Help - How much to pay?

login_details

This is my situation.
I am 49 years old - earn £25500/year - have an £8000 mortgage (5 years left) - a loan of £4500 @ 5.9% - a credit card balance of £2500 currently at 0% (balance transfer rate) - savings of £4500 @ 3.8% and no pension.

I am eligible for the company pension scheme (held with Sun Alliance) and am told I can put up to 15% of my gross wages toward a pension - the company will also contibute 3% of my gross wage as long as I contibute at least 3%.

Contibuting 15% would leave me with a net income of £1330/month.
Contibuting 03% would leave me with a net income of £1550/month.

My thinking is that that:
- I use my savings to clear my loan (there is no penalty to clear it early).
- Leave the mortgage to look after itself - I currently pay off £100/month.
- Leave the credit card balance to look after itself until no further 0% transfers are available.
- Start putting 15% of my wages into the company pension scheme.

However some people have said I should do differently by paying less into a pension and more into savings plans and paying off my mortgage.

Any advice will be much appreciated.

Thanks,

Steve.

EdInvestor

I would suggest you put 3% into the company pension to get the matching 3% free money, but not more.

That leaves you with the other 12%, which IMHO should be used first to clear the loan.

- Leave the mortgage to look after itself - I currently pay off £100/month.
- Leave the credit card balance to look after itself until no further 0% transfers are available.

Once the loan is cleared then get rid of the credit cards.Mortgage is fine.

After that open a mini investment ISA for 4k a year and invest this money in top quality funds with good returns via a discount broker like https://www.hargreaveslansdown.co.uk , which rebates the charges.

That way you'll maximise long term savings,some in pensions, some accessible via ISAs, and also pay less tax in retirement

Make sure you are on target for the maximum 2 state pensions as well ( could be more than 10k a year).Get a forecast here.

Note that after 65 you get an age allowance of around 7200 year, but pension income above that (incl state pensions) is taxable whereas ISA income is not.

login_details

Thanks for the reply Ed - just to clarify a couple of points:

EdInvestor wrote:

I would suggest you put 3% into the company pension to get the matching 3% free money, but not more.

I thought it was best to maximise pension contributions due to the tax relief - am I missing something here?

EdInvestor wrote:

That leaves you with the other 12%, which IMHO should be used first to clear the loan.

I was going to clear the loan with my savings. This will wipe out my savings but leave an extra £240/month in my bank balance.

EdInvestor wrote:

Once the loan is cleared then get rid of the credit cards. Mortgage is fine.

Currently the credit card debt is running at 0% interest - mortgage about 4.8%

EdInvestor wrote:

After that open a mini investment ISA for 4k a year and invest this money in top quality funds with good returns via a discount broker like https://www.hargreaveslansdown.co.uk , which rebates the charges.
That way you'll maximise long term savings,some in pensions, some accessible via ISAs, and also pay less tax in retirement

Hmm? - Would it be better to open and ISA rather than paying off my loan? I though the max was 3k a year.

EdInvestor wrote:

Make sure you are on target for the maximum 2 state pensions as well ( could be more than 10k a year).Get a forecast here.

Note that after 65 you get an age allowance of around 7200 year, but pension income above that (incl state pensions) is taxable whereas ISA income is not.

You seem to favor investment in ISA's rather than personal pension plans - is this right or have I misread your advice?

Thanks for the gov pensions link.

EdInvestor

Hi LG

login_details wrote:

I thought it was best to maximise pension contributions due to the tax relief - am I missing something here?

Since the new A day rules came in, if you're a basic rate taxpayer, it's better to take up your investment ISA allowance (use it or lose it on an annual basis) as you now have a giant lifetime allowance for your pension which can be used later

I was going to clear the loan with my savings. This will wipe out my savings but leave an extra £240/month in my bank balance.

Matter of personal choiice IMHO: some people will want an emergency fund at all times, others will want to clear a debt.

Currently the credit card debt is running at 0% interest - mortgage about 4.8%. Hmm?

I would always use spare cash to clear short term CC debt, how long will 0% last? Mortgage debt is always likely to be reasonable and manageable.

Would it be better to open an ISA rather than paying off my loan? I though the max was 3k a year.You seem to favor investment in ISA's rather than personal pension plans - is this right or have I misread your advice?

Investment (stocks and shares )ISAs can be openied for up to 4k (mini) or 7k (maxi).I do favour them over PPs for basic rate taxpayers: they have very similar tax breaks, and your money doesn't get locked away forever, like it does in a pension.

Paul_Herring

login_details wrote:

EdInvestor wrote:

I would suggest you put 3% into the company pension to get the matching 3% free money, but not more.

I thought it was best to maximise pension contributions due to the tax relief - am I missing something here?

Since you're a basic rate tax-payer, there is effectively no net tax-relief.

You get 22% tax relief when the money goes into the pension fund, and gets taxed on the way out at 22% when you get your pension (because typically your state pension will consume most of your tax free allowance. )The end result is no different to you putting your money in (say) an ISA using the same funds:

Pension fund:
£78 in, £22 tax rebate = £100.
Increases by (say) 10% = £110
Taxed on the way back out £110 - £24.20 = £85.80

ISA:
£78 in
Increases by 10% = £85.80

The only possible reasons (that I can think of at the moment) to contribute more to a pension rather than an ISA are:

1) The 25% Tax Free Cash (TFC) or Commencement Lump Sum as it's now called. Using the calculations above:
£78 in, £22 tax rebated = £100
Increases by 10% = £110
£27.50 CLS, leaving £82.50 to be taxed down to £64.35
Total: £91.85 (difference of £6.05 to above)
Sadly the tax free bit isn't guaranteed, and there's talk of it being removed (some say the name change has something to do with this)

2) You happen to be in the upper (40%) band where you get tax releif of 40% going in, but only taxed at 22% on the way out.

Possible reasons to contribute to an ISA rather than a pension include the fact that you have more control over how that money is going to provide you with an income in retirement.

The reason Ed suggests contributing 3% is to get your employer's additional 3% - if you want to compare it to tax, it's equivilent to tax relief of 100%. There's no point contributing more if you have other more immediate commitments (the loan and CC)

login_details wrote:

a loan of £4500 @ 5.9% - [...] - savings of £4500 @ 3.8%

Have you read http://www.moneysavingexpert.com/cgi-bin/viewnews.cgi?newsid1155574996,4636, ?

Tim_L

There's another theoretical reason why as a basic rate taxpayer you might want to contribute to a pension scheme rather than an ISA. This is because pension contributions are removed from the equation when working out tax credit entitlement. So by moving a large amount from savings to pension you can also qualify for tax credits at the full rate.

For many this will be a theoretical option, and I must admit that although I'm in a position to do it, I've never quite got round to actually taking the plunge. But it is a very interesting potential idea.

Similarly, one other reason for making pension contributions as opposed to normal savings and investments is that pension funds are not taken into account when calculating means tested benefits on unemployment or redundancy. This potentially avoids having to run down savings to live off if unemployed towards the end of your working life, which is not unlikely.

Fundamentally, pensions are tax wrappers for investments, with particular exit conditions (as are ISAs). The investments themselves are separate. So the key thing is to choose the underlying investments as a function of what they are needed for and then work out what tax treatment to give them. For this you do need to talk to an IFA: despite the excellence of the contributions here, basing your financial planning on the opinions of random people on the internet is about as good an idea as punting your life savings on the winner of the 3.15 at Kempton on the advice of a bloke down the pub.

Pensions as such are a bit out of fashion - I've lost count of people who have told me in my office that they're not bothering with them and would rather have the money the company puts in as additional contributions - but they are certainly not to be sniffed at.

Tim_L

PS: as far as the OP goes, I wouldn't personally be bothering clearing that loan as the rate is comparable to what you can get for savings so the two can roughly net out. I would however be making *significant* efforts to clear the credit card debt before the end of the 0% period and to fix any underlying spending problems that led to the debt. And join us on the gambling board here at MSE to learn how to do matched betting and generate an easy and risk-free tax free £500-1000 to help with this (no, this isn't too good to be true, it isn't a con, and there are plenty of MSE members who can explain how it works).