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The bogus season

Perhaps the biggest nail in the coffin of life companies has been the tarnishing of the with-profits concept.

With-profits was their unique selling point, so it is hardly surprising that life companies have continued to flog what many people feel is a dead horse.

Not only life companies have fought hard to keep the product alive. It was the investment fund which brokers could confidently use both for capital and regular savings in the form of endowments or through a pension arrangement.

I would argue that all other life company business paled into insignificance compared with the with-profits concept. However, the increasingly arbitrary declaration of bonuses has called into question the continued use of with-profits for single-premium investments.

Indeed, my mentor 35 years ago in this industry called them “boguses”. The events of the last 10 years have given some credence to his reservations but unfortunately this has not stopped one or two brokers continuing the shovelling.

The single-premium arrangements offered during the 1990s started the game of bonus leapfrog which many life companies indulged in during those halcyon days. The company that could show the greatest historic return from its with-profits fund attracted most of brokers’ money.

In despair, actuaries had to inform the general management of the life companies that the only way these bonuses could be produced was if far greater risk was taken with the underlying assets. A recipe for disaster. I was therefore surprised to hear that once again, the darling in the IFAs’ bag for clients who want “investment advice” is the single-premium with-profits bond.

Life companies are not widely advertising the product and are certainly keeping very schtum about the volumes but the jungle telegraph indicates that the with-profits shovels are out.

Why would you put money in a fund when the assets in which it invests are all depressed and any increase can be held back? This indicates that bonuses will be low and in many cases zero. Surely the time to use with-profits is when markets are high and likely to decline, not low and likely to recover?

No wonder life companies are keeping quiet. They would not want anything to rock the boat and stem the flow when IFAs are bolstering reserves.

It truly amazes me, however, that the advocates of with-profits have not noticed a material piece of legislation that came out during the Finance Act. From April 6, 2008, life funds look less attractive, not just because of often appalling perfor- mance but for tax reasons.

Gains in the investor’s hands outside a bond suffer a maximum rate of 18 per cent but most investors do not use their capital gains tax exemption. Therefore, gains in direct investments are taxed considerably less punitively than in an investment bond. The only marginal case is a bond investor in deposit and only for a 40 per cent taxpayer. At least higher rates of tax are deferred and if the higher-rate taxpayer one day reverts to being a lower-rate taxpayer, they could temporarily shelter their interest from higher rates of income tax.

It is also rumoured that a few people are putting their toe back into commercial property. It is probably far too soon but should they be right and property increases in value, a unit trust or if you want more excitement a property fund quoted on the stockmarket might be better.

I suppose there is the old problem that you only get 3 per cent commission on a unit trust and 1 per cent stockbroking commission buying property company shares. At least there is one reason to flog single-premium with-profits bonds and investment bonds – that lovely 7 per cent commission up front. I wonder whether clients will be thankful.

Peter Hargreaves is managing director of Hargreaves Lansdown

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