Profits Bonds refer to a type of investment that’s considered “low risk”. A With Profits Bond is basically a form of life insurance investment, but the life cover that such a product offers is negligible and it is used primarily as investment to achieve a regular income.
Investors are essentially investing into life insurance company. The investment, which is a lump sum, is referred to as “sum assured” and it is typically represented by a number of units. The “sum assured” of all investors is pooled together with other sums that other investors invest into the life insurance company along with any other assets the life insurance company owns, which include but are not limited to regular premiums.
The pool of money is what comprises the “life fund” of the company that’s used for paying out life insurance claims. However, the life insurance company’s professional investment manager uses a sizeable portion of the life fund for investing in a diverse portfolio with the aim of growing the life fund.
The investment grows at the end of each year with the addition of “Revisionary Bonuses”, which are additional bonuses awarded by the insurance company based on the life fund’s growth. While there isn’t any guarantee of a bonus being added, it is still worth noting that after a bonus has been awarded it cannot be removed later.
The insurance company is obligated to maintain the value of bonuses from one year to the next. Consequently, if a particular year is very successful for the life fund, the insurance company keeps some of the profits in reserve to try to guarantee a bonus in case the investment ever fails. The process is referred to as “smoothing”.
With Profit Bonds have a maturity date, but there isn’t a formal tie in period, which means that investors are free to remove either part or all of their investment at any time. It means that if a With Profits Bond is correctly advised, it can provide a form of regular income to investors. However, such a high level of flexibility brings with it some provisos: –
- Withdrawals greater than 5 per cent of the initial capital may attract tax.
- They are subject to early surrender penalties that are typically applied in the first five years.
- A Market Value Adjustment (MVA) may be applied at any time that may affect the investment’s overall value.
The MVA is probably the most complex drawback to a With Profit Bond of the above. It is applied when there has been an ongoing fall in the market or when the close out rate on the With Profit Bonds associated with the Life Fund has been larger than anticipated.
The general idea of MVAs is preventing investors from getting more than their fair share of the life insurance fund as well as protecting the life fund in its entirety. They aren’t meant to be a permanent fixture, but rather are viewed as a temporary solution. MVAs only apply when investors wish to close out early with the With Profits Bonds.
Life insurance companies typically don’t apply MVA if investors remove a small percentage of the investment with the cap generally being set at between 5 and 10 per cent of the investment. Furthermore, it is quite unusual for MVAs to apply in case of maturity or the death of an investor.
How Is It Possible for a With Profits Bond to be Mis-Sold?
With Profits Bonds are sold as “low risk” investments and have the benefit of allowing for withdrawals over the Bond’s life. Advisers would also make sure that they clarify that bonuses couldn’t be removed after they have been granted.
However, as previously stated, while the With Profits Bonds are considered less risky than investing directly in shares and stocks, they do carry some risk especially when they are closed out early. Such risks may result in investors getting significantly lower returns than originally anticipated regardless of the fact that bonuses couldn’t be removed.
In addition, the bonuses were not guaranteed and were dependent on the determination by the insurance company as to what constitutes a fair bonus to pay with reference to the prevailing conditions in the market. The smoothing out process also provides insurance companies with valid grounds for paying lower than expected bonuses.
Furthermore, while this may no longer be the case because of new regulations, up until about 2010, advisers used to earn massive commissions, sometimes as high as 7 per cent of the investment. Consequently, the advisers had a vested interest to encourage investors to take out With Profits Bonds by focusing more on the positives while downplaying the negatives.
Even to this day, in spite of commissions being effectively outlawed, investors still find themselves in a position where their “low risk” investment does not even have protected capital.
What Does All This Mean for Me?
If a With Profits Bond has ever been sold to you following guidance from an Advisor, it is worth considering exactly what you understood at the moment when the With Profits Bond was being sold to you. With Profits Bonds are definitely not suitable for all circumstances especially if there was a risk that you would need to access a significant portion of your capital within a short amount of time. It could be that another investment would have been better suited to your needs and you need to seek advice regarding whether or not you have a claim.
If you have already or are considering closing out with a With Profits Bond before it matures, you might be shocked to learn that after the deduction of the MVA and/or any other penalties, the total due to you is less than you had expected. In such a situation, it would be advisable to seek advice regrading whether or not you have a valid claim.
How Can We Help?
At our company, we are experts in advising individuals and businesses alike on the potentially mis-sold complex financial products.
We offer a no-obligation initial review of potential With Profits Bonds claims, and advise on the strengths and weaknesses of making such claims. Following that, we work on a no-win no-fee basis, which means that we only take claims forward if we sincerely believe that they have a strong chance of being successful.
If you believe that a With Profits Bond was mis-sold to you and would like us to investigate the matter for you, please do get in touch with us today.