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What are Friendly Societies?
Friendly Societies are now mainly involved in life and other insurance, and their business is indistinguishable in nature from that of insurance companies. Some have a large number of small customers, reflecting their origins in the idea that the "poor could co-operate to make provision for times of hardship."
They offer a range of savings options, usually funded on either a monthly or annual basis and running for a 10-year term. Friendly Society funds have a special tax-free status, but the maximum contribution level is either £25 per month or £270 per year.
The History of Friendly Societies
Friendly Societies originally started as "self-help groups" a couple of hundred years ago, often meeting in pubs and other public places, and developed as a movement dedicated to helping poorer, ordinary people safeguard their future through the offering of death and sickness benefits and insurance protection. By 1945, friendly societies had 14 million members who belonged to a network of 18,000 societies and branches. But after the introduction of the Welfare State in 1948 the numbers dropped sharply.
Friendly Societies now offer a complete range of ISAs, unit trusts, insurance, credit and loans and pension management as well as continuing to provide general insurance. There are now around 5 million friendly society members in Britain.
How do they sell their products?
If you have ever had an Independent Financial Advisor call on you after you have recently had a baby, you will know that IFAs seem to love Friendly Society products. They say that it is because of the tax advantages they offer, but I think there is another agenda here -- the IFA is paid a nice little commission on each sale he or she makes (unless it's one of the marginally more Foolish fee-based flavour of IFA). Selling investments for children to new parents who want to provide for their children must be one of the easiest sales to make, and every little bit of extra commission that an IFA can make helps to provide a better life for their children! Some Friendly Societies also sell their products direct to the public through well-funded advertising in newspapers and magazines.
UnFriendly products for Children
Friendly society "baby bonds" aim to give exposure to equity investment through a fund, and provide tax-free growth and payouts. You can choose between a with-profits plan and a unit-linked plan that you take out for a minimum term, usually ten years. You are only allowed to invest a maximum of £270 a year or £25 a month to keep within tax limits. There is a maximum age limit of 16 for these baby bonds, and most will provide limited life insurance cover for children over 10 years old.
The Baby Bond is an endowment policy
These products are endowment policies, being sold to people who often do not really realise what they are being sold. After everything that the Fool has said, woudl you buy an endowment? No, of course you wouldn't. So why would you want to buy an endowment for your children?
As these are endowments, they suffer from all of the problems associated with endowments. They have high charges and are inflexible; in the first year you can expect to pay at least half your premiums in set-up charges, and in the early years you'll probably get back significantly less than you paid in premiums if you have to cash the policy in. In almost all cases, if you were to invest the money in a children's building society account, even if you had to pay tax on the interest, you would get a much better return!
What are the charges?
One of the best-selling products from a Friendly Society is the Baby Bond offered by Tunbridge Wells Equitable Friendly Society. As part of the research that I was conducting for this article I called them this morning to ask what the charges were for the Baby Bond. I told them that I had searched their website and could only find this reference: Question: Are there any charges? Answer: Yes. Like most other savings plans Baby Bond must cover the provider's administration costs and pay for the skill of its advisers, which, of course, is not really very helpful. The lady I spoke to told me that the only charges on the "with profit bond" was 80p per month administration charge.
Really? Was she sure about that? Yes, she replied. I said that I was amazed. She then said that all other costs were paid by the fund. Err, mmm, what does that mean? She then explained that it was quite complicated, and I should ask an IFA. I asked about commissions to IFAs and she said that they did pay them, but could not tell me what the rates were. It is clear that the 80p a month is not the only charge applied to this fund, but even if it was, as the maximum you can pay into the fund each year is £25 a month, this represents a 3.2% administration charge a year, without any of the other costs being taken into account! Ouch!
In fact, if you had invested £25 a month in the Tunbridge Wells Baby Bond product over 10 years you would pay a total of £1,980 in charges. Let's do a quick calculation. £25 a month x 12 months of the year x 10 years equals £3,000. So £1,980 in charges deducted means 66% of the contributions over 10 years go up in smoke! Ouch, ouch and ouch again! That really is scandalous!
So much for being "Friendly"!
I hope that having read through this, all Fools will now be much more wary about using so called Friendly Societies for their investments. In particular, beware the investments that are targeted at extracting money out of parents and grandparents for children where the products offered are distinctly unfriendly!
Where Next?
• Fool's Guide to Investing for Children
• Investing for Children discussion board
• Why not place an advance order for the next Fool Book "Make your child a millionaire" due to be published at the end of September?