Help me save for early retirement

20 February 2008

The Profile

Clare Walker, 29, from Weymouth in Dorset, works as a fashion merchandiser for high street store New Look, and takes home £1,953 a month after tax.

She repays £660 a month on her £165,000 mortgage with Halifax, which is on a fixed rate of 4.39% until August 2008. She lets a room to her sister who contributes £238 a month.

Clare has outstanding debts totalling £9,100 across three credit cards, which she repays at £260 a month. She has £3,000 saved in a cash ISA with Nationwide, £300 in an internet saver account with Sainsbury's Bank and another £300 in an equity ISA with Fidelity, to which she contributes £50 a month.

Clare recently joined her company pension and contributes £63 a month, which is matched by her employer with £80 a month. "I'm not sure if my pension is invested in the best funds," says Clare. "My overall financial objective is to clear my debts as quickly as possible and save for an early retirement."

Expert's advice

Andrew Westcott, director of Independent Financial Solutions in Weymouth, agrees with Clare that her priority should be to concentrate on paying off her credit card debts. "Clare has a net annual income of £25,662 and expenditure of around £20,158, which leaves her with a surplus of £5,504 to meet her goals of clearing her debts and saving for an early retirement," explains Westcott.

Clare currently pays £260 a month off her credit card debts, and Westcott recommends that while continuing to repay her debts simultaneously, she should also overpay on each card, in descending order of APR, to clear the whole debt in 24 months. He calculates that Clare can achieve this by increasing the £60 a month she currently repays on her £1,600 M&S Money card (3.9% APR) to £210, in order to clear the debt in eight months.

Then she should redirect the £210 to her £5,200 Egg card (0% APR) to increase the repayment to £330 a month, to clear the debt in 13 months. And finally, she should roll the £330 into her £2,300 Virgin Money card (0% APR) to repay £410 for two months until all her debts are cleared.

"This is providing she transfers the two 0% interest rate balances to other 0% cards at the end of their terms," adds Westcott.

Next Westcott turns his attention to Clare's investments. They have determined that she is a "motivated investor" and willing to accept a higher-than-average level of risk, which is completely appropriate considering her age. However, at the moment, her investments are overly cautious as they are mostly in cash, with £300 invested in the Invesco Perpetual High Income Account through her equity ISA.

"Clare does need to keep some of her money in cash so that it's accessible in case of unexpected expenses," says Westcott. Most experts agree that it is advisable to build up between three and six months salary as an emergency fund, so with her savings currently standing at £3,300, Clare needs to continue to contribute to her cash savings.

Increase the risk

Westcott suggests, however, that she move the £300 invested in Invesco Perpetual into a higher risk holding. "A portfolio that would suit Clare's profile would hold 50% in UK equities and 8% in UK corporate bonds, with the remainder split between American, European, Japanese and Emerging Market equities," he explains.

Westcott recommends the Barclays Global Investors' Global Equity 50/50 fund, which could return an estimated 6.71% a year, compared with her current growth estimate of 2.53% a year across all her savings and investments. "Although her investments may be affected by the volatility of the world stockmarkets in the short term, in the longer term it will provide a better return," he adds.

Clare has utilised her £3,000 tax-free cash ISA allowance for 2007/2008, but not the £4,000 equity ISA allowance, so Westcott recommends she increase her £50 monthly contributions to £150 in order to take advantage of tax-free investing.

Clare's current mortgage with the Halifax is fixed at 4.39%, which is a very competitive deal, given current interest rates. Although at the moment, it looks as though her repayments will increase when she comes to remortgage in August 2008 - despite speculation that rates will fall, Westcott doesn't anticipate Clare will struggle.

So as Clare's goal is to retire early, Westcott says paying off her mortgage early should be a priority and suggests she consider increasing her repayments by £75 a month for the next five years. "This could shave £18,657 in interest off the loan, assuming her overpayments grow at 6% each year."

Although Clare has no dependents, Westcott recommends she makes a will so that her estate is distributed as she wishes on her death. Furthermore, he advises her to buy life insurance to cover the cost of her mortgage and credit cards. "For a 29-year-old non-smoker such as Clare, it would cost as little as £6.04 a month for a level term assurance plan to cover her debts," he says.

Meeting current financial commitments

Possibly of more importance to Clare at this time in her life, is cover to ensure she could meet her financial commitments if she fell ill and was unable to work. She currently pays £20 a month for a short-term accident, sickness and unemployment benefit plan with Pinnacle Insurance, which would pay out £800 a month - equal to her mortgage payment plus 25%.

However, Westcott says: "This would not meet Clares household expenditure, and she would be faced with a shortfall of around £565." It will also only pay out for a maximum of 12 months. Instead, he recommends that Clare takes out an income protection plan, which would cost approximately £12 a month and pay out a proportion of Clare's salary after a deferred period of between 12 and 26 weeks, until she retires or is able to return to work.

Westcott says that Clare should also take out critical illness cover to pay out a lump sum if she suffered a more serious illness such as cancer or a stroke. He estimates this could cost as little as £9.70 a month.

Westcott calculates that Clare's current pension arrangements may only give her £2,912 of income each year from the age of 65. On top of this she would receive annual state pension provision of around £7,571. "If Clare wants to retire early and receive the usual pension provision of two-thirds of her working salary, she will need a retirement income of £21,120 per year, so there is a large shortfall at the moment," says Westcott. To achieve her desired retirement income, Clare would need to increase her pension contributions by £419 a month. This is something she can consider once she has cleared her debts.

Finally, Westcott believes that Clare's worries about the suitability of her pension fund are relatively unfounded as her current portfolio has an estimated potential growth rate of 6.06%, which is quite adequate.

"However, like her ISA funds, Clare's pension fund could contain more emerging market equities and UK bonds in its mix to increase growth," adds Westcott. He recommends she switch out of the BGI Deposit and BGI Global equity 70/30 funds that she's currently invested in and pays into the BGI Global equity 50/50 fund instead.

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