Will inflation destroy your savings?
Q: I'm trying to become a regular saver. I have some investments and contribute to a company pension, but would also like to start putting away around £300 a month to build up a rainy-day pot.
I don't mind having the money locked away but I would like to be able to keep adding to it. I'm also worried about my money being eroded by inflation.
A: It's great that you want to develop a savings habit and that you're able to put away £300 each month.
The first thing to do is use up your individual savings account cash allowance - £5,340 for this tax year. Although it's hard to find any accounts with high interest rates at the moment, if your money is in an ISA, interest won't be eroded by income tax.
You can either put a lump sum into a fixed-rate account (some of which allow you to top up your investment), or open an easy-access ISA, most of which allow you to make regular payments but offer a marginally lower interest rate.
There are also cash ISAs that track the base rate to ensure your savings won't suffer if rates do rise.
If you've already used up your ISA allowance, you can use a regular savings account. The rates offered are generally higher than those for instant access ISAs, but you will be taxed. These accounts only allow you to put a certain amount away each month.
However, it's difficult to find cash accounts to beat the current levels of inflation, with the consumer prices index at 4% in March and the retail prices index at 5.3%. All the best rates - those paying over 4.5% - can be found in long-term fixed-rate savings accounts, which don't generally allow monthly deposits.
Francis Klonowski, certified financial planner at Klonowski & Co, says: "The Skipton Building Society Regular Saver issue 2 is fixed at 3.25% for 12 months, and would suit you because you can save up to £500 a month, rather than the normal £250 limit.
"Interest is paid on maturity of the bond after 12 months, at which point it's all transferred to a Skipton easy-access account so you'll need to look for a new account with a better rate. No withdrawals can be made - if you need to withdraw your money, the account will be closed.
"The Leeds Building Society Regular Saver is also a good option, fixed at 3.05% for 12 months. You can save the same amount and also make one withdrawal in the first 12 months, but additional single deposits are not allowed."
There are limits to how much you can invest in any tax year. For 2011/12, the limit is £10,680. Of that, the maximum you can invest in cash is £5,340 and the balance of £5,340 can be invested in shares (individual company shares or investment funds). If you don’t take the cash ISA allowance, you can invest up to £10,680 into a stocks and shares ISA.
Invidivual Savings Accounts were introduced on 6 April 1999 to replace personal equity plans (PEPs) and tax-exempt special savings accounts (TESSAs) with one plan that covered both stockmarket and savings products, the returns from which are tax-exempt. The ISA is not in itself an investment product. Rather, it’s a tax-free “wrapper” in which you place investments and savings up to a specified annual allowance where the returns (capital growth, dividends, interest) are tax-exempt (you don’t have to declare ISAs and their contents on your tax return). However, any dividends are taxed within the investment, and that can’t be reclaimed.
An increase in the general level of prices that persists over a period of time. The inflation rate is a measure of the average change over a period, usually 12 months. If inflation is up 4%, this means the price of products and services is 4% higher than a year earlier, requiring we spend and extra 4% to buy the same things we bought 12 months ago and that any savings and investments must generate 4% (after any taxes) to keep pace with inflation. Since 2003, the Bank of England has used the consumer prices index (CPI) as its official measure of inflation (see also retail prices index).
This is a mutual organisation owned by its members and not by shareholders. These societies offer a range of financial services but have historically concentrated on taking deposits from savers and lending the money to borrowers as mortgages, hence the name. In the mid-1990s many societies “demutualised” and became banks. One academic study (Heffernan, 2003) found demutualised societies’ pricing on deposits and mortgages was more favourable to shareholders than to customers, with the remaining mutual building societies offering consistently better rates. In 1900, there were 2,286 building societies in the UK; in 2011, there are just 51.
Also referred to as the bank rate or the minimum lending rate, the Bank of England base rate is the lowest rate the Bank uses to discount bills of exchange. This affects consumers as it is used by mainstream lenders and banks as the basis for calculating interest rates on mortgages, loans and savings.