'Get mortgage advice and don't use a home as collateral'

A young couple who are buying their first home want to clear all their debts and find ways to start putting money into their investments and pension funds

Richard Stone and Fiona Star decided to get married four months ago after their bands held gigs at a music festival in Oxfordshire. When her punk band, called Hub, and his indie band, The Product, came off-stage, getting married suddenly seemed like a good idea. They hope to tie the knot in late 2004.

They have been together for three years. When they are not belting out songs with their bands, Ms Star, 27, is a nanny and Mr Stone, also 27, is a manager at technology PR firm Houston Associates. Both work in south London.

Both attended the same primary school in Stafford but did not become a couple until Mr Stone returned from Liverpool University and met Ms Star on the local music scene. Since 1999 they have been renting a flat in Sydenham for £750 a month. They just bought a two-bedroom flat in Forest Hill, in south London, for £142,000, and they will move in next month.

"The repayments on this will be high, more than the rent we pay now," Mr Stone says. "But we view it as collateral, not debt. I don't think we will lose massively on a flat in London, although the housing market is likely to become increasingly less stable as the recession bites."

Their flat is well-placed for transport to central London and a new tube line is planned, which should make access even easier. "This will drive the flat's value up," he says.

Mr Stone contributes £100 a month to a CIS pension. "I realise this needs to be increased," he says. "It hasn't gone up since I was on £20,000 a year. I'm concerned about pensions. I've been nagging Fiona to get one for ages."

Mr Stone has a £2,000 student loan, paid off at £80 a month. Their credit card bill fluctuates. They feel they would rather get rid of debt before investing.

Both feel they ought to be working towards financial security. Their goal for early 2003 is to repay their debts and begin saving in an Isa. "It would also be nice to put something aside towards the mortgage," Mr Stone says. "Then when our fixed-interest period expires we can move the mortgage with confidence, and perhaps decrease its value."

In a few years, Mr Stone says there will be a management buy-out at Houston Associates. "I plan to be involved in this so again some financial security will be required," he says. "And capital may be required to satisfy investors. I'm hoping the flat will go some way towards this."

Ms Star has been a trained nanny for nine years. She used to run a nursery in Stafford and is thinking of setting up one in London. She would appreciate advice on this.

We put their case to Chris Mealing, director of MDM Associates in Leatherhead, Surrey, Colin Jackson, director of Baronworth Investment Services in Ilford, Essex, and Darryl Connor, associate sales director of Towry Law Financial Services in Bracknell, Berkshire.

Profile:

Richard Stone and Fiona Star, both 27

Occupation: Mr Stone is a business development manager at a technology PR company called Houston Associates. Ms Star is a nanny for a family in Dulwich, south London. Both are members of bands;

Education: Mr Stone has a BA in English literature and a masters degree in Victorian literature from Liverpool University. Ms Star is a qualified nanny.;

Salaries: Joint income of £50,000–£55,000 a year;

Debts: £2,000 student loan. Credit card £1,000;

Savings: None. Recently emptied Isa to help fund moving house;

Pension: Mr Stone pays £100 a month into a CIS pension;

Stocks and shares: None;

Property: Renting in Sydenham, south London. Buying a flat in nearby Forest Hill with a mortgage of £142,000;

Outgoings: (Per month) rent £750; student loan repayments £80; mobile phone £50; council tax £62; electric £30; telephone £30; gas £30; water £10.

Solution 1: Mortgage

Mr Jackson says their mortgage interest payments will be £920 per month, well above their rent. But if they went for a two-year capped mortgage with Cheltenham & Gloucester, repayments would be £773 per month. With planning, they could end up with a mortgage costing little more than the rent.

Mr Connor says they should ask an independent mortgage broker to hunt the best deal. But they need to check how "independent" the brokers are. Some companies market themselves as independent, but in reality recommend only a limited number of lenders.

Mr Mealing says they should be wary of looking at their property as an investment. Their loan is a high multiple of their joint salaries, but with interest rates at a low level this is affordable. But they could be at risk if their incomes do not rise as expected and interest rates increase substantially.

Solution 2: Savings

Mr Jackson says they should still be able to save something each month. With markets low, this could be a good time to contribute into a monthly unit trust savings plan in an Isa wrapper.

Mr Connor says their debts also need to be cleared. But the student loan is on a preferential rate, so they should give priority to paying off the credit card. Mr Mealing says Mr Stone should ensure his pension contributions are increased to at least 5 per cent of his gross annual salary, with the long-term aim of increasing them to 10 per cent. Ms Star should start contributing to a stakeholder pension, which has low charges and flexibility.

Solution 3: Management buy-out

Mr Jackson says if Mr Stone's band became successful there would probably be little time for him to play his part in managing Houston Associates. Realistically, few bands make it big but if he was lucky enough to sign a major record deal then he would have to devote all his energy to rehearsals, touring and gigs. This would not go down too well with the rest of the management at Houston Associates.

And if he intends using his home as security for the management buy-out then he would be risking his long-term future if his association with Houston Associates proved to be unsuccessful. He would still be saddled with repaying the money he raised to buy in.

Mr Connor says management buy-outs tend to be high risk. The funds are normally borrowed from venture capitalists, who want to know the management have committed all their assets and/or borrowing capacity to the project, lowering the venture capitalists's risk, and helping to add a degree of "motivation" to the managers.

Mr Mealing says Mr Stone is dangerously optimistic about the value of his property increasing to give him the ability to finance his end of the buy-out, and it would be more prudent for him to concentrate on increasing his savings to provide the necessary cash. The business plan of the new company is likely to be of more importance than Mr Stone's asset situation at the time.

Solution 4: Nursery

Mr Jackson says if Ms Star has aspirations of being a rock star then she can hardly set up her own nursery because this would require hands-on management, especially with small children. She should be wary of leaving staff in charge of something as sensitive as running a nursery. And an accountant and a solicitor should be consulted.

Mr Connor says Ms Star will need capital. If the property has been used as collateral for Mr Stone's business venture she will need to put up other assets or savings.

It also may be useful to test the water by approaching small business advisers in the high street banks, to ascertain exactly what they would need.

Mr Mealing says a commercial loan for Ms Star at this stage is unrealistic because she has no deposit. It may be more appropriate to turn to a business angel such as www.nationalbusangels.com who may be prepared to back such a venture.

If you would like to be given a financial health check-up, please write to: Wealth Check, 'The Independent', 191 Marsh Wall, London E14 9RS, or e-mail cash@independent.co.uk.