Endowment Policies
The Basics
Popular in the late eighties and the nineties
an endowment policy is a combination of two basic
elements, namely a savings plan and a life assurance
policy. There are two basic types of endowment
policy – the with profits version and the
unit linked version.
With Profits – here the monthly premiums
are pooled with other investors. The plan provider
will then add bonuses to the individual plans
at the year-end depending on the performance of
the investments within the fund. These bonuses
termed either annual or reversionary cannot be
taken away. At the end of the policy term there
will be a final one off bonus called the terminal
bonus which may in some instances represent a
large proportion of the borrowers final pay out.
This final bonus is not guaranteed in any way.
Unit Linked – Once again investors funds
are pooled and then used to purchase units in
stock market linked investments. The value of
these holdings will alter on a daily basis and
can go down as well as up. Generally these polices
will be accepted as having the potential for greater
and faster growth than the with profits but there
is also the risk that they may not produce such
a steady long-term return.
Advantages
With the built in life assurance and in most cases
critical illness insurance the overall cost is
usually lower. There is also the potential to
receive a tax-free lump sum once the capital amount
owing has been repaid, or to reduce the term of
the mortgage if the target amount is achieved
early. The policy is usually highly portable and
allows free movement from lender to lender.
Disadvantages
The final value of the policy may not be entirely
sufficient to repay your mortgage or the monthly
premium may have to be increased later on in the
term of the mortgage to compensate for poor returns.
The endowment is a long-term investment product,
which should be held to maturity to get the maximum
benefits. During the early years you will find
the charges in certain policies will eat into
the premiums and reduce the amount you are accumulating
towards the repayment of your mortgage.
Suitability
An endowment policy is the most suitable option
in a number of circumstances the most common being
those identified below:
- You are a higher rate taxpayer and have utilised
- all your annual ISA allowance
You do not mind taking some degree of financial
risk
- The period of borrowing is in excess of say
12 years
- You believe that the investment market over
the period of your mortgage is likely to generate
a cash surplus over and above that required
to repay the mortgage
- You are not looking for a guarantee of repayment
at the end of the mortgage term
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