuses can be paid in difficult years, a process known as ‘smoothing’.

Some plans, especially those linked to a mortgage, come with the guarantee of a minimum payout when their term comes to an end – plus the promise of a ‘terminal’ or final bonus.

Palfrey says: ‘With-profits was a popular way for insurance companies to get people to invest. But the financial world has changed massively since they first came on the scene.’

He says a mix of greater regulation and poor stock market returns has undermined withprofits. Most plans now pay no or minimal annual bonuses, rendering them poor value for money.

Despite this bleak backdrop, Palfrey says many people holding such plans are unaware of how they are performing and what returns they might get in the future.

WHAT ARE THE PROBLEMS NOW?

TOO few investors know how their with-profits plans work, says Palfrey.

Over recent years, he has reviewed the investment portfolios of hundreds of investors, many of whom hold such plans. He says confusion and misunderstanding are commonplace.

Take the ‘terminal’ bonus as an example. People think they are guaranteed when they are not – they can be cut back or withdrawn without notice.

The other type of bonus – the annual bonus – cannot be taken away once added to a plan.

Bukta Miah, a regulated adviser from the online and phone service Get Financial Advice, says the insurance industry uses ‘ball and cup magic tricks’ when it comes to bonuses. Investors, he says, struggle to guess which cup the bonus ball is hiding under.

He explains: ‘Over the years, some with-profits providers have cut annual bonuses to the bone because they are costly. Instead, they have put more emphasis on the final bonuses that can be reduced without warning or withdrawn altogether.

‘Policyholders are having the wool pulled over their eyes – they think they are invested in something safe, getting a good return, not knowing they are riding a wave.

‘When we produce reports for people on how their with-profits plans are performing they often react with surprise followed by dismay and anger.’

Unclear charges and crushing exit penalties for those who try to get their money out of a plan early are two other big problems faced by with-profits investors.

Jonathan McColgan, director of financial planning company Combined Financial Strategies based in Bath, says: ‘Charges on most with-profits plans are not transparent. In a world where greater disclosure is demanded and where pressure on product charges is downward, withprofits seems archaic.’

WHAT DO I DO WITH MY POLICY?

IF YOU hold a with-profits pension, endowment or investment bond, it will pay you to have its suitability reviewed by a financial expert.

Making a decision on your own – whether to stick or twist – is unwise. Withdrawing money without advice could mean a loss of valuable guarantees or a shock exit fee wiping away any profit.

On the other hand, you could be missing an opportunity to withdraw money from a badly performing plan and invest it elsewhere.

McColgan adds: ‘With-profit funds are not all equal. Some have given their investors solid returns over the years, as was originally intended. Some have not.’

For help finding an independent financial adviser who can assess the merits of your with-profits policies, visit websites such as unbiased and VouchedFor.

Website Review Your With Profits is offering a free, personalised report on the worth of your policy. Customers can then choose whether to take further paid-for advice from a regulated adviser.

This with-profits website, together with website Increase Your Pension, are part of the Get Financial Advice brand, backed by Penguin Wealth.

Get Financial Advice is designed to reach people who usually shun traditional face-to-face advice and help people get to grips with complicated personal finance issues.