Gauging the cost of the safety-first savings approach
National Savings & Investments could be what anxious investors are looking for. Chiara Cavaglieri reports
Sunday 09 May 2010
The political uncertainty of recent weeks may have come to a head, but as the economic drama unfolds in Greece and fears spread that the UK could face its own debt crisis, anxious investors will be looking for a safe haven.
National Savings & Investments (NS&I) has long been the first port of call for Britons looking for security. With a wide range of products to choose from, many of which are tax free and all of which enjoy 100 per cent backing from the Government, it's easy to see why.
"Premium bonds are by far our most popular savings product. There are currently more than 22 million customers holding almost £40bn of bonds," says NS&I's Gillian Stephens.
Instead of paying interest, these bonds are entered into monthly prize draws with tax-free prizes starting at £25 and winners selected at random by Ernie, the Electronic Random Number Indicator Equipment. You can invest from £100 a month – or £50 if you set up a standing order – up to a maximum holding of £30,000, which can be withdrawn at any time. But the big pull here is security. You don't lose your original investment and your money is 100 per cent safe, which is not something to be taken lightly in the current economic climate. Even better, as tax-free prizes, money invested in these bonds is sheltered from any increase in taxation.
However, as is often the case, investors seeking a safer place for their money will have to sacrifice returns. There is an enticing jackpot of £1m up for grabs but NS&I cut the number of these top payouts from two per month to just one. The monthly prize pot is based on interest paid on the total amount invested, which is currently pegged at 1.50 per cent, so each £1 bond has a one in 24,000 chance of winning a prize.
"Premium bonds are only really for those investors who do not need certainty of return. But they can work well for higher rate taxpayers who need a short-term home for some money, perhaps to pay a tax bill or because they are planning to move house," says Danny Cox from independent financial adviser Hargreaves Lansdown.
As well as the significant risk that you won't be a winner, the attraction of government backing is also questionable because the maximum investment is only £30,000. The Financial Services Compensation Scheme already protects up to £50,000 of your money invested in any other bank or building society, so as long as you don't hold more than £50,000 with one banking group, the interest rate should be your primary concern.
Another problem with premium bonds is the risk of inflation. If you don't win enough prizes to protect your savings, the real value of your bonds will decline over time and you'll actually lose money. However, another of NS&I's tax-free products, the index-linked savings certificates, offers a solution to this problem.
These pay a fixed rate of interest on top of the rate of inflation to ensure that your money keeps on top of rising prices. The latest offering is a three- or five-year bond paying RPI plus 1 per cent. For both accounts you can invest between £100 and £15,000 per issue. The only stipulation is that the bonds must be held for at least one year to be eligible for index tracking; otherwise, returns are tax-free and index-linked is added annually.
"The fact that they're tax-free means that for higher-rate taxpayers the certificates will be difficult to beat during times of inflation," says David Black from analysts Defaqto.
With the RPI now at 4.4 per cent, these accounts are faring well against other taxable investments, particularly for higher-rate taxpayers who would currently have to earn 9 per cent to get the equivalent return after tax.
During periods of low inflation, these accounts won't be anywhere near as impressive, so it's worth looking at some of the other tax-free products. The Direct ISA is one of the most impressive in the range. This pays 2.5 per cent on deposits from £100, one of the highest easy-access rates on the market. The only significant downside is that it doesn't allow transfers in and it can be beaten by Barclays' Golden ISA paying 3.06 per cent but this includes a 1 per cent bonus for 12 months.
Unlike its competition, NS&I has the advantage of extending its tax-free range beyond just the cash ISA.
"This means that they can offer a much lower rate than the banks and building societies but can still be competitive for taxpayers, especially higher-rate taxpayers," says Mr Black.
You can currently invest between £100 and £15,000 in the fixed interest savings certificates for tax-free returns on a two-year bond paying 1.25 per cent and a five-year bond paying 2.25 per cent. A higher-rate taxpayer would have to earn an equivalent gross rate in a taxable account of 2.08 per cent and 3.75 per cent respectively to match these returns which are few and far between in the current market.
However, with both accounts, early withdrawal results in a reduced interest rate. While both offer fairly competitive rates, even when you take into account the tax-free status, they are still not best-buys. State Bank of India's two-year fixed bond pays 4 per cent gross and its five-year bond pays 5 per cent gross, both on deposits of at least £1,000.
Similarly, the children's bonus bonds, designed for savers under the age of 16, pays 2.5 per cent tax-free, fixed for five years, on deposits of between £25 and £3,000, but this can easily be beaten by Yorkshire Bank's child savings bond, paying 4.45 per cent on balances of £50.
So, if investors can't expect the best rates, what is the appeal? One significant factor behind the attraction of many NS&I products is access, particularly with some of its taxable accounts such as the easy access savings account.
This pays between 0.3 per cent and 0.7 per cent (interest is paid gross so you'll need to declare earnings on your tax return) and can be opened with only £100 by savers aged 11 and over. There are no restrictions on additional deposits or withdrawals as long as there is at least £100 in the account at all times. Importantly, the account comes with a cash card that allows instant access to funds. There is also the Investment Account paying up to 0.3 per cent, which comes with a passbook, and with both accounts, savers can make withdrawals through the Post Office network, which is more convenient for many people.
Simplicity is yet another element to the NS&I range of products. The Direct Saver, for example, is a no-notice account offering an attractive rate of 2 per cent on deposits of only £1. Although this isn't the best rate available, many investors are far more concerned about finding a straightforward account.
"Unlike many of the top paying accounts, there are no temporary bonuses that will fall away sharply, nor are there any restrictions on accessing your money. Savers looking for a straightforward, no-hassle account will likely find these accounts highly appealing," says Michelle Slade from comparison site Moneyfacts.co.uk.
Michelle Slade, Analyst, Moneyfacts
National Savings & Investments remains popular with savers, particularly older people, as it's a brand they know and trust. Many of the accounts can be opened and operated in local post offices, which for some is a more convenient way of managing their money. NS&I is backed by HM Treasury, meaning all money invested with it is 100 per cent protected, which is an important factor to many savers who were concerned by the failure of Icelandic banks, among others.
Independent Partners; request a free guide on NISAs from Hargreaves Lansdown
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