Interest on savings shrinking - what can I do?
The Personal Finance Forum offers expert advice from ASM Horwath directors Alan Curry (left) and Keith Storey.
Q I retired last year and placed my lump sum in a savings account. I have watched the interest from my saving drop over the last 12 months. I need the additional income to pay for my holidays - what can I do? JS, Banbridge
Answer If you rely on income from your savings account to pay for your holidays you have been seen rates reduce from about 6% before tax to about 1% before tax. If you pay tax at the basic rate, then a further 20% is deducted from your interest.
To get better savings rates you have to spend more time reading the paper or visiting bank and building society branches to find the best deals available – for example, higher rates are available if you are prepared to lock up your savings for a fixed period ie 12 months.
To try and boost the interest you receive, ensure that you are minimising the level of income tax deducted from your savings. In the recent budget, Alistair Darling increased the limit which over 50s can invest in an ISA to £10,200 from £7,200. Of this limit up to £5,100 can be put into a cash ISA savings account. Your interest is paid without income being deducted and many ISAs will pay out your interest to you and allow you instant access to your capital.
The increased limits are only available from October 6, 2009, therefore you can deposit the maximum amount of £3,600 now then a further £1,500 after that date. If you are married, you both have ISA allowances.
But cash accounts are not the only answer. If you are prepared to accept some risk (in other words your capital will go down and up in value) you can use the balance of your ISA allowance to invest in some other types of assets such as stock and shares. These are issued by individual companies or bonds, which are fixed term loans issued by governments and companies. By holding these assets in an ISA you also benefit from the tax advantages associated with an ISA.
To spread risk, you can invest in these assets through mutual funds, where an investment manager makes the decision which bonds and equities to invest in and manages them for you. The value of investment which are linked to equities and bonds have reduced significantly in value over the last 12 months, however, they may offer the opportunity for growth and income if you are prepared to invest in them for 5 to 10 years.
With the low rates available from deposit based investments, the yields available from equity income funds or corporate bond funds may well pay out a regular income which is higher that that available from a savings account.
Mutual funds can be purchased in a tax efficient ISA, or if your allowances have been fully used, you can purchase them outside an ISA. The income will be subject to income tax and any growth may also be subject to tax.
If you do not want to take any risk with your capital, equity or bond mutual funds will not be suitable for you.