Is it time to cash in with-profit funds?

With-profit bond and endowment holders have suffered a nasty case of déjà-vu in recent weeks, as life insurers began announcing cuts to policy bonus rates and reintroducing market value reductions – as they did at the start of the decade.

Even before the sharp market falls of the past two months, many of those who took out a with-profits bond or endowment policy 10 years ago would have been sitting on a policy worth less than the sum of their contributions. And after the severe market turbulence in September and October, policy values have fallen further.

For example, if you had taken out an endowment with London Life in September 1998, and paid in £50 a month, it would have matured in September this year with a value of £5,376 – £624 less than the contributions you paid in. If you'd put your £50 a month in the bank, it would be worth about £8,000.

Margaret Flaherty of Standard Life points out that, over longer periods, with-profits policies have performed much better. According to a survey by Money Management magazine, the average 25-year with-profits endowment maturing in 2008 returned 8.3 per cent a year – better than the bank and the market as a whole. The worst, however, returned less than 4 per cent – a poor return for such a long period invested. However, Flaherty adds that, like all equity-based investments, with-profits were not without risk, and some people have fared less well.

So what do you do if your with-profit bond or endowment policy has performed less than impressively?

With-profit bonds

Sadly, many life insurers – including the likes of Standard Life and Norwich Union – are now charging MVRs for with-profit bondholders who try to cash in their policies. This means that if you're thinking of cashing in your with-profit bond now, you could receive as much as 22 per cent less than you would have only a couple of months ago.

However, Tom McPhail of Hargreaves Lansdown, the Bristol-based financial advisers, says most with-profit bonds have windows for customers when no MVRs are applied – usually on anniversaries, such as 10 or 15 years after you took out the policy. So if you're thinking of selling but are not far from such a window, it may be worth holding on. Ask your provider when your guarantee dates are.

If you're not near a window and are in a poorly performing fund, it may still be best to take the MVR hit if it's not too big. Many of the worst-performing funds are invested conservatively and are unlikely to make dramatic recoveries; you could get better returns elsewhere. Talk to a financial adviser if you're not sure (to find one in your area, visit www.unbiased.co.uk).

Endowments

Many with-profit endowment policies were taken out alongside a mortgage, with a view to providing a lump sum that would pay off the whole loan at the end of the term. After the stock market falls between 2000 and 2003, many families received amber or red letters from their insurers warning them that their policies had little or no chance of paying off their mortgage.

After the recent round of market falls, many of those who received amber letters are likely to now receive red ones, while some of those who received green letters – saying everything was OK – may now receive amber or even red letters.

If you're paying into a poorly performing endowment, the main reason to keep it is that, as well as annual bonuses, it should also pay a terminal bonus at maturity. It may also include some death benefits. However, if you're years away from maturity, it may be worth considering surrendering your endowment, or selling it.

Brian Goldstein of the Association of Policy Market Makers says that his organisation helps to supply policyholders with a quote if they decide to sell their policy – and this is, on average, around 10 per cent greater than the "surrender value" that the insurer will pay out. The very best policies may be worth much more than you've paid into them, but sadly the worst will pay out less than the sum of your contributions, even after 10 or 15 years invested. To get a quote to sell your policy, visit www.apmm.org.

The decision as to whether you should continue paying into your policy, or sell it, or cash it in, isn't simple, so seek professional financial advice.

With-profit policies: The facts

Market volatility has understandably always been rather unpopular with investors. Although everyone likes the idea of their investment increasing in value, no one likes to see their savings suddenly cut in half. This is the reason why with-profits funds were invented – investments that aim to "smooth" stock market returns by paying out less than the market in the good years, and more than the market in the bad years. Unfortunately, many funds paid out too much in the 1990s and then had nothing left when the markets halved between 2000 and 2003. As a result, performance has been awful among some of the funds.