If your income varies from one month to the next it can be difficult to determine your investment strategy. You might decide to put £200 a month into a diversified portfolio but find this plan is scuppered when your income drops and expenses increase.

There are several ways you can ensure your finances stay flexible while building up a nest egg for your future.

Create an emergency fund

Having an emergency fund is crucial if you have a fluctuating income. You need enough money to pay day-to-day living costs as well as unexpected bills.

Keeping the fund as cash will enable you to access your money quickly and avoid having to sell investments that have dropped in value.

It’s generally advisable to have around six months of outgoings saved up in an emergency fund.

‘Riding the wave of fluctuating income can be very stressful but having a sizeable emergency fund gives security and peace of mind, even in those weeks or months when income can suddenly fall at a moment’s notice,’ says Tom Selby, senior analyst at AJ Bell.

Figure out how much to invest

Having a cash buffer is important, but in an era of paltry interest rates it won’t help you build up a nest egg for your future. If you’ve got extra income left over, investing it in the stock market offers the greatest chance of long-term growth.

The first step is to work out what your investment objectives are – it could be saving up for your kids’ university fees, a house deposit or a comfortable retirement.

This will help you to determine how much money you need to save overall. You can then try to marry this with your fluctuating earnings.

Selby suggests investing a fixed percentage of your monthly income. This could be calculated by looking at your previous six or 12 months’ earnings. If after several months it seems too high or too low, you can alter the percentage.

You can set up a regular monthly investment scheme through your investment platform. Some providers can be very flexible; for example, AJ Bell Youinvest lets you amend your investment instructions up to 11.59pm on the night before the deal.

Selby recommends setting up a different bank account to invest from (as opposed to your current account) as the trade simply won’t be placed if the cash isn’t in your account. This is helpful if your earnings have dropped.

Decide what to invest in

You might be tempted to invest in the highest dividend-paying investments in an effort to boost your monthly income, but that might not be the wisest move.

Patrick Connolly, head of communications at Chase de Vere, says the investment principles of using tax-efficient wrappers and an asset allocation strategy that meets your objectives and attitude to risk apply whether you have a fluctuating or a fixed income.

In fact, he says most working people shouldn’t be using investments to supplement their income unless they’re approaching retirement and phasing down their workload. ‘They should be focused on building assets to help cater for their later years,’ he adds.

Putting your money into dividend-yielding investments could be helpful if you’ve already built up a large portfolio.

‘If you have capital and are looking to stabilise your income then this is a good option. However it might not be best advised if you are looking to make regular ongoing savings into a plan as you may just end up recycling income from one investment to another,’ says Oliver Smyth, wealth management consultant at Walker Crips.

Don’t forget your pension

If you’re self-employed you won’t be automatically placed in a company pension scheme. This means you don’t benefit from employer contributions and are completely responsible for setting up your own pension.

Many self-employed people consider their business to be their pension, but this can be risky.

‘A self-employed person who relies on growing their business to fund their retirement is essentially putting all their eggs in one basket,’ warns Selby.

‘If the business fails, they will have nothing to fall back on in old age, other than whatever state pension entitlements they have built up.’

Although you don’t get employer contributions, pensions are still a valuable way of saving for your retirement. You get tax relief on contributions and your money grows free from tax. When you withdraw money after age 55, one quarter of the pension can be taken as tax-free cash and the remainder is taxed at your marginal rate.

Be careful if you’re a higher earner

Most people’s annual pension allowance is equivalent to their earnings, up to a maximum of £40,000.

But this is restricted for people with taxable income in excess of £110,000. You have to calculate your ‘adjusted income’ (income plus pension contributions) and for every £2 that is over £150,000, your pension allowance is reduced by £1.

Dan Brent, consultant at Thomas Miller Investment, warns people with fluctuating incomes could accidentally pay too much into pensions one year and subsequently incur charges. If you’re unsure, speak to a financial adviser.

Pensions aren’t the only way to save for retirement. You can invest up to £20,000 a year into ISAs, enabling your money to grow free from income tax and capital gains tax. (EP)

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