With-profits fund guides

If your policy is already invested in with-profits or it’s one that allows you to invest in or switch into a with-profits fund, this short video explains some of the key components and benefits of investing in the fund. 

A with-profits fund is a type of investment which pools all investors' money together. 

It’s classed as a low to medium risk fund and it offers the possibility of higher returns than you may get from an average savings account with a bank or building society. It aims to provide steady capital growth over the medium to long term by investing in a broad range of assets, that include, for example shares, property and government bonds, while smoothing out some of the fluctuations of investment markets. 

Broadly speaking, there are two types of with-profits policies: conventional and unitised policies. You can tell which type you have from your annual statement, by whether it does or doesn’t mention units and show the unit value of your fund. 

In this video, we’re going to focus on the group known as ‘unitised’ which tend to be more modern with-profits policies.

To understand how with-profits works, we’ll look at the key components:

o Regular Bonuses:

● For the majority of our policies, when (and if) a regular bonus is added, this will increase the value of the units held on a daily basis, increasing the value of the investment over the course of the calendar year. There are also some policies that have the regular bonus applied by adding units once a year.

o Final Bonuses:

● When customers move money out of with-profits, for example when an investment matures; when switching into a different type of investment fund; or (for pension policies) when retirement benefits are taken - any share of the return made by the fund not already added as a regular bonus would be added to the policy’s fund value, as a final bonus. 

How does smoothing work? Unlike a typical investment fund, which can fluctuate in value on a daily basis in response to market performance, a with-profits fund uses a process called smoothing to help manage returns and the value of the investment.

o Smoothing:

● One of the main features of a with-profits investment is that it aims to grow in value ‘smoothly’ from year to year rather than being affected by significant ups and downs in investment markets. Over time, the value of the assets will rise and fall and we even out these variations in performance through changes to the bonus rates that apply. This is known as smoothing, as illustrated in this example:

● the purple line shows how the unsmoothed value of the fund changes as the value of the assets go up and down. 

● the green line shows how we even out the variations in performance by smoothing the bonus rates that apply, and typically we do this twice a year. 

● We may need to introduce something called a Market Value Reduction in certain circumstances when a customer moves their money out of with-profits, for example, following a sudden large or prolonged fall in investment markets.

● A Market Value Reduction is applied to protect those customers that remain invested in the fund. (This can mean that if money is moved out of with-profits when an MVR is in place it will reduce the value of the customer’s policy and they could get back less than they’d invested).

Here’s an example to help illustrate when we might need to apply a market value reduction:  

If there are three customers in a fund who each invest £10,000, the total fund is worth £30,000. 

If investment markets fall by 20% and the total fund value drops to £24,000, this would mean that if one investor withdraws their original £10,000 without a Market Value Reduction in place, it would leave only £14,000 to be shared between the remaining two investors. 

In this example, the Market Value Reduction would mean that the investor wanting to withdraw their investment would receive £8,000, leaving £16,000 to be shared between the other two investors.

● A Market Value Reduction is not applied on death or where specific guarantees apply. 

● For example, certain pensions have a ‘MVR Free Guarantee’ so that the MVR doesn’t apply on a customer’s selected retirement date. 

How does an ‘MVR Free Guarantee’ at retirement work?  We’ll use the scenario of two customers investing in a pension policy over the medium to long term, so roughly 15 – 25 years: one chooses to invest a single payment into a With-Profits Fund, the other, invests the same amount into a typical investment fund.

In this example, the policy invested in with-profits has a guaranteed pay-out amount – this is the number of units held x [times] the unit price. Remember, the price of these units doesn’t go down, and at retirement, a final bonus may also be added to the fund value.

The pension invested in the other type of investment fund has no guaranteed pay-out amount. Its fund value is the number of units held x [times] the unit price, meaning what the pension is worth depends on the price of the units – and its value can go down as well as up from one day to the next. 

If, as both customers reach their selected retirement age, there was a significant or prolonged stock market fall, both pensions would be affected, but to differing degrees.

While the final bonus might be reduced, or even removed entirely, the policy invested in with-profits would have an element of protection from the ‘MVR free guarantee’. In contrast, the policy invested in the other investment fund would experience the full impact of the fall because its unit price would have gone down. 

The ‘MVR free guarantee’ is paid for through the charges that apply to the with-profits fund – which may mean the charges are higher than those that apply to other investment funds. 

● As MVR free guarantees are valuable, we’d always recommended seeking financial advice before withdrawing, switching, or surrendering any with-profits benefits. You can find out more about this in the ‘What are the guarantees?’ section of our With-Profits Summaries which can be found at aviva.co.uk/ppfm

● We have a number of with-profits “sub-funds” and although they’re generally no longer available for new investments, it’s still possible, for new and existing members of some pension schemes to invest a single amount or regular contributions into with-profits or to switch in from other investment funds.

In this final section, we’ll look at with-profits bonus reviews. 

We review our with profits funds at least twice a year to see how they have performed in comparison to the current bonus rates that apply. The purpose of each review is to set new regular bonus rates, final bonus rates and to adjust the estate distributions that apply where necessary. 

Our regular bonus rates are generally updated at an ‘end of year’ review, while final bonus rates may be updated at Mid-Year as well. Our bonus rates are not guaranteed so they can be increased or decreased depending on how well the fund has performed. In times of market uncertainty, it might also be necessary to have additional reviews. 

That’s it, thank you for watching…. and for taking the time to learn more about our with-profits funds. 

The graphs and illustrations we’ve are not intended to and do not represent the actual performance of a specific with-profits fund, but hopefully, the video has added to your understanding and may help you to make informed decisions about your investment options. 

This video isn’t intended to provide financial advice. For that, the best person to speak to is your FCA regulated financial adviser. If you don’t already have a financial adviser, you can find details at moneyhelper.org.uk/choosing-a-financial-adviser. Remember, an adviser may charge for their services.