Wealth Check: 'I want to pay off my debts but still live comfortably'
Saturday 18 July 2009
Alma Stewart-Burgess, 39, is bringing up two young children aged seven and five in Preston after her 44-year-old journalist husband died from cancer five years ago. She is looking for a job after completing a postgraduate diploma in newspaper journalism at the University of Central Lancashire. "I want to be debt free, but still able to live comfortably," says Alma.
Finding a job is proving difficult, but Alma wants to pay her debts off without taking the first mediocre job that comes along. She receives tax credits, so working wouldn't be financially worthwhile unless it paid over £400 per month.
Income: £17,000 per year from late husband's pension
Monthly outgoings: car £230, gas/electricity £120, mobile phone £40, food £350, health insurance £40, life insurance £35, credit card payments £100, petrol £40, phone/TV £50 (total: £1,005 per month)
Debt: £4,000 in recent postgraduate fees, £3,500 on credit cards and £200 per month at 24% APR on car loan.
Advice this week is given by John Kelly of Chelsea Financial Services, Dennis Hall of Yellowtail Financial and Kevin Anderson of Budge and Company...
Alma's monthly outgoings do not exceed her late husband's pension income, so she can live off that for now. However, John Kelly says she will have to earn more before she can pay off debts and start making savings for her own pension. "She will need to consider her pension requirements when she has some disposable income," he says.
Dennis Hall also recommends checking the rules surrounding the pension, particularly what level of payments her children would receive if she were to die prematurely: "Depending on the amount and type of life assurance cover already in place, there may be a case for purchasing some additional Family Income Protection insurance until the children are financially independent. This should be placed in a trust so any payments are not transferred to her estate should she die." Dennis agrees with John that Alma should look at making provisions for a pension as soon as she finds paid employment.
Alma has debts of £3,500 on credit cards and swaps the balances to get 0 per cent interest. She also has a car and student loan.
Kevin Anderson says she should address this: "Alma is in the very common situation of being asset rich and cash poor. The major asset is her property, on which there is no mortgage. One solution may be to raise a mortgage on the property while rates are relatively low to pay off her car loan, credit cards and student loan. This will free up more of her monthly income for savings. Her income is very secure as it is a pension and her borrowing will be small so the rate should be very attractive."
John Kelly says her car loan should be her debt priority, as it has a high interest rate (currently 24 per cent APR). On the question of her credit cards versus the loan, he says the key issue is the rate payable. "She is able to manage the credit card debt by moving them around to whoever is offering 0 per cent. So, in the short term, she is probably better off doing that than moving it somewhere with a higher interest rate."
However, Dennis Hall's advice differs: "The reason why even 0 per cent interest credit card debt is more expensive than the 1.5 per cent interest charged on student loans is that when transferring from one 0 per cent deal to another there is typically a 3 per cent transfer charge. With an average 0 per cent interest rate period of three months, this could mean four transfers a year at a cost of perhaps 12 per cent. Suddenly these 0 per cent deals don't appear so cheap."
Instead, he suggests a cheap, unsecured personal loan, as it has the added advantage that the debt is paid down over an agreed number of years, whereas credit card debt can take decades to repay when paying the minimum each month. "Sainsbury's and Tesco each have finance divisions offering personal loans from as low as 7.9 per cent APR."
Dennis agrees with John that Alma's priority in terms of debt reduction should be paying off her car loan, although he advises her to check the terms and conditions, as some of these types of loans have additional charges because of the commission that might have been paid to the firm that arranged the finance.
Savings and investments
Alma is reliant on her widow's pension and tax credits. Kevin Anderson says saving is not an option until Alma can secure a job. However, John Kelly advises building up a cash emergency fund to at least three months' outgoings – just over £3,000. "This could be done by saving monthly into a cash ISA. The best rate on instant access cash ISAs is currently offered by Barclays at 2.55 per cent."
He also suggests that, while paying off debt is currently more important than investing, she could start monthly saving into a stocks and share ISA, starting with a core fund like M&G Recovery, or Invesco Perpetual High Income. She could then add riskier funds like First State Asia Pacific Leaders or Rathbone Global Opportunities.
Dennis Hall agrees that using an ISA to build up a cash reserve will ensure she can save tax efficiently. Abbey and Nationwide (both part of the Santander Group) are offering an ISA savings rate of 5.5 per cent, which includes a 4.5 per cent bonus for 12 months.
"The savings don't actually affect your entitlement to Child Tax credits, but the interest earned on the savings could affect the amount of tax credits received."
Alma does have some life cover, which all three experts agree is important in view of the fact that she has two young children. Kevin Anderson recommends that she continues to review the adequacy of this, and John Kelly agrees that the cover should be a priority to financially protect her children.
Independent Partners; request a free guide on NISAs from Hargreaves Lansdown
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