Luke O'Mahony is keen to save up enough money for a deposit so he can get a foot on the first rung of the property ladder in the next few years. The 23-year-old has worked in marketing for the past 18 months, and currently earns about £21,000 a year plus bonus.
Originally from Oxford, Luke now rents a room in a shared flat with three friends near West Hampstead in north-west London. "I pay £615 a month in rent and am on an 18-month contract at this property," he says. "But I would hope to get a mortgage within the next five years."
Having worked all the way through university, Luke is in the fortunate position of having no debts. "My day-to-day costs are also pretty low as I cycle to work, so don't need to pay for a car, or for the Tube," he says.
Luke has been disciplined about building up his savings, and currently has £2,000 in an online account with HSBC.
"I normally put away between £200 and £300 each month, but as the rate is around 0.2 per cent, this is earning next to nothing," he says. "My current account is also with HSBC, and I try to keep between £500 and £1,000 here. I like the idea of having all my money with one bank to keep things simple, but know that this approach is losing me interest. I'm ready to move my money elsewhere to get a better return, but not sure where the best place would be."
Aside from these accounts, Luke has £1,000 saved with the Funding Circle, a social lending platform where savers lend money to small businesses. "I find this a really interesting way of saving, and like the fact you can choose the rate you want to lend at," he says. "This money is currently earning a rate of 9.3 per cent."
Looking to the longer term, Luke does not yet have a pension. "I'm always getting nagged to think about saving for retirement, but have no idea where to start," he says. He also has no protection policies in place.
Our panel of independent financial advisers (IFAs) agrees that Luke is in a good financial position. However, they say he also needs to think about saving for the longer term and protecting his income.
Saving for a deposit
As Luke has a fairly frugal lifestyle, he can afford to focus on his main goal – building up enough of a deposit to get a mortgaged property of his own in the next five years, says Nick Lincoln from Values to Vision Financial Planning.
"Five years is a short time in investment terms and means that Luke's savings will need to remain in low-risk cash or cash-like accounts," he says. "He simply can't afford to take any investment risk with this timescale, and needs to get his savings working hard for him, although this is not easy in the current environment."
Use your ISA allowance
Luke should move the £2,000 held in the HSBC online savings account into a cash individual savings account (ISA), says Danny Cox from Hargreaves Lansdown.
"The interest rate should be much higher than he is currently getting, and the interest will be tax free," he says. "Savers can now save up to a maximum of £5,340 into a cash ISA, but HSBC doesn't offer the best ISA rates, so Luke could shop around to find a better deal." For example, Santander is offering 3.3 per cent on an ISA which tracks the Bank of England base rate. "Santander offers this account online as well as in branches, so Luke should be able to continue to manage his financial affairs easily," says Mr Cox.
Going forward, Luke should continue to save into a cash ISA, but keep an eye on the rate of interest, and be prepared to transfer this to a different provider if the rate falls significantly on the first anniversary.
Mr Lincoln adds that if, as announced in the Budget, National Savings & Investments (NS&I) begins offering index-linked savings certificates once again in the near future, this could be an option.
"These are tax free and offer an inflation-busting return," he says. "I would suggest five-year certificates if Luke is sure that he will not be buying a property before five years have elapsed."
Consider your attitude to risk
Robert Forbes from Plutus Wealth Management says that while the Funding Circle and similar arrangements do look attractive from the potential returns that are available, Luke needs to exercise a little caution.
"The online peer-to-peer lending model cuts out a significant proportion of the costs associated with lending that a traditional bank would incur," he says. "This allows the interest rate the lender receives to track more closely the rate the borrower incurs. However, you do need to take note that this has more risk associated with it than with a traditional high street bank account due to the potential lack of liquidity and not having access to the Financial Services Compensation Scheme."
Nonetheless, he points out that it is possible to manage the risk. "You can do this by limiting the percentage of your total assets that are involved, and by lending to a spread of different borrowers, rather than a single business," he says.
Saving for the longer term
Luke should check whether he is able to join an employer's pension scheme, so as to benefit from any pension contributions, says Mr Forbes.
"Within limits, your contributions will be entitled to tax relief, helping to increase the speed with which your fund should grow," he says. "However, once in a scheme, you will be unable to start to draw on these funds until you are at least aged 55." If there is no employer's scheme, Luke should consider starting his own private pension, says Mr Cox.
"Stakeholder pensions are the simplest and have the least investment choice," he says. "Charges are capped at 1.5 per cent for the first 10 years, and 1 per cent thereafter. Personal pensions have a wider choice of investments but with no charge caps. A self-invested personal pension (Sipp) has the widest choice of investments and a low-cost Sipp can often be cheaper than a stakeholder pension."
When selecting funds, this should be based on a number of factors such as personal attitude to risk and predicted time to retirement.
"Most people start with relatively modest contributions aiming to increase them over the years," he says. "The longer Luke saves into a pension and the more he saves, the better and potentially earlier retirement he will be able to afford."
Given that illness could significantly hamper Luke's future earning potential and associated lifestyle, Mr Forbes recommends he consider products such as income protection – which pays out a regular income when the policyholder is unable to work for medical reasons – and also critical illness cover. "It is important to consider what your employer offers as part of the staff benefits, and then to ensure that any personal insurance arrangements you put in place dovetail with these," he says.
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Write to Julian Knight at The Independent on Sunday, 2 Derry Street, London, W8 5HF