In last week’s article, we looked at how an endowment works as an investment product. In this week’s article we will weigh up the advantages and disadvantages of endowments to ensure you make an informed decision as an investor when deciding whether the product suits your investment needs and goals.
Advantages
- Endowments encourage longer term saving goals: Considering that there are limits placed on how much the investor can withdraw from the product within the first five years, investors are encouraged to use this product to save towards longer term investment goals such as saving towards your child’s educational costs or even a holiday.
- Endowments are highly regulated products: Investors can be assured that the investment funds they place in an endowment is being held to strict standards of transparency and accountability. The Financial Services Conduct Authority (FSCA) oversees the industry and ensures that endowments are being sold ethically and with the best interests of investors in mind.
- Endowments provide liquidity to beneficiaries in the event of the policy holder’s death: Policy holders can elect to have a beneficiary to whom the product can be paid out, should the policy holder pass away before the maturity date of the endowment product is reached. The beneficiary of the endowment would therefore not have to wait for the estate to be wound up before they can get access to the funds in the policy which can often take years.
- Endowments can be used to save on executor fees: Since the endowment has a beneficiary elected the executor does not have to administrate this pay out and the value of the policy is therefore excluded when executor fees are calculated.
- There are some tax advantages associate with endowments: Investors with a marginal tax rate of above 30% can take advantage of the flat income tax rate of 30% levied in the endowment product. Since the insurer administrating the product pays the tax on the investor’s behalf it is also less of a burden to investors since it does not have to be included in their personal annual tax return.
- Flexible investment vehicles: Endowments can be customised to meet the unique needs of each investor. Investors can choose the length of the investment period, the level of risk they are comfortable with, and the amount of the premiums they wish to invest. This flexibility means that endowments can be tailored to meet the specific financial goals of each individual investor.
- Offshore wrappers: These products work according to the same rules and principals as local endowments with an additional benefit. When capital gains tax payable is calculated it is done in the foreign currency meaning that no conversion is made to determine the tax payable in rand terms. This is beneficial considering that the rand has been depreciating against most major currencies over the long term which mean that your offshore investment in rand terms are worth more, therefore should the tax be calculated in rands you would be paying more tax.
Disadvantages
- High fees associated with these policies: Endowments typically have higher fees than other investment vehicles, such as unit trusts or mutual funds. These fees can eat into the returns of the investment, reducing the overall profitability of the policy.
- Lack of liquidity: Endowments are long-term investments, and as such, investors must commit to the policy for the entire investment period which is at least five years. This means that the funds cannot be accessed before the maturity date, which can be a disadvantage for investors who need more immediate access to their funds.
- Endowment polices are not renewable: Some people use an endowment policy as a life policy considering that it does have a death benefit attached to it which can be paid out to beneficiaries soon after the policy owner has passed away. When the policy does reach its maturity date, and the investor will no longer have this death benefit in place for their beneficiaries and a new life policy or endowment will have to be taken out. A new policy will however require new underwriting to take place which will be affected by the age and health of the investor which would likely have deteriorated since taking out the original endowment.
It is clear that an endowment policy can be a very useful investment vehicle for some investors who need to save towards a specific longer-term goal, but it is important to understand how it works and what other considerations must be made before investing in this product.
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