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Endowments are insurance policies that pay a sum at a set date or on the holder's death. They are complicated policies that combine life insurance with investment growth. In the 1980s and 1990s, they were commonly used as a means of paying off a mortgage. The problem: as of 2004, 6.8 million of the 8.5 million existent endowments were not expected to be able to pay off the full amount of the mortgages.
Endowment mortgages were plans wherein homeowners would not repay any of the borrowed capital during their loan's term. Instead, they would pay into the endowment, which would grow enough to repay the loan at the end of the term, usually 25 years. On a monthly basis, homeowners would only have to pay the interest on the loan along with the endowment's premium. This premium also included life insurance so that if the homeowner died, the loan would still be repaid. But there was no guarantee that the endowment would grow large enough to pay off the full loan.
Changes over Time
When endowment mortgages first became popular, interest was high and homeowners got tax relief on the premiums paid to an endowment. Thus, the mortgage plans became attractive options for paying off a home loan. If the endowment grew to more than the loan amount, homeowners could spend the excess on anything they liked.
Unfortunately that rosy ideal has rarely become reality. Homeowners no longer get tax relief on their endowment premiums and today's interest rates have fallen. Many endowment holders now find that their endowments won't cover the full amount of their loans. Further, only one in three endowments will reach maturity. The others are cashed in early with those homeowners receiving less than what they paid in.
Current Holders Seek Advice
Those who hold endowments should seek professional financial advice if they have concerns about the endowment's ability to pay off their loan. Generally it's suggested that they pay an additional contribution every month so as to cover the expected shortfall. But there are also other options available. For example, one could pay that contribution into an Individual Savings Account and use its growth to cover the shortfall when the endowment matures. But that still contains risk, partly what led us to this point. Homeowners may also consider cancellation, though they'll likely incur penalties and lose their terminal bonus. A financial adviser can take homeowners through the range of options.