From piggy banks to PEPs
Baffled about where to put your savings? Nic Cicutti offers some guidance
Wednesday 28 February 1996
Your starting point should be to define why you want to save money, the first stage in the process of deciding where it should go.
Roddy Kohn, an independent financial adviser at Bristol-based Kohn Cougar, says: "Many people who come to us already have a particular purpose in mind. For example, they may be keen on saving for a particular purpose, such as school fees for their children or university living expenses. Knowing where the money will go helps to focus their minds."
Key points to bear in mind include:
Most people need some funds in case of an emergency. It makes sense to stick a few hundred pounds in a bank or building society instant access account.
You should think about retirement planning. This becomes more important as you get older. The sooner you start, the less of your annual income you need to set aside towards your pension.
If you are buying a home or thinking about it, give some thought to whether you want a repayment mortgage or one where you pay interest and save money separately towards the loan. With mortgage interest rates mostly at 7.5 per cent, it may also make sense to divert a lump sum to help pay off a chunk of your home loan.
If you are setting money aside for a special reason, such as a car or a holiday, decide for how long you want to save. Some investments specify that you must leave your money alone for set periods of time.
Are you investing for some stage in the future, in which case you want your capital to grow, or do you need income? There are different investments to suit both needs.
The next question is: do you have a lump sum to invest? If not, are you prepared to save on a regular basis? Don't worry if the amount seems slight. Every little helps and, if invested long enough, can deliver surprisingly good returns.
You will then have to make a critical decision: how much risk are you prepared to accept with your investment?
Mr Kohn says: "Everyone's views are different. There are some people prepared to take a long-term view on Chinese economic performance, or emerging markets in Latin America. Others may not want to take any risks. Neither strategy is necessarily wrong.
"As a rough rule, my suggestion would be that the younger or wealthier you are, the easier it is to accept that some of your money should go into potentially riskier investments. Over the longer-term, say 10 or 15 years, it makes sense."
Generally, among higher-risk investments are unit or investment trusts, which can rise or fall depending on stockmarket performance. Some offer guarantees, blunting the potential upside.
Mid-risk investments include with-profit endowments from insurance companies. They try to "smooth" investment performance, guaranteeing small annual bonuses plus a terminal bonus at the end.
Low- and no-risk investments, albeit at the risk of lower returns, include most bank and building society savings accounts, plus certain index-linked government stocks. National Savings also guarantees its returns. Don't ignore any special insights you may have. Your specialist knowledge of a particular sector, such as the one you work in, can be highly useful.
Next, think of tax. Just as it makes no sense to base an investment decision on taxation alone, you shouldn't willingly hand over your money. Personal pensions enjoy highly favourable tax treatment. If you are in the 40 per cent tax band, for instance, for every pounds 100 you pay, the taxman gives you pounds 40 of that amount. The snag is that if you are young, you will have to wait a long time to benefit.
Personal equity plans (PEPs) and tax-exempt special savings schemes (Tessas) are both tax-effective, but generally at opposite ends of the risk spectrum, with PEPs riskier than Tessas.
One vital point to consider is fund performance. How does it compare with all the others in its sector? Who are the fund managers? Are they likely to stay? Don't imagine that excellent performance equates with top-five status. Consistent placings in the top quarter of funds every year in the past decade is an achievement.
Equally important is the financial well-being of the company you deal with. Will it be around for the remainder of your investing life?
Another factor to consider is flexibility. Can you suspend payments if you hit a rough spot? Is there access to your money in an emergency? Are there any penalties for taking your money out early? Also, what are the charges on the investment?
Finding the answer to these questions may take you time and trouble. Many savers prefer to entrust a professional with the job. Mr Kohn argues: "A good adviser can take a lot of the headache out of your decisions. I am responsible to my clients, though the final decision is theirs.
"If they tell me their needs, I do the work on their behalf. I'm not infallible, but it follows that someone experienced is likely to make less mistakes than a novice."
For details of an independent financial adviser near you, call 0117 971 1177.
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