When is a promise not a promise? When it's made by an insurance giant

When is a promise not a promise? When it applies to an endowment, it seems. Thousands of endowment policyholders risk getting nothing from "promises to policyholders" which they believed would provide them with thousands of pounds if their endowments fail to pay off their mortgages.

In 2000, seven life insurers issued "promise to customer" letters, offering endowment policyholders reassurance on their investment returns. Standard Life, Pearl and four companies now part of the Aviva group - Norwich Union, General Accident, Commercial Union and Provident Mutual - sent the letters to thousands of endowment customers.

"Based on your 'policy update' and the information contained in 'Our promise to policyholders', we are pleased to confirm that we believe your policy is currently projected to repay the target amount when it matures," a Norwich Union letter said in 2000. "'Our promise to policyholders' means it is unlikely that you need to take any action now."

That letter reassured Jack Byrne, of Folkestone, in Kent. Before it arrived, he had been putting £22 a month into a Post Office savings, calculating this would cover the shortfall he faced from his endowment's predicted returns, compared to his mortgage debt. Mr Byrne understood the letter to mean Norwich Union was guaranteeing the endowment would cover his mortgage. "The 'promise to policyholders' meant I had no reason to worry and my mortgage would be covered, provided I made my repayments," Mr Byrne says. "I had extra savings, but I cashed that when I got this letter. Apparently there was small print which I did not see."

What Mr Byrne refers to as the "small print" contained important conditions attached to the promise. The three most important were that Norwich Union's future investment returns averaged at least 6 per cent a year; that the maximum shortfall the company would cover was capped at the level showing at the end of 1999; and that Norwich Union could afford to make the policy promise payments. In reality, far from achieving returns of 6 per cent or higher, the value of investments fell badly after 2000.

Only when Mr Byrne got letters later from Norwich Union, advising that despite the policy promise his endowment was still likely to produce a shortfall, he realised he was in trouble. As of September this year, Mr Byrne's endowment was predicted to fall short of paying off his £30,000 mortgage by £8,100, despite the policy promise and assuming returns average 4 per cent until 2007. The promise to policyholders will be worth £1,700, assuming Norwich Union remains in a position to pay it.

David Riddington, Norwich Union's actuary, says: "We originally made the promise based on reviewing policies as at 31 December, 1999, and the maximum payable was the shortfall then shown. It was not a cast-iron guarantee, but a promise, subject to conditions that customers maintained policies and that we could afford the meet the promise from our free reserves. New calculations today would show shortfalls are greater than we would meet under the promise."

Mr Riddington says although the payouts are not guaranteed by Norwich Union, it is continuing to make them. He says the cost at present is not difficult to meet, with maturing 25-year policies paying in excess of the target amounts and only shorter-term endowments failing to pay off mortgages in full. "If there is doubt over our ability [to continue to meet the payments] there is a guarantee to give three years' notice," he says.

But the Financial Ombudsman says the "promise to customers" is not legally enforceable and the companies can release themselves from their self-imposed duty. And Ned Cazalet, the insurance analyst, doubts the life assurers' ability to meet the payments indefinitely, especially as the peak is reached in endowments maturing only in 2013.

Mr Cazalet estimates Norwich Union's potential liability from the policy promises at £1bn, but reserves have been put aside to meet only the predicted next three years' costs. With Standard Life the potential liability is £1.5bn, with only £300m reserved. Pearl Assurance has put aside £230m, which Pearl says is a realistic estimate of the actual cost.

The companies may be forced to change their approach, Mr Cazalet says, and he is concerned by recent Norwich Union letters to IFAs. "Norwich Union is saying, 'Up until now we have been paying out on the promise'," he says. "What does that mean? Why 'Up to now'?"He is also worried Standard Life may eventually find the cost of meeting the promises to be too great. "So will they have to renege on the promise?" he asks.

Cameron Mills, managing director of risk and compliance at Standard Life, says the promise is affordable at present, but accepts some policyholders may not benefit from a payout. "If the stock markets bombed, the promise would probably be off," he says. "We are not going to bankrupt the company because of one promise."

Unlike Norwich Union, Standard Life is not committing to a specific period of notice before possible withdrawal of promise payments. The viability of the promise is evaluated annually by Standard Life's actuaries and a decision is taken each year on that basis, Mr Mills says. Standard Life would also expect to introduce a gradual withdrawal, through partially paying out on the promised sums, rather than ending the pledge abruptly.

The promises to policyholders are available only on policies that continue to full term, so it is not possible to surrender them early to cash in on the promise. Equally, it may make sense to maintain a policy until full term to maintain the potential benefit from the promise. Mr Mills says: "Policyholders should make sure they take account of that promise when moving their provision. But there is a risk it could be called off."

Thousands of affected policyholders should recognise there is great uncertainty about payments which they may have counted on.