Forget endowments... retired investors need more flexibility

Financial Makeover

Occupation: BOTH RETIRED


Tom and Janice are in quite a nice position. Tom took early retirement from the Civil Service and has a pension while Janice has retired early from working at an accountancy practice. They have a joint pension income of £23,000 which is more than ample for their relatively modest lifestyle. They are not actually seeking advice about their own situation but about how to invest £200 per month on behalf of a grandchild, Harriet, who is aged 18 months. This is a common request and many people like Tom and Janice have looked into the matter and become confused.

The advisor: Tim Cockerill is the managing director at Whitechurch Securities, independent financial advisors based in Bristol. Tel: 0117 944-2266

The advice: Tom and Janice, after various inquiries, had thought an endowment policy savings plan would be best and have asked whether or not a trust should be formed for the benefit of Harriet.

First, I would throw the endowment savings plan idea out of the window. Why? Endowment savings are inflexible and carry a life insurance which is not needed. Also, on the whole, they are expensive. Add to this that endowment policies give you little investment choice and I can see no reason for the Hayworths to take one out.

Setting up a trust via a solicitor is not needed in this case, perhaps if Harriet was to inherit a large sum of money which needed proper management a trust would be in order, with the appointment of trustees to oversee the investment management decisions. With £200 a month this is just not needed.

Tom and Janice were also concerned that there may be a tax implication in making regular contributions on Harriet's behalf. Again, I am pleased to say this is very straightforward and there are no tax implications (£200 per month is £2,400 per annum which falls within the gift allowance). Furthermore there is a ruling which says you can give away money if it has no material bearing on your standard of living. Tom and Janice have decided they can comfortably afford £200 per month so this would apply, although I have to say it is quite an obscure ruling which is seldom applied.

Having thrown both the endowment policy and separate trust ideas out of the window, my recommendations are to keep this matter simple by investing the £200 per month into four investment trusts. This can be done via savings plan schemes and offers lots of advantages.

First, by selecting four investment trusts the £200 will be well spread. Diversification is one of the first rules of investing. They are also extremely flexible, the amount contributed can be increased, decreased (to within the minimum limit), or stopped altogether with no penalty. If an endowment policy were to be stopped and cashed in early the penalties can be quite heavy. Obviously selecting investment trusts does mean taking a greater degree of risk, but Harriet is only 18 months' old and Tom and Janice have said that the money is not going to be handed over until she is in higher education, therefore, the investment has got 16 years in which to perform. The higher risk aspect of investment trusts means that they are more volatile but this, in turn, suits regular saving. When the share price of an investment trust falls, you purchase more shares in that trust. This aspect of regular saving, known as pound-cost averaging, works extremely well. The range of investment trusts available is very large and this means four trusts can be selected to compliment one another.

Here are some options: Henderson Technology is a higher risk investment which will be volatile at times. However, the long-term potential for this trust is enormous. Major restructuring in economies worldwide is happening because of technology, and the amount of investment that is going into technology is immense. Those companies at the forefront of developments will do very well.

The second trust, another high risk one, is the Templeton Emerging Markets. Emerging Markets encompasses South America, Central America, the Far East, some parts of Africa and Eastern Europe. The long-term potential for these economies to grow is considerable and they are likely to grow more quickly than the mature Western economies.

Having selected two higher risk investment trusts I would then tone the next two selections down. TR City of London, a long-established trust with a very good record. Finally, I would select Merchants, another long- established trust with a very good record. Together these four make a very nice, balanced, little portfolio.

In order to hold these investments in trust, it is simply a case of registering the holding with an account designation. In other words, the trusts are registered as "Tom and Janice Hayworth, A/C Harriet". It's that easy.

Any income generated through the investment trusts will belong to Harriet, and she can offset this against her personal allowances. To simplify matters, a form can be obtained from the Inland Revenue to allow for the reclaim of any tax credits which are due because Harriet will not be a taxpayer. These may be relatively small amounts of money, but over 16 years, as the regular savings accumulate and the trusts grow in value, this could turn into something worth having.

One final technical note with regards the investment trusts is that more often than not they trade at a discount, which means their underlying assets are worth more than the total value of the shares which can make them all the more attractive compared with unit trusts. I would say, at this point, that if we were looking at lump-sum investments then I would consider unit trusts because they are less volatile.

Although Tom and Janice did not require any advice on their own circumstances, I am aware that they have £25,000 in the building society which is only earning 2.5 per cent net. I would seriously think about switching it to the Leeds & Holbeck building society which is currently paying 3.88 per cent net.

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