Susan has just inherited pounds 60,000. What should she do with it?

Susan is a 42-year-old agency nurse earning pounds 12,000 a year, with a pounds 45,000 mortgage. She is divorced with a nine-year-old child. Her mother died recently, leaving her pounds 60,000 and she wants to invest the inheritance and draw a small income from it. She will accept some risk to her funds, but would like some capital appreciation to protect her money against inflation. Gareth Marr offers advice

At pounds 45,000 Susan's level of borrowing is very high, given her current income. Any change to her circumstances could put her home at risk. Adopting a safety-first stance, I would first recommend an immediate reduction of pounds 40,000 in the outstanding mortgage. Even if Susan invested the whole pounds 60,000 it would not be possible to secure a return sufficient to meet the mortgage repayments without risking the capital. But by leaving pounds 5,000 outstanding she maintains her credit rating for a move in the future if her circumstances change.

Susan then has pounds 20,000 to invest and has also released around pounds 300 a month from her mortgage repayments.

As an agency nurse, Susan does not benefit from an employer's pension scheme. I would suggest taking advantage of the rules allowing her to catch up on unused pension payments.

This could allow a single premium to a personal pension of around pounds 14,500 gross, which, after tax relief, would cost pounds 11,000. Setting up a pension plan in this way gives Susan the flexibility to pay extra amounts when she can afford it without being tied to regular payments.

The balance of pounds 9,000 should be used as an emergency reserve and gradually invested into a Tessa (tax-exempt special savings account) with a good building society. Susan can invest over a five-year period in a deposit- style account and have the interest credited free of any liability to UK tax. The plan should be funded by the payment of a lump sum at the start of each year of pounds 3,000 in year one, pounds 1,800 in each of years two to four and pounds 600 in year five.

The Tessa would cease to be tax-exempt on early withdrawal of capital, but should the money be needed Susan would be no worse off than if it were invested in an ordinary building society account from the outset.

I would recommend that the remaining pounds 6,000 waiting to go into the Tessa be placed into the Yorkshire Building Society's First Class Access acount, currently paying 6.2 per cent gross for a deposit of this size.

The pounds 300 a month that Susan has released from her mortgage repayment could then be used entirely to boost her spending power. Alternatively, she could consider some form of regular saving with part of this money. For example, pounds 200 a month could go to a personal equity plan (PEP) and I would recommend as a starter the M&G Managed Income Fund. This fund is an actively managed "fund of funds" investing in M&G's range of authorised unit trusts.

By using the pounds 60,000 in this way Susan has reduced her debt substantially and helped to protect her home. She has also started to save for retirement, achieved a cautious spread of investment and increased her spending money.

The author is a partner in Moores Marr Bradley, independent financial advisers.

Before you invest

Do

Work out what you want to achieve with your money. If you have never invested before, you need to decide how much risk you are prepared to take. Generally, the higher the risk, the higher the potential return but there are no guarantees and you could end up losing money.If in doubt, get advice.

Don't

Forget your pension and mortgage. Most investments would be hard pushed to match the savings achieved by reducing a mortgage. Pensions contributions are highly tax-efficient.

Generating

income

Fixed interest:

Most high-income-producing investments are bonds (government and corporate IOUs) and deposit accounts. They will only return your starting capital, and are therefore vulnerable to inflation. Index-linked gilts do not give an impressive rate of return over inflation. Alternatively, look at "convertible bonds", which pay a fixed rate of interest but can later be converted into shares.

Shares:

A mix of leading company shares is a good hedge against inflation. High- yielding blue-chip companies can provide capital appreciation as well as income. Among the higher yielding stocks over the next 12 months are expected to be most of the water companies, Hanson, British Gas, P&O, General Accident , BAT, Sun Alliance, British Steel, Legal & General and SG Warburg.

Also, some investment trusts (quoted companies that invest in the markets) are divided into two parts, one aimed at capital growth and the other at generating income.