Reductions which have taken place so far on with-profits policies
Since 20 July 2000, our decisions on bonuses have been particularly affected by:

• the falling value of investments in stocks and shares;
• the cost of guaranteed annuity rates (GARs); and
• increases in the money we set aside for potential claims for compensation.

Following the House of Lords’ decision in July 2000, we had to reduce the value of with-profits policies. We did this, other than for with-profits annuities, by reducing the policy value by 5% at that time. We made significant further reductions in July 2001, April 2002 and July 2002. This means, allowing for bonuses, our other with-profits policyholders have suffered an overall reduction of about 20%.

So far we have largely protected you from these falls. In fact, you and other with-profits annuitants have generally received a positive investment return of about 14% over the same period.

As we have said, most other with-profits policyholders have suffered significant reductions in the value of their policies, whereas those who have with-profits annuities have not. We were able to do this because if you have a with-profits annuity, you cannot withdraw your funds. It was possible for us to phase the cuts to with-profits annuities in the hope of improved financial conditions. Unfortunately, because conditions have not improved we can no longer keep doing this.

This basically means that with-profits annuities, like yours, are now out of line by about 30%.

Action we need to take now
We now need to bring with-profits annuities back into line with other policyholders and we plan to do this over two years. We will be putting in place the following changes.

We also review the amount of your income payments each year at the anniversary of the date your with-profits annuity policy started. That review reflects the gap between the expected bonus rate you chose and the bonus rate which applies. This then sets the level of income payments you will receive for the following year. The reductions quoted above will apply to the amount of annuity after this review.

We would like to emphasise that you will not receive less than the guaranteed payments under the annuity (known as the ‘basic annuity’ and ‘declared bonus annuity’) and this may reduce the effect of these reductions.

We have enclosed:

	a leaflet that includes details of how your with-profits annuity policy works (PDF FILE);		http://www.adobe.com/products/acrobat/readstep.html (This download will take approximately 3mins based on a 56k download speed).
	some examples of the effect of these changes; and
	other questions and answers you may find useful.

Why do we need to change now?
We originally decided to spread the reductions over the term of with-profits annuity policies because we hoped that poor investment conditions would recover reasonably quickly. However, we are now in one of the longest periods of poor stock-market performance for many years. And, like most other companies, we have suffered heavy investment losses. We have reduced our investments in stocks and shares to very low levels in order to secure and stabilise the with-profits fund. Unfortunately, because of our circumstances now – highlighted in the Interim Report that you should have received – we can no longer afford to phase these reductions in.

Summary
I am very sorry that we have had to take this decision. We carried out a great deal of work to look for alternatives that would avoid reducing incomes in this way. We had hoped to continue to reduce your income in a phased way over the term of your annuity. However, our changing circumstances and the growing gap between with-profits annuities and other policies meant that it would have been very unfair to other policyholders to continue to act in this way. We must balance the interests of all continuing policyholders and it is no longer fair to delay the reduction in values that our other policyholders have recently suffered.

Because we cannot set final bonuses in advance, it is not possible to provide individual calculations before the anniversary date. However, I hope that the details set out above, together with the enclosures with this letter, will give you a reasonably clear idea of how much the reduction in your income next year will be. You will, of course, receive a statement at your anniversary date in the usual way.

Yours sincerely

Charles Thomson
Chief Executive