Paul Shanon
The patient
Paul Shannon, 26, is determined to put his finances in order after finding himself trapped in spiralling debt. “Six years ago I took out a loan for £7,000 to consolidate debt on three credit cards and five store cards,” he explains. “And I had difficulty paying this off, as every time I came close to wiping it out, I was tempted by offers to increase the loan amount.”
However, he has steadily managed to slash the sum he owes, and is now paying £150 a month for a 24-month £2,800 personal loan with Abbey at 25 per cent.
“The rate is staggeringly high, but my previous loan rate was even higher and I had trouble getting anyone to lend to me after being a moron with money,” he recalls. Paul insists that he will avoid taking on any further debt once he is back in the black.
He is also £800 overdrawn on an Abbey current account at 12.9 per cent. “I always seem to be living in this overdraft, although I’m not too worried about it as the cost seems quite low.”
Paul has almost finished training to become a police community support officer, on a salary of £25,000. When he qualifies, he will be working in the upmarket London borough of Kensington and Chelsea.
He is currently renting a one-bed flat in Surbiton, Surrey, and splits the £650 monthly cost with his girlfriend.
“Ultimately I’d like to buy my own place, but that’s a long way off at the moment,” he says. “More immediately, I would like to be able to afford to buy an engagement ring.”
After all his outgoings, however, Paul finds he can’t afford to set aside any money. He starts each month with good intentions, putting £50 into an Abbey savings account. But this sum is swiftly withdrawn to pay bills and to make ends meet.
“The aim of saving is there, but I never quite manage to build up any funds,” Paul explains. He does have £100 in Premium Bonds.
For longer-term financial planning, he will soon be joining the police pension scheme, which is one of the most generous in the UK.
The cure
Fortunately, Paul is still young and able to tackle his debt before it escalates again. Our panel of independent financial advisers (IFAs) also stress that he has learnt a valuable lesson – not to bury his head in the sand, because debt doesn’t go away.
The most important step he can take towards sorting out his finances is to maintain the debt repayments, and avoid taking on further loans, and digging a deeper hole, in the future.
Debt
Consolidation loans are a tempting “quick-fix”, offering a single repayment over a fixed term. But as Paul has discovered, these convenient solutions for the debt-weary can carry very high rates – particularly if you have a poor credit score and are taking out a short-term loan.
Often, people on consolidation products have been struggling for some time to clear their debts. And if they have missed repayments then their credit rating will be poor, meaning in turn that the interest rate on the consolidation loan will be higher than normal.
However, because Paul does make regular repayments, his credit rating will gradually improve. It is unlikely he will be allowed to make any over-payments on the loan, but he may be able to renegotiate the rate in six months when his financial circumstances improve.
“The risk of these loans is demonstrated by Paul, as he took one out and ran up debt again, putting himself back at square one,” says Andrew Hagger from the personal finance advice site Moneynet.co.uk.
The advisers add that, ideally, starting married life debt-free should be Paul’s goal. Cutting back on spending now will put him in a strong position.
If he can make small sacrifices by cutting down on social activities, for example, he should be able to pay his debt down, along with his overdraft. “He should also be in a position to save for the ring – but he needs to decide what is more important,” says Adrian Kidd from IFA Unleash Advice Partnership.
And on the subject of the engagement ring: “He must only buy this when he has the money to pay for it,” warns Mr Kidd. “He must avoid falling into the same trap as before by taking a loan to cover the cost.”
While his overdraft may be at a lower rate than the personal loan, it still needs to be tackled. And a general rule is to pay off your debts before starting to save. The amount of savings income he could enjoy is dwarfed by the interest rate on the overdraft.
Savings
When Paul has cleared his debt and is able to start putting money aside, he should open a cash individual savings account (ISA) rather than continue putting money into the Abbey account. He will earn tax-free interest on this and can invest up to £3,600 during each financial year. So he could, for instance, make regular savings of £300 a month.
With interest rates currently at historic lows, Paul isn’t missing out on much by not being in a position to save at the moment. When the time comes, however, he should make sure to check for the best rates available on comparison sites such as Moneyfacts.co.uk.
“If Paul finds it difficult avoiding temptation, and tends to withdraw anything he saves, then he should consider paying into an account with a notice period,” adds Hugo Shaw from IFA Bestinvest. “This way he has to think a little harder before he pulls it out, and it could help him develop a better saving discipline.”
As a matter of course, Paul should aim to build up a savings cushion equivalent to three or six months’ salary, in case he can’t work due to ill health or unemployment.
Writing a budget will help him establish a means of slotting away spare cash, says Danny Cox from IFA Hargreaves Lansdown. “Paul should look at his expenditure over a month and he will probably find, as most of us do, that he cannot directly account for where his money goes.”
Spending should be divided into three areas to see what can be easily cut out: essential outgoings such as rent and bills; important, but non-essential, outgoings including running a car; and luxuries such as holidays and alcohol.
Retirement
The Police Pension Scheme is a government-backed final salary fund. Paul is lucky to have access to this as it is a “relatively generous” scheme, says Mr Shaw.
In the future, he could make additional contributions to boost the basic benefit.”But this may be difficult to achieve for some time, given other demands on his finances.”
Protection
Paul has no dependants, so there is no need for life cover. Meanwhile, the package on offer as a police community support officer will provide a good level of protection in the future.
“Joining the police will give him entitlements to some excellent employee benefits, including death-in-service and sickness benefits,” explains Mr Cox. This will provide a strong foundation for his financial plans, leaving him free to focus his earnings on saving and, more immediately, paying down his debts.
