Wealth Check: Getting rid of costly card debt the first step to building a deposit
Jennie is keen to start saving for her first home, but our experts say she will struggle until she sorts out and prioritises her various debts
Saturday 17 August 2013
Jennie Davies, from Bootle in Liverpool, is keen to clear the debts she's built up so she can start saving for a house deposit. The 28-year-old works as a test analyst and earns about £27,000 a year. She has been in this job for three years.
Jennie lives at home with her grandparents, but she hopes to take the first step on to the property ladder in the not-too-distant future.
"I'm hoping to buy a three-bed home in Liverpool for around £125,000-£150,000," she says. "But I know I'll have to save hard to make this happen as I've only got around £1,500 in my current account with NatWest, so I'm essentially starting from scratch."
The biggest obstacle at the moment is her debts. "I owe £3,500 on two credit cards: one with Barclaycard and one with Capital One," she says. "I also owe £10,000 on a loan with NatWest, and £15,000 on a student loan. In addition, I've run up an overdraft of £1,500 on my current account. These are debts which I mostly amassed while travelling – and I really want to get these paid off quickly so I can concentrate on building up my savings."
Jennie is in the fortunate position of not having to pay rent or a mortgage as she lives with her family; she contributes £250 a month towards the household bills.
As yet, Jennie has not begun paying into a pension. She also has no protection policies in place.
Our panel of independent financial advisers agree that getting on to the property ladder can be extremely difficult for young people in Jennie's position, with house prices having risen and lenders more reluctant to lend.
They urge Jennie to focus on paying off her debts so she can start saving seriously for a deposit. They add that while it may not feel like a priority at the moment, the sooner she starts paying into a pension, the better.
Focus on reducing debt
Adrian Lowcock at Hargreaves Lansdown says Jennie needs to settle the debts on her cards, bank loan and overdraft as a priority.
"The higher the interest rate, the greater the urgency with which Jennie needs to pay off that debt," he says. "Credit cards are usually the most expensive, but they require the smallest monthly payments. Loan rates are likely to be lower, but the minimum repayment will be higher."
Consider consolidating debts
Mr Lowcock suggests Jennie may want to look at consolidating the credit card debt into the bank loan.
"This would save her money in interest payments," he says.
"She could also ask her bank about making overpayments on the loan. Equally, if the rate on the overdraft is also high, it may be worth consolidating the overdraft into the bank loan as well. The reduction in interest payments will free up some cash which she can use to repay her debts more quickly."
As an alternative, Patrick Connolly at AWD Chase de Vere suggests that Jennie could get better terms by moving her credit card and loan debts elsewhere. Useful sites for comparing rates include MoneyFacts.co.uk and MoneySupermarket.com.
"She should then look to pay off her overdraft," Mr Connolly says. "However, paying off the student loan is far less urgent as Jennie will be paying a lower rate of interest on this loan. She can leave this on the back-burner for now and let this clear naturally through her payroll as her income increases."
Build up savings
Mr Lowcock says that while it's admirable that Jennie has saved £1,500, she would actually be in a better position financially if she used this money to pay her debts off first.
"She may be earning little over 0 per cent on money in her current account, yet paying a hefty rate of interest on her credit cards," he says. "In this situation, there's no point have both savings and debt."
Once Jennie's got her debt under control, her next priority must be building up some cash savings.
"She'll need cash for two reasons," says Mr Connolly. "Firstly as an emergency fund so she has money available for any short-term requirements; this will help her avoid having to go any further into debt. Secondly, she will need savings to build a deposit."
When Jennie is in a position to save, Mr Connolly urges her to build cash savings in an individual savings account (Isa).
"This would separate her savings from her day-to-day current account money, and all interest would be earned tax-free," he says.
"Jennie could also look to set up a regular direct debit from her current account into a cash Isa to help her get into the savings habit. In addition, she should look to boost her income by making use of a cashback site such as Quidco, as this will give her money back each time she makes purchases online."
Plan for a deposit and other house-buying expenses
Dave Penny from Invest Southwest suggests that when it comes to taking the first step on to the property ladder, the Government's recently announced Help to Buy mortgage support scheme could be worth considering.
"This would enable Jennie to buy with a deposit of just 5 per cent – meaning any deposit in excess of £7,500 should give her the opportunity of buying a house in her desired price bracket," he says. "With the right discipline, she could reach this goal in around three years' time."
Nonetheless, Mr Connolly reminds Jennie that she can't start saving for a deposit until she's sorted out her debts. "And if she ends up needing a deposit of 10 per cent – or more – this could mean further years of saving," he says. "At the same time, Jennie needs to give some forward thought to her day-to-day expenses as having her own place will be considerably more expensive than paying £250 to live with her family."
Don't ignore pension planning
While saving for the future may not be Jennie's most pressing financial objective at present, given that she is now 28, this is something she simply can't ignore.
"The sooner she starts saving, the easier it will be for her to achieve a reasonable standard of living in retirement – or to be able to retire when she wants," says Mr Connolly.
Mr Penny urges Jennie to check whether her employer offer a workplace pension.
"If the firm doesn't do so already, it will have to do so in the very near future under a scheme known as auto-enrolment," he says. "With this scheme, not only will Jennie have to contribute, but her employer and the Government will have to make contributions too. Jennie should take up this offer when it becomes available."
Once she's completed her house purchase, Mr Penny advises her to think about increasing the amount she pays into a pension.
Delay investing for the time being
Jennie can afford not to put money into investments for now, according to Mr Connolly.
"Her focus must be on paying off her debt and building cash savings before looking at making longer-term investments," he says. "When she is in a position to invest, it might be sensible to consider tax-efficient stocks-and-shares Isas and to invest in these for the long-term. This will work well alongside her auto-enrolled pension scheme."
Take out decent protection policies
Mr Penny says there is no point in Jennie making big plans if it all goes wrong beforehand, and urges her to check what protection benefits are available from her employer.
"She should then consider an income protection policy which pays a tax-free monthly benefit if the policyholder is off work, until retirement, recovery or death," he says. "But as Jennie does not have any financial dependants at present, she does not need life cover at this time."
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