Five financial decisions to make in your 40s
A dilemma faced in your 40s is how to strike a financial balance. Saving for retirement, paying down debt and the needs of a growing family may all be on the agenda - and that's before the demands of the day job.
This makes it a good time to take stock of your situation, and your financial needs and goals. To simplify matters, here are five considerations to help 40-somethings prepare for the future.
1. Is it time to pay of your debts?
If you're still saddled with debt, it's vital to get to grips with it. The last thing you want is to reach the end of your working life with a huge mortgage or pile of credit to your name. Yet research from the Post Office reveals more than a third of homeowners expect to be nearly 70 before they pay off their mortgage, compared to the average mortgage-free age of 51 a generation ago.
This may mean shifting your focus off saving. There's no point building up savings if you're paying more in interest on your debt than you can earn in a savings account, which, let's face it, is typically the case - particularly with interest rates at rock-bottom. So make a list of any debts you have, whether overdrafts, personal loans or credit card debt, and work out a strategy to whittle this away.
If you're living with credit card debt with a high rate of interest, it's well worth looking for cards with long interest-free periods, then paying them off as quickly as you can.
The secret to using these deals is always to make sure you pay off the balance before the 0% deal expires, or shift the balance on to another 0% card that has a low balance transfer fee.
Turning to your mortgage, if you have a repayment mortgage, then hopefully the term to repay your loan coincides with your retirement date or earlier. If it doesn't, you might want to consider reducing the term or overpaying. If you have an interest-only mortgage, then you need to make sure you have your own repayment plan in place so that when you retire you don't find you have a large outstanding sum to pay.
It's also important to plan ahead if you want to move home in later life. Darius McDermott, managing director of Chelsea Financial Services, adds: "A lot of people look at their home as their retirement fund and think they will 'downsize' when the time comes, but remember, it can take time to sell a house and if you have outstanding mortgage debt it will affect what you can then buy."
However, there are solutions if you have the means. By increasing your monthly repayments, you can shave years off your mortgage and save thousands of pounds. Say, for example, you are 42, have 10 years left on your mortgage and owe £50,000 on a home worth £150,000. If you are on a rate of 2.59%, your monthly repayments would be £473. But if you overpaid on your mortgage by £110 a month, giving a total monthly payment of £583, according to broker London & Country, you could pay off your mortgage two years early, becoming mortgage-free at age 50 and saving £1,461 in interest payments.
Or another option is to opt for an offset mortgage to help pay off your loan quicker. These work by offsetting a borrower's savings against the amount they owe, so they only pay interest on the difference between the two.
For example, if you had a mortgage of £150,000 and savings worth £20,000, you would only pay interest on £130,000 of your mortgage balance. However, you could continue to make the same monthly repayments based on the full amount of your mortgage, so the balance reduces faster and you pay off your mortgage earlier.
2. Am I under-insured?
If you're in your 40s, it's a good time to consider your insurance needs. If you have a mortgage or children, at the very least you should have life cover in place for you and your partner, if you have one, that will pay off the mortgage as well as provide some money to help maintain a reasonable standard of living if you or your partner were to die.
"You should also consider what would happen if you or your partner were to be struck down with a serious illness or injury that prevented you from working long term," says Ray Black from IFA Money Minder. "In these circumstances, your life insurance is unlikely to help, but your family income may be drastically reduced."
Danny Cox, head of financial planning at Hargreaves Lansdown, says: "The majority of people are under-insured." Think about the 'what if' scenarios, he stresses. "What income would your spouse need should you die? How much income would you need if you were unable to work due to accident or illness?" This is a useful strategy for working out how much insurance you need, and it's vitally important if you have a young family to consider.
Cover such as income protection could provide an income if you were unable to work due to long-term sickness or disability. Speak to an adviser at a broker such as LifeSearch.co.uk to see what policies might suit and their price.
You may get some cover from your employer, such as death-in-service benefits, but make sure to buy more if this isn't sufficient.
Another consideration is drawing up a will at this stage. "Many people assume that if they die, their pensions, investments and other assets automatically pass to their spouse," adds Cox. "This is not always the case and if you are not married, a so called 'common-law' partner has no rights in law to your estate so you'd need to draw up a will."
3. Should I begin investing for the long term?
When you're in your 40s, you've still got some time to invest aggressively for growth, compared to those around retirement age who are likely to be turning to cautious investments to reduce risk.
The sum can mount up. An investment of £50 a month, assuming a return of 5% after charges, would amount to £17,533 over 18 years, according to calculations from IFA Chase de Vere. So if you want a better return from your savings, now is the time to act - especially if you have children with future costs to take into account, such as university or helping them get on the property ladder.
You can pick from a wide range of investments, but make sure to diversify, and remember to wrap your investment in an Isa. You can invest up to £15,000 in an Isa, free of capital gains and income tax. You can hold unit trusts and open-ended investment companies, individual shares, investment trusts, corporate bonds, gilts and exchange-traded funds (ETFs), which track the performance of a market or index and are traded like individual stocks.
If you have a lump sum to invest, think very carefully about what you want from your investment - is it all-out growth or is it really important that the original lump sum you invested is still available to call on when you need it? The answer to this question helps to determine your attitude to risk and will drive the type of investment strategy that will be best for you.
The majority of advisers favour equity income funds as a staple in any portfolio. They claim these funds can squeeze out greater returns and spread risk for investors by pooling money into a wide range of companies that tend to pay consistently higher dividends. Jason Hollands, managing director of communications for IFA Bestinvest, favours Threadneedle UK Equity Income, for example, while Patrick Connolly, IFA at Chase de Vere rates Artemis Income.
If you are just starting to invest, watch out for initial charges on managed funds. These are typically around 5%, but easy to avoid. Discount brokers and advisers including Bestinvest, Chelsea Financial Services, and Hargreaves Lansdown refund you most, if not all, of this charge when you invest.
If you are investing for young children, you can use the junior Isa, which allows you to invest in the market for long-term goals.
4. Have you got a sensible retirement plan in place?
By the time you reach your 40s, you'll probably already have built up some retirement savings in the form of ISAs or a company or personal pension scheme, and if you haven't, it's time to get your skates on.
Hopefully, you've also got greater disposable income than you had when you started your career, although this could be being eaten up by childcare costs. If possible, now is the time for you to be increasing payments into investments for retirement.
If your pension has grown, check it to establish an estimated annual income from it and to see if you're comfortable with this.
Questions to ask yourself include: could you live on that now? Or more to the point, could you live on it in 20 years' time, taking into account inflation? After all, you still have a few decades to go before retirement, giving time to boost your pot.
"You should also take advantage of any workplace pensions available if you haven't yet - especially if your employer will also contribute to your pension if you do. If you don't want to depend solely on the state-provided old age pension, you need to take control of your retirement planning as soon as possible," says Black. If you are a higher-rate taxpayer, pension contributions can be very worthwhile as they can be made from pre-taxed income or a 40% uplift can be added at a later date.
In addition, request a state pension forecast to see how much you will receive. Visit gov.uk/state-pension-statement to do this online. However, remember that retirement planning doesn't just mean pensions.
"Most people's income in retirement comes from a combination of state pension, private and company pensions, Isas, cash and, in some cases, buy-to-let property, and diversification is a good strategy," says Cox.
This is the time to take your retirement planning seriously. So consider what kind of lifestyle you want to have at that stage and what you can do to meet this goal.
5. Am I happy in my job or should I re-train?
If you dread the daily grind at work, now may be a good time to consider changing career paths. You have probably given plenty of years to your current role, but perhaps it's not offering the work-life balance you're looking for with family to consider, or you no longer require for the salary level you've achieved.
These days, we have a long working life, and you still have several decades or longer to go before retirement. The good news is there is also a wider career choice than ever with the variety of jobs that can be done from home and part-time. However, getting new qualifications will require some commitment, and usually a financial cost, so you need to make sure it's the right decision for you.
As a starting point, do your research and speak to people who already work in the field you're interested in. There are plenty of online forums offering advice to steer you in the right direction. Check out job profiles on sites such as prospects.ac.uk and nationalcareersservice.direct.gov.uk. It can take a while to get your qualifications and contacts in order and although it is exciting making such a significant change, your employer may not share your enthusiasm if you're keen to leave, so keep your head down while they're paying your salary.
Available from 1 November 2011, the Junior ISA will replace child trust funds (CFTs), which have been phased out. Junior ISAs will have a £3,000 limit and will be offered by high street banks, building societies and other providers that currently offer ISAs to adults. You can invest in either stocks and shares or cash. But, unlike CTFs, there will be no government contributions into each child’s savings pot. Money invested in Junior ISAs will be “locked in” until the child is 18, and the ISA will default to an adult one.
A loan in which the borrower pays only the interest on the sum borrowed for the life of the mortgage but, at the end of the mortgage term, they still owe what they originally borrowed as this remains unchanged. The advantage of an interest-only mortgage is the monthly repayment is considerably lower than for a comparable repayment mortgage. Lenders generally insist the borrower also invests in an endowment, ISA or pension savings policy that, on maturity, is intended to pay off the capital loan.
Generally thought of as being interchangeable with life assurance, but isn’t. Life insurance insures you for a specific period of time, at a premium fixed by your age, health and the amount the life is insured for. If you die while the policy is in force, the insurance company pays the claim. However, if you survive to the end of the term or cease paying the premiums, the policy is finished and has no remaining value whatsoever as it only has any value if you have a claim. For this reason, life insurance is much cheaper than life assurance (also called whole of life).
A “traditional” mortgage, where the monthly repayments entail of repaying the capital amount borrowed as well as the accrued interest, so that during the loan period the capital debt is gradually paid off so by the end of the term the mortgage has been fully repaid. One advantage of a repayment mortgage is that it removes the risk of having a parallel investment (such as an endowment policy or pension), the performance of which is dependent on the stockmarket, such as with an interest-only mortgage.
Invidivual Savings Accounts were introduced on 6 April 1999 to replace personal equity plans (PEPs) and tax-exempt special savings accounts (TESSAs) with one plan that covered both stockmarket and savings products, the returns from which are tax-exempt. The ISA is not in itself an investment product. Rather, it’s a tax-free “wrapper” in which you place investments and savings up to a specified annual allowance where the returns (capital growth, dividends, interest) are tax-exempt (you don’t have to declare ISAs and their contents on your tax return). However, any dividends are taxed within the investment, and that can’t be reclaimed.
A way of combining a mortgage and savings so the savings “offset” and reduce the mortgage. Rather than earning interest on savings, the savings reduce the mortgage and the interest paid on the borrowing, so savings are effectively earning interest at a higher rate than most mainstream savings accounts will pay. They are also tax-efficient, as savers avoid paying tax on interest that their deposits would otherwise have earned. Offset mortgages offer the disciplined borrower a great deal of flexibility, as overpayments can be made to reduce the term or monthly mortgage repayments, which can save thousands of pounds in interest payments over the mortgage term.
A financial adviser who is not tied to any financial services company (such as a bank or insurance company) and is authorised by the Financial Services Authority (FSA). They can advise on financial products to suit your circumstances. All IFAs have to give consumers the choice of paying by fees or commission and have to explain which would best suit the customer in that particular instance. Also, if commission is paid either by the client or the financial service provider recommended by the IFA, the IFA must disclose what that commission is.
Used by the holder to buy goods and services, credit cards also have a monthly or annual spending limit, which may be raised or lowered depending on the creditworthiness of the cardholder. But unlike charge cards, borrowers aren’t forced to pay the balance off in full every month and, as long as they make a stated minimum payment, can carry a balance from one month to the next, generating compound interest. As the issuing company is effectively giving you a short-term loan, most credit cards have variable and relatively high interest rates. Allowing the interest to compound for too long may result in dire financial straits.
The catch-all term applied to investors who buy properties with the sole intention of letting them to tenants rather than living in them themselves, with the proceeds from the let usually used for the repayment of the mortgage. Buy-to-let investors have to take out specialised mortgages that carry higher interest rates and require a much bigger deposit than a standard mortgage. Other expenditure can include legal fees, income tax (on the rental profits you make), capital gains tax (if you sell the property) and “void” periods when the property is unlet.
Everything you own: all your assets (property, cars, investments, savings, insurance payouts, artwork, furniture etc) minus any liabilities (debts, current bills, payments still owed on assets like cars and houses, credit card balances and other outstanding loans). When you’re alive this is called your wealth; when you’re dead, it becomes your estate.
The familiar name given to securities issued by the British government and issued to raise money to bridge the gap between what the government spends and what it earns in tax revenue. Back in 1997, the entire stock of outstanding gilts was £275bn; by October 2010 it had surpassed £1,000bn. Gilts are issued throughout the year by the Debt Management Office and are essentially investment bonds backed by HM Treasury & Customs and considered a very safe investment because the British government has never defaulted on its debts and this security is reflected in the UK’s AAA-rating for its debt. Gilts work in a similar way to bonds and are another variant on fixed-income securities.
An increase in the general level of prices that persists over a period of time. The inflation rate is a measure of the average change over a period, usually 12 months. If inflation is up 4%, this means the price of products and services is 4% higher than a year earlier, requiring we spend and extra 4% to buy the same things we bought 12 months ago and that any savings and investments must generate 4% (after any taxes) to keep pace with inflation. Since 2003, the Bank of England has used the consumer prices index (CPI) as its official measure of inflation (see also retail prices index).
Moving money from one account to another, whether switching bank accounts or more likely transferring the outstanding balance on your credit card to another card that charges a lower – or 0% – rate of interest. Some card providers may charge a transfer fee that can be a percentage of the balance transferred.