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Q&A: Making a young family's finances fit for the future
By Nathalie Bonney
The profile
Sajid Javid lives in Manchester with his wife Shaheen and one-year-old daughter Amna. Shaheen, 28, is a stay-at-home mum, while Sajid, 32, works in nearby Cheadle as an accountant for a computer software manufacturer. He earns £30,000 a year and takes home £1,800 a month after tax.
The couple's home is worth approximately £80,000 and they pay £300 a month on their interest-only mortgage with Abbey, which has a fixed-of rate 5.15%. They have three credit cards with HSBC, Goldfish and Tesco, with a combined debt of £5,000.
Aside from these debts, the Javids have accumulated savings of £10,000 spread across savings accounts and ISAs with HSBC and a small amount of premium bonds.
"Our overall financial objectives are to have enough money for retirement and to maintain a good credit rating," said Sajid. "We are planning for Amna's future and want advice on secure and profitable investments."
Expert's advice
Paul Galley, an independent financial adviser at WH Ireland in Manchester, is encouraged that the Javids want to start saving and investing for the future. "But before looking at their investments I feel there are a number of other concerns that should take priority," he says.
At the moment, Sajid makes the minimum payment each month on the three credit cards, but Galley says by consolidating the three cards into one Sajid can clear the debt quicker. Many cards offer an introductory 0% rate on balance transfers - the Virgin Money Mastercard for example, offers 0% for the first 15 months, and 15,9% thereafter.
"Sajid should set up a direct debit and pay a regular monthly amount higher than the minimum payment to reduce the outstanding balance," explains Galley.
Alternatively, the Javids could use their £10,000 emergency savings fund to pay off the credit card bills immediately. Even if they cleared the £5,000 debt, they would still have another £5,000 to use as a basic fund.
"A regular direct debit could then be set up to build these reserves back up," adds Galley. The Javids should utilise their tax-free ISA allowance, which rises to £3,600 for cash this month.
Because the Javids' monthly mortgage payments are paying the interest on their loan, they are not chipping away at the actual sum they have borrowed and will still owe £80,000 at the end of the mortgage term. "As it's an interest-only mortgage it is very important that they have a savings vehicle in place to repay the mortgage in due course - or switch to a repayment in the near future," says Galley.
A quick calculation shows that switching to repayment would increase their mortgage repayments to around £475. This is an increase of £175 on their currently monthly repayments, and is an option well worth considering to begin to clear this sizeable debt.
Excellent forward planning
Whilst the Javids' emergency fund shows excellent forward planning, Galley says it is the minimum amount of cover required for a young family.
Sajid has a Legal & General term assurance plan, taken out to cover his mortgage in the event of death during the mortgage term, but Galley thinks more can be done. Critical illness cover is especially significant to a one-income household like the Javids as it would pay out a tax-free lump sum if Sajid was to suffer from a serious illness such as cancer or a heart attack.
At a monthly rate of £120.89, AXA's joint life critical illness policy would pay out £100,000 should either Sajid or Shaheen suffer an illness that prevented them from working.
Since Sajid is the sole breadwinner, if he was to fall ill or die, there would be no ongoing income coming into the home for Shaheen to cover other expenditure such as food, bills and childcare.
Galley recommends they consider taking out a family income benefit plan, which would pay out a regular monthly income to his dependents from the time of the claim to the end of the plan term. "I recommend the Javids take out both plans because they compliment each other, but the critical illness plan is probably more important as it would cover their outstanding mortgage," says Galley.
Next on the agenda is Sajid's pension planning. He is not currently paying into a company pension and so his first task is to check with his employers if he can join a scheme. If there is no plan in place, Sajid can still save for his retirement through a personal plan.
All contributions to a personal pension plans have tax relief. Galley explains: "Iif Sajid was to invest £200 a month into a pension, basic-rate tax relief would increase his contribution to £257.41 per month."
Galley likes the personal stakeholder pension from Scottish Widows. "Sajid can access a wide range of internal and external funds and will be subject to a single annual management charge of just 1% of the fund value each year, although this will be slightly higher if external funds are selected.
"The managers of the stakeholder pension will invest the pension fund on Sajid's behalf in line with his attitude to investment risk, which he has confirmed to be 'medium'," adds Galley. Sajid can consider a variety of investments including equities, property and fixed-interest funds.
Short-term investment risks
As Sajid is prepared to take some investment risks in the short term to gain more capital growth in the future, Galley recommends he invests in the Scottish Widows Newton Managed fund, which is available through its stakeholder pension. "This will offer the diversity required and the potential for positive returns over the timescale to retirement," he adds.
He also points out that it is important for Sajid to review his pension on an annual basis to monitor potential changes to investment performance and ensure he is on target to achieve his required retirement income.
Galley says Sajid will also need to decide if he should 'contract out' of the state second pension, which means that some of the national insurance contributions he and his employer make are diverted into his own pension scheme instead of the state second pension. The decision depends on a number of factors, such as age, salary and attitude to risk.
The Javids' daughter, Amna, is entitled to the Government's child trust fund scheme, which means Sajid and Shaheen have a £250 voucher to invest for her, and will receive a further £250 when she turns seven. Family and friends can add to the fund with up to £1,200 a year tax-free.
Amna's parents have three choices where to invest the CTF voucher - a cash, stakeholder or shares account. "The simplest and safest option is to deposit the voucher into a straightforward cash deposit savings account, with interest rates between 5% and 6.5%," says Galley.
Riskier than a straightforward savings account, but with more potential to grow the fund, stakeholder accounts invest in a range of company shares. The advantage of stakeholder accounts is the low annual management charges. The law demands that charges are no more than 1.5% a year - just £1.50 on every £100 invested - whereas charges on a shares account are not capped. Also, when Amna turns 13, the fund will be switched into lower-risk investments.
Galley advises against the third option, a shares account, due to higher investment costs and the greater risk of dealing with stocks and shares.
Finally, neither Shaheen and Sajid currently have a will. As they have a young child, it is crucial that they contact a local solicitor to get one drawn up as soon as possible.
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