The UK’s inflation rate is drifting down, falling to 5.2% in November and, despite the best efforts of the government, it is expected to remain stubbornly high for some time. This means the value of cash is being steadily eroded, consequently anyone with money in the bank ought to be thinking about investing it to offset at least some of the destructive effect of inflation.
Here we give you a brief overview of 11 investments you could look at to make better use of your spare cash.
National Savings and Investments
These government-backed schemes are as safe as they come, with no risk to your capital. As of August, direct saver and income bonds pay 3.4% interest a year and the premium bond rate is 4% with a maximum investment of £50,000. NS&I’s direct ISA pays 3% tax free and its junior ISA pays 4% tax free.
NS&I’s green bonds pay a fixed 4.2% a year for a three-year term but you may not access your money during the period.
Banks and building societies
UK financial institutions offer a huge range of savings products. Minimum deposits can be as low as £1 and many accounts do not have notice periods, allowing you to withdraw your money early. Many accounts pay more than 4% interest a year.
Pensions
Investing for retirement is a tax efficient way of increasing your capital as you don’t pay income tax on your contribution to an employer’s pension scheme. Employers are obliged to pay 3% into pension pots and your contribution should take the total to 8% a year. Furthermore, the money in your pension pot will grow over time as the investments in it rise in value. Once you are 55, you can access 25% of your pension tax free.
Individual savings accounts
These allow gains on savings and investments to be free of income tax and capital gains tax. Each tax year, £20,000 can be invested in ISAs. You can keep cash and money in savings accounts in an ISA as well as bonds and shares but bear in mind the value of your investment in the latter two could fall.
Bonds
Also known as fixed interest securities, there are two main types of bonds: government and corporate, and the annual interest rate they pay is called the coupon. In the former, also known as gilts, a bond is essentially a loan to the government in return for periodic interest payments. Government bonds are redeemed at their face value but, like corporate bonds, can be traded at more or less than their face value depending on the market’s appetite for them. Banks also offer bonds, with rates of as much as 6%, but funds must be deposited for at least a year to get the best rates. Instant access accounts are paying about 4.6% annual interest. To invest directly in corporate or government bonds it is generally necessary to have a stockbroker; however, most investment funds offers some exposure to bonds.
Property
Landlords are finding buy-to-let property considerably less profitable that before. Only 20% of mortgage costs can be set off against income tax, meaning landlords are taxed on turnover as well as profit. While rents have risen sharply in some areas, so have interest rates, added to which values are in decline. Furthermore, people buying a second or further property have to pay a 3% surcharge on their stamp duty liability. Estate agent fees are usually at least a month’s rent for finding a tenant, plus they charge periodic fees for contract renewals. In addition there are likely to be void periods, maintenance requirements, plus the service charge where the property is a flat. A landlord who also has a full time job is also likely to find some or all the rental income is taxed at the additional income tax rate of 40%. Thorough research and realistic financial assumptions are essential to avoid making a loss.
Exposure to the property sector can also be by means of real estate investment trusts (which are similar to mutual funds, below), and many funds have allocations to property. Student housing is growing as an asset class, and investment can be made via real estate and investment services firms. Student housing offers good income but less capital growth than directly investing in property; however, investments under £250,000 will not attract stamp duty.
Mutual funds
Also known as unit trusts, these enable a pool of investors to put their money into a range of shares, bonds and other securities (tradable financial assets), which are looked after by a fund manager who choses the investments. These assets are divided into units, which are bought and sold by the investors. The portfolios are diversified and are relatively safe, and their value rises and falls in line with the values of the assets in which they are invested. There is a huge range out there and investors will want to do their own research before choosing one, paying particular regard to the fees charged by the fund manager. Mutual funds may not borrow to invest, which makes them safer but potentially less profitable in rising markets, and they must distribute all their profits annually.
Exchange-traded funds
More commonly known as ETFs, these are similar to mutual funds. Essentially they are investment trusts that are traded on stock exchanges. They are many to choose between, all investing in different assets, such as indexes, sectors and commodities, with varying degrees of risk. Annual fees are levied, which eat into profits.
Investment trusts
These are ‘closed-ended’, meaning a fixed number of shares is issued when they are set up. The value of the trust can be different from the value of the assets in which it is invested, depending on the market’s view of the assets. Investment trusts can borrow to invest and need not distribute all their profits, enabling them to keep some in reserve to top up dividends in years they underperform.
Trackers
These investments often track indices, such as the FTSE 100 or they can track stock market indices in other countries or commodities, or corporate or government bonds. Because they require little management, their fees tend to be competitive.
Shares
Also known as equities, shares are direct investments in companies. You first need to set up an online trading account and can then proceed to choose the shares yourself (execution only) or use an investment service to pick them for you. It is very easy for inexperienced investors to lose money by investing in shares, and fees are charged on buying and selling them. Some people prefer to invest for income, where they are more interested in the dividends companies pay. Dividends are paid regularly in proportion to the amount of shares held and do not deplete the capital held in the company.
In choosing from the above, investors will want to consider how much risk they want to take on, what fees are paid on each investment, the ease of access to their money and the duration of their investments. As a general rule the shorter the investment period the more cautious you should be.
If you are interested in discussing the financial handling of your investments then please don't hesitate to get in touch!
