Financial newspapers

Challenging surrender values

Financial advisers are probably often asked, as we are, for an explanation of why a life assurance policy, with a stated current fund value, is worth less on surrender or transfer. No doubt they become weary of explaining that the current fund value is not necessarily the sum in return for which the provider will let the policyholder out of the contract.

In general terms (and with the exception of pension transfers, which are subject to actuarial checks), a provider can quote a surrender value of whatever sum it likes. After all, surrender is simply a breach of contract by the policyholder. The provider can therefore accept surrender on its own terms, and one would expect its terms to be profitable.

Maturity v Surrender

The case of Equitable Life v Hyman, famously decided by the House of Lords in 2000, limited the rights of providers to fix maturity values of with profits policies as they see fit. In that case, the withholding of bonus from guaranteed annuity rate policyholders was found to be a breach of contract. It is important to bear in mind that a life assurance policy is a contract of utmost good faith which will in the event of doubt or ambiguity be interpreted against the provider.

Surrender, however, is quite different from maturity. This was emphasised in the case of Legal & General v CCA Stationery, which was decided by the High Court on 12 December 2003. The case involved an appeal from the Pensions Ombudsman who, rather like his celebrated predecessor, ran foul of the High Court’s limitations on his power.

CCA Stationery Limited had a pension scheme which was invested in AF80 policies issued by Legal & General in the 1970s and 1980s. Like many policies of this kind issued during this period, the AF80 provided for contractual annual increments to the sum assured, together with discretionary bonuses. The trustees of the CCA scheme chose to discontinue (i.e. surrender) the policies, and Legal & General was compelled by the policy to pay out the cash in the fund. The policy stated that the cash sum would he “calculated on the basis currently in use by [Legal & General] for this purpose.” In the event, Legal & General’s smoothing process resulted in a marked difference between the nominal value of the cash pool and the sum it was willing to pay on discontinuance.

Off to the Ombudsman!

CCA Stationery attempted to challenge the calculation before the Pensions Ombudsman. The Ombudsman found that the calculation of a surrender value was an administrative act and that there had bean maladministration by Legal & General. He determined that there should be a fresh calculation and ordered a report by an independent actuary.

Mr Justice Laddie, sitting in the High Court, had no truck with any of this. He said that the process by which Legal & General took into account factors bearing on its long term fund was not an administrative factor. He ruled that it was purely commercial and set aside the Ombudsman’s determination.

Outside the world of pensions, the Ombudsman most likely to be faced with a query on surrender values is the Financial Ombudsman Service (FOS). As a matter of policy, the FOS will refuse to investigate matters such as this, which relate to the commercial discretion of the life company (see DISP 3.3(ii)).

Reasonable expectations?

Whilst it is possible to challenge the surrender or transfer value of a life assurance policy in the courts, it is only possible to do so on contractual grounds, or perhaps on the basis that the policyholder’s reasonable expectations have been infringed. It is clear from the CCA Stationary case that the courts will not order a surrender value to be re-calculated on any other basis.

It might be very different if a provider itself were to terminate a policy. In such cases it would be the provider who breached the contract, not the policyholder, and one would expect such cases to resolve on a different basis much more favourable to the policyholder.