It's time to take care of tomorrow

She wants to start saving but rising mortgage payments will eat into her budget. An expert advises

Rachel Grant is 29 and works as an editor for a school books publisher.

Her salary is pounds 19,500, and her company also has a profit-related pay scheme.

She has a pounds 49,500 mortgage on a house bought 18 months ago for pounds 55,000, which costs her pounds 207 a month in interest and pounds 70 a month for an endowment policy.

She has no savings or investments but is a member of her company's pension scheme to which she contributes 5 per cent of her gross salary.

Rachel thinks it is about time she started saving properly - both for expenses over the next few years like home improvements as well as to ensure she ends up with a decent pension.

What should she do?

Rachel reckons that she has around pounds 100 a month spare to pursue her savings plans, which might seem like a comfortable amount.

But this might be over-optimistic. She is currently on a discounted mortgage rate that comes to an end in October.

From then on she is likely to be paying at least another pounds 65 a month in interest (the pounds 65 increase assumes the standard mortgage rate is still 7.25 per cent then - it may of course be higher).

These mortgage payments are covered for up to 12 months if she has an accident, is ill or loses her job by a payment protection plan, for which she pays pounds 20 a month.

But their impending increase means she might need to trim her savings budget. Realistically she has to make a choice between short- and long- term saving.

If she chooses short-term then a tax-free Tessa should be a prime consideration.

Many of these accounts will allow people to save small amounts regularly and will allow the equivalent of the after-tax interest to be withdrawn during a Tessa's five-year term without destroying the tax breaks.

There are some Tessas that will not penalise you that heavily if you need your cash back within five years (although in that case the interest will always be taxable).

However, if Rachel thinks it likely that she won't last the five years then a 90-day notice account or something similar might be a better bet.

That said, even though she is already a member of the company pension scheme, she may be tempted to use her planned savings to increase this retirement provision.

She says she would like to retire with the maximum pension possible. But she has accrued little value yet - she has only been with her current employer since late 1995 and she has no pension entitlements from previous jobs.

In each previous job she left before her contributions had achieved any value and so was forced to take a refund of contributions.

Projecting forward from her current position and assuming her salary increases in line with inflation, she is heading for a pension worth a little over pounds 10,000 in today's money.

There are two obvious ways of increasing this. One is to pay additional voluntary contributions (AVCs) either through your own company or to a separate pensions company. As with normal pension contributions you get tax relief on the money you put in.

Employer-run AVC schemes are normally cheaper than the freestanding versions sold by pensions companies (FSAVCs) but the latter can be carried from job to job.

In each case Rachel needs to look for a scheme that will allow her to stop, start and increase contributions with no penalties.

An alternative to an AVC is a personal equity plan.

While this does not offer upfront tax relief, income profits are tax- free and you can get at this money at any time.

Rachel has a relatively cautious investment outlook so a stock market tracker or even a corporate-bond Pep might be the most appropriate choice.

q Rachel Grant was talking to Phil Robbins, of Marston Court Independent Advisers, which is based in Coventry and is part of DBS Financial Management, a leading network of independent financial advisers.

If you would like to be considered for a financial makeover, write to Steve Lodge, Personal Finance Editor, Independent on Sunday, 1 Canada Square, Canary Wharf, London E14 5DL.

Please include details of your current financial situation and state why you think you need a financial makeover.