Chapter 9 · Other Financial Products

Retirement income vehicle. Contributions made during working life (typically tax-advantaged) build a fund that provides income after retirement. The compounding advantage over decades is significant.

Government-provided retirement income. Funded on a PAY-AS-YOU-GO basis — current workers' contributions fund current retirees. Creates demographic risk as populations age.

UK: National Insurance contributions over a working life qualify the recipient.

Promises a SPECIFIED retirement income — typically a formula based on final salary or career-average earnings × years of service. The EMPLOYER bears the investment + longevity risk.

Historically dominant in UK / Europe / US private sector — now largely closed to new accrual due to longevity + investment risk. Public-sector DB schemes remain common.

Defines the CONTRIBUTIONS going in (typically a % of salary). Retirement outcome depends on contributions + investment returns. The MEMBER bears the investment + longevity risk.

Now the dominant private-sector model in most developed markets. UK auto-enrolment uses DC.

Requires employers to AUTOMATICALLY enrol eligible employees into a workplace pension. Eligible: aged 22 to state pension age, earning above ~£10k. Total minimum contribution: 8% (3% employer + 5% employee including tax relief).

Rolled out 2012–2018. Hugely increased pension participation by flipping the default from opt-in to opt-out.

Arranged individually (rather than via employer). Typically a DC plan with tax-advantaged contributions, investment choice, and regulator oversight.

UK: SIPPs (Self-Invested Personal Pensions) allow wide investment choice. US: IRAs (Traditional or Roth).

Both have annual IRS contribution limits. Roth is particularly valuable for younger investors expecting higher future tax rates.

Most jurisdictions use an EET (Exempt–Exempt–Taxed) pension tax pattern:

1. Exempt — contributions get tax relief
2. Exempt — growth within the pension is tax-free
3. Taxed — income drawn in retirement is taxed (partially)

UK: tax-free contributions (subject to annual allowance ~£60k), tax-free growth, taxed pension income (with a 25% tax-free lump sum at retirement).

Annuity: converts pension lump sum into a GUARANTEED lifetime income. Insurer bears investment + longevity risk. Rates track long-dated gilt yields.

Drawdown: keep the pension fund INVESTED, withdraw income + lump sums flexibly. Retiree keeps investment + longevity risk. UK pension freedoms (2015) made drawdown dominant.

Short-term flexible borrowing on a current account. Agreed = pre-arranged limit. Unauthorised = beyond limit (much more expensive). Typically high interest rates (15–40% APR). Easy access but costly — generally used for short-term cashflow gaps.

Revolving credit up to a limit. Interest-FREE if the FULL balance is repaid each month (typical grace period 30–50 days). Otherwise typical APR 20–30%+ on rolled balances.

Textbook "bad debt" if used long-term. Fine as a payment tool if paid in full monthly.

Fixed amount, fixed term (1–7 years), fixed monthly instalments, fixed or variable rate. Unsecured → higher rate than mortgages, cheaper than overdrafts / credit cards. UK typical: 5–15% APR.

The QUOTED (nominal) rate may not reflect compounding within the year. The APR (Annual Percentage Rate) annualises the actual cost INCLUDING compounding + most mandatory fees.

Example: a 24% nominal rate compounded monthly = ~26.8% effective APR. Regulator requires APR disclosure so borrowers can compare across products.

Good debt: borrowing for ASSETS likely to appreciate or generate income (a mortgage on a home, student loan for career-boosting education), at LOW rates.

Bad debt: borrowing for depreciating / consumable purchases (credit-card impulse buys, holidays) at HIGH rates.

Not a moral judgement — the question is whether the borrowing supports long-term wealth.

A loan SECURED against a property — typically used to purchase a home. If the borrower defaults, the lender may repossess and sell to recover the debt.

The secured nature is WHY mortgage rates are much lower than unsecured credit.

LTV = Loan ÷ Property value.

Example: £200k mortgage on £250k property = 80% LTV.

Lower LTV (more borrower equity) = lower risk for lender → lower rate. High LTV (e.g. 95%) = riskier, more expensive. Regulators cap LTV/LTI in some jurisdictions during property bubbles.

Repayment (capital & interest): each monthly payment covers some interest + some principal. Over the term the entire loan is paid down. Borrower owns the property free at end of term.

Interest-only: each payment covers ONLY interest. The principal is repaid as a single LUMP SUM at end of term — requires a separate repayment plan (savings, endowment, sale of property). Common in buy-to-let.

Links the mortgage with the borrower's SAVINGS / current account balances. Savings "offset" the mortgage balance for interest calculation. Savings remain accessible.

Example: £100k mortgage + £20k savings → interest is charged on net £80k. Trade-off: savings don't earn separate interest, but the mortgage-interest saving is typically larger (especially at higher tax rates).

Active re-mortgagers usually beat the SVR. Lenders count on inertia.

Under Islamic (Sharia) finance principles, charging / receiving INTEREST ("riba") is PROHIBITED. Alternative structures achieve economic outcomes without interest.

• Murabaha — cost-plus sale. Bank buys asset, resells to customer at marked-up price paid in instalments.
• Ijara — Islamic LEASE. Bank purchases property + leases to customer, who pays rent. Customer may buy in stages.
• Musharaka — partnership / joint venture. Bank + customer share profit (and loss) proportionally.
• Sukuk — Islamic BONDS backed by an underlying asset rather than a coupon obligation.

Major hubs: Malaysia, GCC (UAE, Saudi, Bahrain).

Pays a lump sum (or income) ONLY if the insured DIES during a specified term. Pure protection — no investment value if the insured survives the term. Cheap.

Typical use: mortgage protection, family income cover during dependants' minor years.

Covers the insured's ENTIRE lifetime — will eventually pay out, so premiums are higher than term. May include an investment / cash value element.

Often used for inheritance-tax planning — sum assured written into trust to fund IHT liability.

Pays a tax-free LUMP SUM on DIAGNOSIS of a specified serious illness (cancer, heart attack, stroke, MS). Often bought alongside life insurance and used to clear a mortgage or fund treatment. Covered conditions are policy-specific.

Pays a regular INCOME if the insured is unable to work due to illness or injury. Typically replaces 50–70% of pre-disability income (to preserve incentive to return to work). After a deferred period (waiting time before payouts).

Critical for the self-employed / single-income households.

Covers MORTGAGE PAYMENTS if the borrower cannot work due to illness, accident, or (sometimes) unemployment. Typically for a limited period (12–24 months).

Historical footnote: PPI was the subject of a massive UK mis-selling scandal (2011–2019). ~£40bn+ refunded to consumers.

Buildings: damage to the structure (fire, flood, subsidence). Usually a mortgage-lender requirement.

Contents: theft, accidental damage to movable items.

Often bundled. Excesses (the amount the policyholder pays first on a claim) apply.

Covers long-term residential / nursing-home / at-home care for the elderly or those unable to perform "activities of daily living" (bathing, dressing, eating).

Ageing-society product. UK care costs rise sharply with no national cap (proposals continually deferred). LTC insurance market has shrunk; many alternative funding routes (immediate-needs annuities, equity release).