Be careful before investing in a life assurance product that gives you access to offshore investment funds, because the funds you choose may be more risky than you think.
An offshore endowment policy is one way to invest a reasonably large amount (typically, about R300 000 or more) offshore. These policies, which are offered by the major life companies through their offshore operations, have a number of advantages compared with investing offshore directly (see "Advantages of offshore endowments", below).
However, you should have your wits about you if go into such an investment. The policies access a large range of foreign investments, many of which fall outside the ambit of the local regulator, the Financial Services Board (FSB).
Offshore collective investment schemes (unit trust funds and exchange traded funds) that have been approved by the FSB to be marketed in South Africa must comply with the FSB’s strict criteria regarding what they can invest in and how the scheme is governed. With non-FSB-approved schemes, on the other hand, there is no such oversight.
A recent ruling by the financial advice ombud, Noluntu Bam, highlights the dangers of buying an offshore endowment policy without appropriate advice (see Ombud rules in favour of pensioner).
The fact that the policies are sold by well-established, reputable companies may lead you to believe that the underlying investments chosen by you or your financial adviser are above board. However, if an underlying investment collapses, as happened with the investor in the case that came before the ombud, you may have recourse only against your adviser, if he or she did not alert you to the potential risks before you invested.
Old Mutual, Momentum and Sanlam, among others, have offshore operations and offer this type of product. The reason they can offer products with underlying investments that have not been approved by the FSB is that life assurance products are regulated by the Long Term Insurance Act, not the Collective Investment Schemes Control Act (see "FSB and the life companies", below).
In the case that came before the ombud, the endowment policy was offered in South Africa by African Harvest Life Assurance Company, which was later bought out by Sygnia. Trisha Jorge, the head of retail sales at Sygnia, says African Harvest did not market the policies; it “merely provided the savings wrappers, which facilitated access to an offshore [investment] platform offered by [United Kingdom-based assurer] Royal London with a range of unit trusts on offer.
“All the policy documents made it clear that the responsibility for the appropriateness of the fund selection rested with the client. African Harvest restricted the list of unit trusts available to those managed by reputable institutions. However, it did not restrict clients and their financial advisers in terms of the asset classes they wished to invest in,” Jorge says.
She says Sygnia no longer offers offshore endowment products. “After Sygnia bought African Harvest Life, the range of funds available was restricted to FSB-approved foreign unit trusts, and subsequently, in 2011, this product range was closed to new investors entirely. Sygnia does not offer offshore funds, other than FSB-approved funds, to retail investors on its platforms or through it wrappers,” she says.
Although they are not bound by local regulations on collective investment schemes, it is in the best interests of the life assurers that do offer these offshore policies to vet non-FSB-approved funds themselves.
Andrew Brotchie, the managing director of Glacier International, part of Sanlam, says a qualitative due diligence, led by the Glacier Research team, is undertaken when new funds are considered.
“The team seeks to ensure that we have a good understanding of the fund and how it is managed, as well as the potential risks. Funds selected by reputable fund research agencies are also considered, subject to the same criteria.”
Brotchie says an operational due diligence is also conducted to ensure that the fund can be efficiently traded. He says Glacier International offers about 240 funds. Of these, about 140 are FSB-approved.
Brotchie says the main reason for offering the non-FSB-approved funds is to provide wider investment choice.
“The FSB-approved funds tend to be offered predominantly by South African-based asset managers, often in conjunction with their local funds, and we feel that there are a large number of excellent offshore non-FSB-approved funds managed by very reputable, globally renowned asset management firms that can enhance the investment options for South African investors.” He says these funds tend to be disqualified by the FSB for technical, rather than quality, reasons.
“We [realise] that investors selecting these funds are not necessarily sophisticated, and we try to ensure that the funds are appropriate in terms of asset type and asset mixture, and are from fund managers with strong reputations and good track records. We also try to categorise the funds into groupings that South African investors would be familiar with, so that they can apply the same type of logic when considering them,” he says.
Brotchie says the fact sheets of all the funds are available for inspection, and Glacier “encourages advisers and investors to ask questions, both of us and of the fund management companies, if they are unsure of anything”.
FSB AND THE LIFE COMPANIES
The Financial Services Board (FSB) does not regulate assurance products; its supervision of life assurers is focused on prudence and market conduct, as opposed to products, Jo-Ann Ferreira, the head of the FSB’s insurance regulatory framework department, says.
Ferreira says no regulations or restrictions govern the underlying funds that an assurer may include in a linked investment policy, which is a policy where the benefits, such as the returns, are not guaranteed but are determined solely by the value of the assets specified in the policy. “The policyholder therefore carries the full investment risk related to the policy,” she says.
“The underlying investments are contractually agreed between the assurer and the policyholder. In other words, the policy contract sets out the particular assets or categories of assets according to the definition of linked policy in the Long Term Insurance Act.
“However, any advice provided to you when investing in an endowment policy is subject to the Financial Advisory and Intermediary Services Act,” Ferreira says.
She says the FSB will, however, shortly consult on amendments to the Policyholder Protection Rules under the Long Term Insurance Act, which will “significantly improve the product design, marketing, and disclosure requirements with which assurers must comply. These requirements, once enacted, will go a long way towards mitigating against the unfair treatment of policyholders.”
ADVANTAGES OF OFFSHORE ENDOWMENTS
• Investment choice: you can choose from hundreds of offshore investments.
• Tax: you don’t have to declare your returns to the taxman, because they are taxed in the hands of the life company. The rate is 30 percent, so you benefit only if your marginal tax rate is 30 percent or higher.
• Estate planning: you don’t need a separate will for your offshore assets. If you nominate a beneficiary, on your death the proceeds are paid directly to the beneficiary, and your estate does not pay executor’s fees on the proceeds.