Insurers see threat to endowment mortgages: Life houses worried that plans will become virtually unsaleable if tax changes under discussion are implemented

THE LIFE insurance industry has been thrown into disarray by the possibility of fundamental tax changes that, some companies believe, could kill off the sale of mortgage endowment plans.

With life offices still recovering from the decision last week by Kenneth Clarke, the Chancellor, to force their salespeople to tell their customers how much they are paid in commission and other benefits, fears are rising that the Treasury will prove increasingly hostile to endowment policies.

Another round of changes now under discussion would revolutionise the way endowment policies are treated by the Inland Revenue by taxing the proceeds on maturity rather than the investment income during the life of the policy.

Some companies believe a move to a tax on proceeds would make endowment policies - already the target for a fierce consumer attack - virtually unsaleable. This is because customers would have to take out savings plans without a clear idea of their tax treatment, which would depend on the tax regime at the policy's maturity, usually many years away.

The tax threat arises from two parallel developments - an Inland Revenue review of life assurance taxation and next year's implementation of the European Community's Third Life Directive.

According to one industry insider, a crisis meeting two weeks ago of the Association of British Insurers 'broke up in disarray', with the 50 or so companies attending unable to agree a unified response.

Policies written by European insurers are already taxed on the basis now under study for the UK - receiving investment income tax-free but paying tax on the proceeds. This could provide European rivals with a substantial advantage, particularly if the arrival of the single market forces the removal of protective tax barriers.

But insurers are at odds over whether they should seize the opportunity to move to the same basis of taxation as their European counterparts.

Another industry tax expert said of the ABI meeting: 'There was quite a difference of opinion. A lot of people would like to bury their heads in the sand and just stay with the existing regime.

'Some companies north of the border have an interest in procuring the endowment mortgage market for ever.'

The ABI recognises that the impact of tax changes 'is likely to vary considerably between companies'. A paper on the issue says: 'Any ABI proposals must ensure that the gap between 'winners' and 'losers' . . . is kept within acceptable limits.'

David Linnell, group actuary of Prudential Corporation, Britain's largest life insurer, said: 'To move to a basis where we were dependent on what the Government of the day was doing at the end of your contract does not look terribly attractive. (Policyholders) have already got the uncertainty about what (their) savings are going to earn.

'This would add uncertainty about the tax treatment. Is this really the way to do it?'

Standard Life - seemingly one of those with most to lose because of the business it receives from Halifax Building Society - rejects alarmism about endowments and favours a move towards a gross roll-up of investment income and a European- style exit tax.

Iain Lumsden, finance director, said the Revenue recognised that people needed to plan ahead and saw no reason why the tax burden should rise under an exit charge system. He added: 'People are going about making dire predictions about absolutely everything. I'm afraid I don't really understand them.'

Nigel Collard, head of tax at Legal & General, said an exit tax would mean 'a substantial period of future uncertainty' for 25-year mortgage endowments, but he believed endowment policies could survive.

He said the industry would look for a statutory rate of tax. The untaxed investment income would mean gross proceeds could be substantially bigger, allowing life offices to offer some very attractive products.

L&G is broadly content with the existing regime but is concerned about tax barriers that make British insurers uncompetitive in Europe.

Some companies are already exploiting the tax anomalies. One way is to reinsure income bonds sold in the UK with a European reinsurer, enabling investment income to roll up tax-free. The proceeds can be paid to the policyholder in the UK free of tax.

J Rothschild International, the Dublin-based arm of the life office backed by Lord Rothschild and Scottish Amicable, is taking advantage of another niche to offer long-term protection policies at rates up to 30 per cent less than UK competition.

A move to an exit tax system would pose cash flow problems for the Treasury and seems likely to require complex transitional arrangements.

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