This is a major question for many of my clients at the moment. Whether that’s paying off their own mortgages, helping children pay off their financial commitments or even paying off their kids or grandkids’ student debt.
Whilst we as a firm do not provide debt counselling advice, as a holistic financial planner part of my role is to help clients understand their options and make recommendations based on what’s in their best financial interests. Given this information, it may be wise for certain people who are considering investing not to (or at least not yet).
It can often be difficult to know where to start but hopefully the points below may help in getting people thinking about some of the key issues.
1. The first step should be to review and identify any high cost debt. These debts are often not a priority debt i.e. not a mortgage, tax bill or secured loan; typical examples of high cost debt would be credit cards, personal loans, store cards or an overdraft. It is important to remember, if you have high costs debts the benefit of any returns on an investment could be outweighed by the interest that is owed on your debt, so target these debts first and pay them off if you can afford it. Once you’ve cleared your most expensive debt, move on to paying your next most expensive one.
2. After any high interest debt has gone, you need to consider if you can afford to invest. At Equilibrium we remind clients that investments can fall as well as rise, so ask yourself, if I lost some or even all of the money, would I still be able to meet my essential and everyday expenditure?
3. Investments should be thought of in the long term. If you need your money for unforeseen expenditure, then I would recommend building up a safety net for any financial emergencies rather than committing to a long term investment. The Financial Conduct Authority (FCA) often recommends three months total expenditure payments. I believe there isn’t a one size fits all approach to this but I would usually suggest that this is on the low side and somewhere between three and six months’ worth of expenditure should be held back, along with any known capital expenditure over the next twelve to eighteen months. For some people this may sound a lot and for others it may not sound like much, but everyone needs some kind of emergency fund.
4. Now that all the high interest debt is gone and the safety net is in place, we are now at the stage where long term investing could be considered. By the time you reach 55, and with just over a decade to go until you get the state pension (as it currently stands), those employer matched contributions might not actually be enough to give you the retirement you’re looking for so it’s important to start saving early. There are many factors that should be taken into consideration (far too many for this simple blog) but how much to save, and where to save, are both key pieces of information. This is something we often help our clients with and the commitment to keep on estimating some likely outcomes (or goals) are crucial.
5. Take advantage of employer matched pension contributions – this is an often overlooked area which can make an enormous difference to your financial future. There are lots of different variations but here is a general example: if you are earning £50,000 per year and pay in 5% of your salary to a pension, you would have £2,500 allocated to your pension fund for the year (assuming contributions are paid from your salary before tax is deducted). In this case the employer matches the contribution and pays in the same amount of £2,500. However, the actual cost to the employee is only £2,000 (assuming 20% tax relief) for a total payment of £5,000 - without any investment risk. The government has changed the law related to pensions recently meaning all employers will need to have a similar scheme soon so it’s always worth checking and considering the different options available to you.
There are many moving parts to this process and there is no catch-all for how it should be done – an individual’s personal circumstances should dictate the most appropriate solution, as would the level of inflation and the level of salary increases in relation to the cost of the debt.
Balancing investing with paying off debt often comes down to putting your money to work as effectively as possible and ensuring each aspect is prioritised accordingly. The above points have given an overview of different factors to consider but if you would like to learn more about investing, just get in touch with us.
The information provided through the Equilibrium website is based on our opinion and is for general information purposes only. It is not, and should not be construed as financial advice.
If you are struggling with debt or require debt advice, please contact the following organisations, who are able to offer free, impartial advice on how to tackle debts:
- Citizens Advice Bureau
- National Debtline (0808 808 4000)
- Payplan (0800 280 2816)
- StepChange Debt Charity (0800 138 1111)