Should we pay off mortgage or invest in AVCs?
Q&A:My husband I save regularly and have built up a substantial amount which we currently invest in prize bonds. We get a great return on them versus putting the cash on deposit.
I am now thinking of the future and putting some of our savings to good use but I’m not sure which the best option for us is with the state pension age increasing for us.
* pay a lump sum off our mortgage which has just less than 11 years to go?
* invest in AVCs in my husband’s occupational pension. He retires in 12 years?
* invest in AVCs in my own occupational pension. I will retire in 25 years and I’m concerned that there will be no state pension at that stage?
I’d appreciate any guidance as to what area to investigate further as our age profile is unusual.
Ms S.L., Dublin
Your age profile is not that unusual. You are in your early forties and your husband in his early fifties, precisely the stage at which issues like retirement income suddenly assume a greater importance with mortgage and childcare costs generally less of a burden.
In the current climate, you are at least in the fortunate position of having a savings pot available to invest.
Your mortgage has just 11 years to go, you say. Though you don’t disclose details, it is quite possible given its outstanding term that the loan is on a tracker rate. As banks are still losing money on these, you can get some idea of just what good value they are for the borrower. Either way, home loans are generally the cheapest money you will borrow.
You appear to have no problems meeting payments at the moment; in fact, you appear still to have enough wriggle room to commit to regular savings. Thus, even if you are on a variable rate, there is sufficient breathing space to meet any rate increases. In any case, from what you say, the home loan will be paid off in full before your husband or you retire.
On the other hand, you have the option of investing in retirement income through Additional Voluntary Contributions to your pension pot. The advantage here is that you are likely to have scope to increase pension savings while availing of relief from income tax.
At your age, you are entitled to contribute a sum equal to as much as a quarter of what is called net relevant earnings to a pension pot each year and qualify for relief. For most people, net relevant earnings means your gross salary.
Your husband can contribute even more – up to 30 per cent of net relevant earnings – as he is over 50.
The important thing here is that the amount you save in tax relief will exceed the cost of servicing your home loan. So, unless, you have strong personal reasons to clear the home loan, I would suggest you focus instead on the pension side of things.
AVCs are a form of defined contribution scheme, where your eventual pension pot is determined by the investment performance of the money you invest and it is true that pension investment performance has been nothing to write home about in the past 10 or even 15 years.
However, that has been an extraordinary period for pension investment, with two collapses in stock markets, a property crash and global recession.
There is never any guarantee on investment performance – some commentators consider stocks are still overvalued – but the industry will be hoping for better returns over the next decade if they are to persuade people to invest for the long term. So, do you opt to invest in your pension or your husband’s?
It is certainly the case that the longer the investment term, the greater the benefit of smoothing – i.e. evening out the impact of short-term investment volatility.
However, a more crucial consideration is your likely financial position when your husband retires. Will there be sufficient income at that stage to live as you would choose? Does any occupational scheme of which he is a member make provision for a spousal pension after he dies? This is important given that he will be around 80 when you retire.
What sort of pension will your own occupational scheme or existing pension arrangement provide?
These are all considerations you need to address before locking in your money for 13, or even 25 years. Of course it is always possible to put some of your accumulated savings in AVCs for each of you.
Naturally, the risk profile of any investment would be affected by the investment term.If you are going to proceed with a lump sum investment in AVCs – or investment of smaller lump sums over a couple of years to maximise relief – you should certainly get some independent professional pension advice from a broker – and by independent I mean not one attached to your bank or assurance company.
Finally, there is a lot of talk about changes to pensions in tomorrow’s budget. Some change is certainly on the cards, but it is not likely to impact on most ordinary workers.
Please send your queries to Dominic Coyle, Q&A, The Irish Times, 24-28 Tara Street, Dublin 2 or by e-mail to firstname.lastname@example.org. This column is a reader service and is not intended to replace professional advice. No personal correspondence will be entered into.