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And then there were three ...

Financial planning: in the first of a series in which an independent adviser discusses typical problems with investors, Roddy Kohn broaches the subject of family planning
Myra is a legal executive earning pounds 25,000 a year. She has just started living with Jack, a senior social worker earning pounds 24,000 a year. The couple live in Jack's one-bedroom flat, on which he has a pounds 46,000 variable-rate mortgage. The flat, bought in 1986, is probably worth about pounds 55,000. Jack has been paying into a with-profits endowment for 10 years.

The couple would like to start a family within the next year or two. Myra would like to take a year off with her child before returning to work. Both Myra and Jack feel their flat is too small and would like to buy a small house with a garden, probably paying about pounds 80,000-pounds 90,000. They need suitable mortgage advice.

They are also aware that the year in which Myra is not working may be hard on them financially and would like to mitigate this as far as possible. They have pounds 2,000 in a building society account and would be able to put aside a further pounds 350 a month until the baby arrives. They are relatively risk-averse.

Financial adviser's reply:

Jack and Myra need to decide which matters have priority in their planning, but in doing so they cannot afford to neglect any potential problem areas.

In addition, her employer does not operate a company pension scheme. He is, however, prepared to pay a contribution equal to 5 per cent of her salary into a personal pension of her choice. If she dies before she reaches retirement, there are no extra employer benefits, and as the couple wants children in the near future, this is a matter that must be addressed.

Right now Myra and Jack are most concerned with their house move. My advice should ensure a balance between their immediate needs and those of two to three years' time. This planning is not set in stone so that as their circumstances change, their arrangements can be reviewed and changed as necessary.

As far as the house purchase is concerned, Myra and Jack should address several points:

1) choosing an interest-only (PEP, pension or endowment) mortgage or capital and interest (a repayment mortgage)

2) choosing insurance policies

3) choosing a fixed or variable interest rate

4) assessing the likely costs to be involved

5) assessing their job security

6) considering what would happen if they were the victims of an accident and could not work?

These issues aren't written in special order: they must all be addressed. It would be better that Jack and Myra lowered their sights rather than proceeded with liabilities that could not be met in various circumstances. On this basis my advice is as follows.

1) They should choose a two-year, fixed-rate mortgage with the Bradford & Bingley. This offers a competitive rate, at 4.75 per cent, and the prospect of a bonus if the society surrenders its mutual status.

2) They should keep to an interest-only mortgage. Under the terms of the fixed-rate deal this means they can't repay any capital until five years are up. If they do, they lose the advantage of the low rate in the first two years. This is a complete scam operated by most of the big building societies so borrowers have to live with it.

3) The couple should use Jack's existing endowment policy of pounds 46,000 and top up the rest of the mortgage with a PEP mortgage plan from Newton Fund Managers. Life cover for Myra will have to be pounds 90,000, as she has no existing policies. Also the PEP is split between them, helping to maintain Myra's financial independence.

4) Within the quote there is a provision for waiver of premium, which means the premiums under the policy will be paid if they are unable to work for six months or more. I've also included critical illness cover for both, at pounds 90,000, so that the mortgage can be paid off at once if they contract a life-threatening illness. This means they won't have the worry of mortgage payments and the healthy partner can work fewer hours to be at home with the sick partner.

5) Further provision should be made for redundancy. Rather than take out another policy, they should start setting aside pounds 200 per month until the child is born. This means there might be a cash sum of pounds 4,800 built up for emergencies. Any redundancy payments can be set aside until the mortgage repayment penalty period is over and used to reduce the debt.

The costs of the move can be met from their building society savings. These are likely to be: a survey fee (pounds 150);legal costs (pounds 750);mortgage indemnity (pounds 895); removal fee (pounds 500) and out-of-pocket expenses (pounds 100).

The couple must sit down and draw up a new monthly expenditure list. As they are planning to have children, they have to allow for extra heating expenses, plus items such as buildings insurance, which may cost more.

When costs are under control and the family is complete, they should take a closer look at their personal pension planning.