Badly endowed

Endowment mortgages are turning out to have been a very bad idea. Millions were sold but some customers may end up losing their home even though they will have made their mortgage payments in full and on time every month for 25 years.

The only safe way to borrow money to buy a house is to take out a repayment mortgage. The monthly payments are a mixture of paying the interest and repaying the debt. So at the end of the mortgage the loan is paid off. An endowment mortgage is very different and has no guarantee that the mortgage debt will be paid off at the end. It is two separate financial products.

The first is the mortgage to buy the house. Typically the loan lasts 25 years. During the life of the loan you only pay the interest so at the end of the 25 years you still owe all the money you borrowed and have to repay it in full.

The second product is an investment called an ‘endowment’. You pay into it each month for 25 years. The money paid in and the growth of the investment is supposed to produce enough money to repay the debt at the end of 25 years. It is these endowments that are now in trouble.

Borrowing and saving at the same time is generally not sensible – the money you borrow will always cost you more than the interest paid on the money you save. But that was ignored when ten million endowment mortgages were sold in the 1980s and 1990s. They were said to have three advantages over a repayment mortgage.

These promises turned out not to be true. The flexibility was a myth. The chances of providing extra money over and above the debt were small and there was also a chance – seldom mentioned – that the investment would fall far short of the amount needed to pay the debt. The cost saving was small at best and certainly not worth the risk that was being taken. Endowment mortgages were sold simply because the person selling them got commission on two products rather than one.

If you are one of the eight million people who still have an endowment mortgage you must take action now or you could find you still owe a lot of money on your home when the mortgage period ends. If you cannot meet this debt, you may have to sell your home to pay it.

In 2000 or 2001 you will have been sent a letter by your insurer telling you how the company thought your endowment was doing. All endowments were put in one of three ‘traffic light’ categories. ‘Red’ letters warned of a high risk that the endowment would not be enough to repay the mortgage. ‘Amber’ letters cautioned that there was a possibility the endowment would not be enough to meet the mortgage. ‘Green’ letters predicted that the endowment was on-track to be enough to repay the mortgage debt.

These letters were supposed to be a call to action. But research by the Financial Services Authority found that seven out of ten people ignored them. The letters have also turned out to be very misleading. Insurance companies made their predictions on the basis that investments would grow by 4%, 6% or 8% a year. Over the last three years the value of shares has fallen by 17% every year. Insurers have now started sending out new letters and many people who got a ‘green’ letter in 2000 or 2001 are now being sent a ‘red’ letter. Despite falling share prices, these letters also assume that future investment growth will be between 4% and 8% a year. So even if your latest letter is ‘green’ you should still take action. Unless the stock market recovers dramatically over the next few years very few endowments will be sufficient to repay the mortgage loan they support.

When your insurance company writes to you it will suggest that you increase your payments into your endowment. That is always a bad idea. Whatever you pay it will not guarantee you have enough at the end to repay the loan. Why give more money to a company that has already failed to meet the promises it made in the first place?

If you have an endowment mortgage you should change it so that you will not be left with a debt at the end. And then consider if you can claim compensation.

You must start paying off some of the capital you owe. There are two ways to do that. Either you can switch all or part of your loan to a repayment mortgage so that you are sure it will be paid off by the end. Or you can just overpay your mortgage, paying off some of the loan as you can afford.

Affording that extra money may be difficult. But you may be able to find much of what you need by moving your mortgage to another lender. Lenders normally charge existing customers a higher rate for their loan than new customers. So by switching lender you can cut your interest rate from between 5.5% and 6% down to between 3% and 4.5%. That means your monthly payments will be lower. But do not pay less! Most new mortgages are ‘flexible’ so you can carry on paying the same amount and the extra pays something off your loan every month.

It is more difficult to decide what to do with your endowment. In the past the advice was always to keep paying into an endowment until its full term because a lot of the investment return came at the end in what insurers call a final (or terminal) bonus. However, with the stock market falling for the fourth successive year, insurance companies are cutting or even scrapping these final bonuses. So it may be better to get rid of the endowment now and use the capital released to repay a chunk off your mortgage. You can ask the insurance company what the investment is worth now – the so-called ‘cash-in value’. Alternatively, you may do better by selling your endowment on the so-called Traded Endowment Policy market. Until recently you got more this way than the cash in value. But investment returns on endowments are now so bad, that some are impossible to sell and if you find a buyer the price may be disappointing.

If you want to keep paying into your endowment, check your annual statement and see how much the investment is worth now. Subtract that amount from your mortgage debt. Convert the balance of the loan into a repayment mortgage or start paying extra to bring that amount down so that at the end of the term what you owe will equal what your endowment is worth now.

If you decide to cash in or sell your endowment, use the money to pay off some of your loan. Then at least know how much of your mortgage debt is left. You can then convert the rest of the loan to a repayment mortgage and with the money you would have been paying into your endowment – plus any money you save from re-mortgaging – you may end up little worse off.

By cashing in or selling your endowment you give up the prospect of getting any extra money in the future if share prices rises. But you will at least have a guarantee that your loan will be paid off – and that is the best sleeping pill in the world.

The Consumers Association estimates that up to five million people who have an endowment mortgage may have been ‘mis-sold’ the product and may be able to get compensation. You cannot get compensation just because the endowment will not be enough to repay your mortgage. You must have lost out financially and show that the product was mis-sold. Several things show it was. For example if the adviser did not explain the risk that your endowment may be insufficient to repay your mortgage or explain the risks involved in stock market investments. Maybe he or she did not set out the fees and charges and how they would affect the performance of the endowment. Or perhaps they did not complete a ‘fact-find’ about your financial circumstances and your attitude to risk

Other mis-sales were caused by the adviser implying or saying that the endowment was guaranteed or certain to be enough to pay off your mortgage – or even give you extra on top. Sometimes an endowment requires payments beyond your retirement age. That is a mis-sale if the adviser did not check you would have sufficient income then to meet the payments. It was always wrong to suggest you cash in an existing endowment and take out another

If you think your endowment was mis-sold, you must complain to the company that sold you the policy. If you are not happy with its response, you should complain to the Financial Ombudsman Service. This costs you nothing. However, if you were sold the policy before 29 April 1988 you can only complain to the Ombudsman if the firm that sold it you agrees.

If the company that sold your endowment has gone out of business, then you cannot go to the Ombudsman. Instead you have to go to the Financial Services Compensation Scheme. However, if you were sold your endowment before 28 August 1988 then the FSCS cannot deal with it and you will not get compensation.

You can find out more about compensation from the Consumers Association website where you can also print out a personalised letter of complaint. The Financial Services Authority has produced two leaflets Endowment Mortgage Complaints March 2002 and Your Endowment Mortgage – time to decide February 2002. They are free or you can download them from the FSA. or by calling its helpline 0845 606 1234. There is also useful information from the Financial Services Compensation Scheme on 020 7892 7300.

May 2003

e-mail Paul Lewis on paul@paullewis.co.uk