FOOL'S EYE VIEW
Get Started On The Road To Prosperity

By James Carlisle
September 26, 2002

Yesterday's Fool's Eye View looked at what's often called the 'pension timebomb' and came to an unfortunate, though, unsurprising conclusion -- people currently in employment should be putting aside a far greater proportion of their pay packets. Of course, it's one of those things that's very easy to say, but much harder to do. So let's look at how to get started on the road to prosperity.

Create a monthly surplus

Mr. Micawber, in Charles Dickens' David Copperfield, summed it up by saying:

Annual income twenty pounds, annual expenditure nineteen nineteen six, result happiness. Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.

And he was, of course, stating the bleedin' obvious. But even if it is obvious, it's amazing how many people fail to do anything about it. As Micawber said -- the result will be misery. So sort out a monthly surplus.

Rough scribblings with paper and pencil is better than nothing, but there are some excellent software packages available. Once you know what's happening, it's up to you to get the expenditure down below the income -- the Living Below Your Means discussion board might help.

The bad news is that an annual surplus of sixpence isn't going to do the trick. My rough scribblings suggest you'd need to save around £300 per month over 40 years to cobble together an inflation-adjusted retirement income in the region of £20,000. If you do it over only 30 years, then it becomes £500 per month. Don't even ask about 20 years! (There's more about how much to save in this article.)

Pay off debts

More of the bleedin' obvious, but again, it's astonishing how many people do nothing about it. Out of sight, out of mind after all! So long as you don't open the credit card bill, then it doesn't exist -- right?!

Wrong! It does exist and if you leave your debts to fester they'll get bigger and bigger at an alarming rate. So if you've got any debts, make a start at getting rid of them straight away. Pay off the debts with the highest interest rates first, but watch out for any penalties on early repayment. There's more about this in the Fool's Get Out Of Debt .

The simple fact of the matter is that debts cost you more than you stand to get on any investments you make. So having both at the same time is a net loser. The only type of debt that might be compatible with investments is mortgage debt -- the reason being that mortgage interest rates are very low, relatively speaking, since you've put your house on the line. As a rule of thumb, anything that charges more than about 2% above the base rate will probably prove enduringly unbeatable and should be paid off before you do any investing.

Get some emergency reserves together

So you've got a monthly surplus, you've paid off all non-mortgage debt, next stop the stock market! Hold on a second! Investments in the stock market are not for the short-term nor for the faint-hearted. You don't want to have to sell shares to pay for some emergency repairs to your car in twelve months' time. Who knows where the stock market might move over such a short timeframe? (There's more about how much cash savings you should have in this article and more about what to do with them in the Fool's Savings Centre.)

Think about the simple things first

Investments in the stock market will bounce around a lot in the short term. That's just the way it is. The last few years have been a reminder of the patience that can be needed. If you think that a nasty stock market fall might have you selling your shares in a mad panic, then the stock market is not the right place for you.

Instead, if you're renting, build up some cash funds to use as a deposit on a home. Over the long-term, 'Being your own landlord' should reward you handsomely. Alternatively, if you already own your home, then you can get a cast iron post-tax return equivalent to the interest rate on your mortgage by paying off some of your mortgage. Cutting out the debts will increase your net worth, just as adding to the assets will.

The new breed of flexible mortgage can help you with this, since you can pay down the mortgage, but still borrow back the money if you need to. The effect is to combine your cash savings with the mortgage, so that your cash savings effectively earn interest, tax-free, at the same rate as you pay interest on your mortgage. There's more about these flexible mortgages here.)

Now it's time to think about investing

You've got yourself a monthly surplus, paid off your debts, built up some cash reserves and considered the simple investment technique of paying off the mortgage quickly. You're even comfortable with the idea of taking on a bit of risk in the stock market. Now's your moment to move on to the Motley Fool's Learn To Invest Centre.