Annual bonus rates on the with-profit investment policies sold by life assurance companies will be cut by 0.5-1.5 per cent for the current year, according to industry sources.

Investors are expected to be informed of their annual bonus rates for 2002 in coming weeks by most of the companies offering with-profit investment products.

The annual bonus is added to each policyholder's savings fund to build up the return on their investment. Because equity markets have fallen for two years in a row, a reduction in bonus rates was expected. The fall in equity markets has reduced investment returns generated by life assurers on customers' funds, which in turn is causing the expected reduction in annual bonus rates.

With-profit products are usually attractive to cautious investors in volatile markets because returns are smoothed out over the life of the policy. The return on with-profit policies comes from a combination of annual bonuses and a final bonus on maturity.

While Irish Life, which came back into the with-profits market last year, said it would maintain its 6 per cent annual bonus rate in 2002, Hibernian and Friends First confirmed their annual bonus rate would be cut. Market sources said Friends First was expected to reduce its rate to 5.25 per cent from the 2001 rate of 6 per cent. The company said it was "close to finalising" its 2002 rate.

Hibernian, one of the long-standing players in the with-profits market, said it would not comment on its 2002 annual bonus rate in advance of declaring the rate next week. But the spokesman said there was downward pressure on rates given the performance of equity markets in 2001.

Scottish Provident said it would declare its 2002 bonus rate in March or April, refusing to comment on whether it would cut its rate from the 2001 level of 5 per cent.

In a positive move for investors, Friends First confirmed that it had removed the 10 per cent market value adjustment (MVA) or exit penalty for early encashment imposed last year on unitised regular premium with-profit policies and reduced MVAs on some lump sum policies. Friends said the MVA was imposed in September 2001 to protect investors in the funds. Its actuary has allowed its removal from this month because of improvement in market conditions.

In the UK, Scottish Widows - which has more than one million with-profit bond and endowment policy customers - is expected to announce reductions in bonuses of up to 33 per cent on some policies, reflecting the 16 per cent fall in the FTSE Index in 2001.