Accusations of poor performance, unduly high commission, over-complexity and mis-selling have dogged with-profits bonds, and the market is not what it once was.
It is hard to deny that with-profits bonds are getting less popular. However they are performing, sales numbers are not particularly inspiring and the landscape for the bonds is noticeably different to what it was a decade ago. That said, there still many bondholders out there with money sitting in existing investments and several companies are taking on new business.
This new business is operating in opposition to a culture of malaise around with-profits bonds, where companies often show little motivation to provide their figures. Firms seem to err on the side of inaction when it comes to with-profits bonds.
Part of the original appeal of with-profits bonds was that they were generally viewed as lower-risk products than many due to their ‘smoothing’ strategies. In addition, they include a mixture of assets and annual bonuses that usually cannot be taken away once they have been added.
This does not mean, however, they are completely risk-free; with-profits bonds are not appropriate for investors who may need to access some or all of their capital within the first five years as early surrender penalties apply. On top of this, a market value reduction (MVR) could apply to withdrawals at any time, although fewer and fewer companies are currently imposing it (illustrated by Table A).
One of the main advantages of with-profits bonds, and consequently one of the reasons clients might still consider them as an investment option, is the tax situation. Basic-rate taxpayers do not pay income tax when the bond is cashed in because the provider has already taken responsibility for the tax. It is possible to withdraw 5 per cent each year without any immediate tax liability, since the level of tax is calculated upon issuing the bill, rather than when the money was drawn.
A justified criticism of with-profits bonds is their lack of transparency. It is down to individual providers to determine the amount given as a bonus, or if there will be a bonus at all. Current terminal bonus rates are shown in Table B.
There is also the issue of MVR which is likewise decided and applied by providers should an investor want to withdraw their money early. Policyholders have no way of knowing what level the MVR will be in the future. Another point of criticism of with-profits bonds is that where companies are no longer taking on new business, they are less motivated to provide attractive returns through active management than those that want to attract new customers. The lack of competition is an increasing problem.
Regardless of a fall in popularity from days gone by, there are still many firms open to new business and these figures, shown in Table 1, are looking healthy. A total of 12 providers responded to our survey as taking on new business, and many of those show elevated figures from last year.