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Spend & Save

Money Makeover: If you have cash, it's best to spread it around

Name: Luanne Reed

Age: 25

Occupation: Sales and marketing manager for a fashion company.

The problem: Luanne, who is single and has no dependents, earns pounds 20,000 and has hopes of future salary increases with her company. She has pounds 22,000 in a Barclays Bank High Interest Account, pounds 14,000 of which she recently inherited.

She expects to buy a flat although she does not know how much money she will need for this. She might let a room out to a lodger. Luanne does not wish to commit all her capital on the purchase and would like have some funds left to invest for the longer term.

Her employment contract entitles Luanne to sick pay cover of 10 days a year. She is not eligible to join her company pension scheme as it is only available to directors in the firm, but believes she is in a position to make contributions of pounds 150 per month into a scheme.

The adviser: Edward Creasey, client manager at Clark Conway, independent financial advisers, 26 Durham Road, London SW20 0TW (0181-241 1000).

The advice: Flexibility is the key to any advice in this case and therefore I would suggest a split of her capital in the following way.

I would recommend keeping pounds 10,000 in a postal account due to the generally higher rates of return these offer over normal bank and building society accounts. One point worth noting is the relatively little difference in interest rates for 30- day, 90-day and instant access accounts of this type. On this basis, an instant access postal account would seem most appropriate.

When the ideal property is found, capital would then be accessible. The most competitive account at present is offered by Coventry Building Society, which pays 7.10 per cent gross on deposits.

There are one or two accounts offering slightly higher rates but they require a higher balance to be maintained which may not suit Luanne.

I would advise that pounds 9,000 of Luanne's capital is invested for the medium to long term in tax-efficient investments such as Tessas and PEPs. We need to keep in mind that PEPs and Tessas will be subject to changes in 1999.

Both products will be transferable into Individual Savings Accounts (ISAs), subject to a pounds 50,000 top limit.

At present the stock market remains volatile so I would suggest looking at a PEP with a "phasing-in" option. This type of PEP has the ability to spread the investment of pounds 6,000 over a six-month period, so avoiding the commitment of the capital to the market at an inopportune moment.

Fidelity is one company which offers this option along with a wide range of good performing funds. I would recommend that she also considers a Tessa. One of the top interest-paying providers is Principality Building Society, with a rate of 7.65 per cent paid gross providing the investment is left for a full five years. As an alternative, Luanne could consider a fixed interest rate Tessa. One of the best rates available is offered by Birmingham Midshires at 7.05 per cent.

The remaining balance of her capital can be kept in an instant-access account for immediate day-to-day use.

As well as considering Luanne's capital position, thought also needs to be given to protecting her income now and when she retires. She should consider the merits of critical illness and income protection policies. She is young and healthy so the cover should be relatively cheap.

There is often confusion over the differences between critical illness (CI) cover, which pays out a lump sum on the diagnosis of one of a list of critical conditions, including strokes, cancer and heart attacks, and permanent health insurance (PHI), which provides a regular income in the event of ongoing ill health, probably a more pressing need at present.

There is a wide choice of companies offering cover. Care should be taken when choosing a provider as terms and premium conditions vary considerably.

If Luanne is unable to join her company pension scheme for some time, I would recommend a personal pension plan is started sooner rather than later. Delaying the start of a pension can have a substantial negative effect on the benefits received in retirement.

Any contribution she makes would benefit from tax relief at her marginal rate, currently 23 per cent, which means that for every pounds 77 she pays in, the taxman will add a further pounds 23 to her pension.

The Government has indicated that it will soon be announcing details of its new stakeholder pension and Luanne may wish to wait for these developments before committing herself. Whenever she decides to start a pension, I believe she should include waiver of premium benefit in her contract, whereby pension premiums are paid by the insurer in the event she is unable to work due to ill health.

Luanne should look to increase her pension contributions each year in line with inflation, if funds allow. She should also make a will. Even though she is single and has no immediate dependents, a will is the best way of ensuring her wishes are met.

As a final thought, Luanne mentioned the possibility that if she buys a house she may wish to let out one of the rooms.

Let's hope next March's Budget does not change rent-a-room allowances, which allow someone in her position to receive an annual income of up to pounds 4,250 a year tax free.

Such an income can often be the deciding factor when purchasing a first property.