Accounts linked to RPI
If inflation outstrips your savings interest rate, your money is SHRINKING. The cure is inflation-linked savings, which guarantee to track or beat inflation. Some are even tax-free. This is a guide to the very best of those.
We'll run through how inflation-linked savings work, what tricks to watch for, who the top payers are and the big risks.
How do inflation-linked savings work?
For a very long time savings accounts haven't come close to the rate of inflation. So you've actually been losing money, as prices are increasing faster than your savings are growing. But, for the first time since inflation records began in 1996, in April 2015, inflation was at a negative. Which means that goods that might have cost £100 last year, now cost less.
Inflation-linked savings work in a similar way to fixed rate accounts. Your money is locked away, but you're paid the percentage change in inflation. Usually there is also a fixed amount on top of this rate, so even if inflation becomes negative (deflation) - as it did in April 2015 - you'd still get some increase on your balance over the term.
Unsure what inflation is? Read our mini guide
What is inflation?
In simple terms, inflation is the measure of the rate at which prices increase. It's based on the cost of a basket of goods and services, and is calculated and published each month.
A number index is used, then translated into a percentage. So if one month the figure is 100 and the next it's 105, the rate of inflation for that month would be 5%. Published figures are for the previous month, so the percentage announced in October will be September's inflation rate.
There are two types of inflation index - Consumer Prices Index (CPI) and Retail Prices Index (RPI). Both use the same basket of goods and services, but RPI also includes housing costs and mortgage interest payments, so is usually higher. Handily, most inflation-linked savings bonds use the RPI figure.
You can find historical information on inflation rates on the Office for National Statistics website.
Ensure your savings aren't losing money
A savings account that pays less than the rate of inflation is eroding your wealth...
Imagine inflation is 5%
A shopping trolley of goods costing £1,000 this year will then cost £1,050 next year.
And the top saving account pays 3%
You put £1,000 in it, and in a year, after basic tax, you've £1,024.
What to watch out for
Unfortunately, not always. Some accounts take tax off the interest you're paid, which eats away at your gain, meaning it won't always beat inflation. But accounts from the Government-backed NS&I and any ISA inflation-linked accounts are tax-free, making them an even better deal for higher and top rate taxpayers when they're available.
It's not unheard of for inflation to go negative – known as deflation (in April 2015 inflation was negative). Luckily most account terms mean if that happens, they count the inflation rate as zero rather than negative. So if you're due to be paid RPI + 0.5%, then you'd get the fixed 0.5% interest for that time.
This varies from product to product, but is is usually one of two ways:
- The interest rate is calculated using the percentage change in the inflation index between the account start date and when it ends, so it would only be calculated using the two inflation index figures.
- The interest rate is calculated using the yearly percentage change in the inflation index. So for a five-year account, there would be five calculations over the term.
It usually is, though be sure to check the terms and conditions. So even if inflation is negative (deflation), you should still get the interest.
However be very careful - these accounts can be sneaky. While they might say you get 1.5% interest, sometimes it's a one-off payment over the whole term rather than a yearly amount. On other accounts the amount is tiered, so the average interest matches the advertised figure, but if you withdraw early you get less interest.
What are the risks?
Just because the accounts will beat or match inflation doesn't mean that they'll pay the most. They could end up being the best or a relatively poor account, depending on the economy. The main risks are:
Poor return due to low inflation. Prices could rise much more slowly, or even begin to drop, in which case your return will fall too. If, in extreme circumstances, prices are lower in five years than now, all the accounts listed guarantee you won't actually lose money, but the interest rate is likely to have been very uncompetitive.
Other savings rates shoot up. The UK's base rate is currently at an all-time low. Though if it jumps up in the short term, as some pundits predict, the top standard savings rates will too. Though it would take quite a rise for them to overtake inflation-linked bonds, it's far from impossible as the economy recovers.
Can I lose money? Even if there's deflation, with inflation-linked savings accounts will guarantee you'll get your initial deposit back at the end of the term (usually plus the fixed rate of interest). Though do read the savings safety section below for full details of how your cash is protected.
You must lock away your cash. With most inflation-linked savings you can't access your money, so you should be sure you won't need it for the full length of the term. If you think you might want your money sooner, you will need to pick an easy-access savings account.
How safe are your savings?
The safety protection depends on which type of product you go for.
National Savings and Investments (NS&I)
NS&I often offers inflation-linked bonds, but none are currently available.
This is a strange beast, totally different to every other financial institution. It's a state-owned bank, so fully backed by the government, meaning money put in there is as near to 100% safe as you can get.
While technically it doesn't have any more protection than any other institution, ultimately the protection most banks have is that if they go bust the government will bail them out. Here it's Government owned, so as it'd take the government going bust for it to be in trouble it's as safe as it gets (if the UK went bust we'd all have bigger problems!).
All other savings accounts and cash ISAs
Bank collapse was once easy to dismiss, then the credit crunch and global market turmoil hit. After the calamities hitting Northern Rock, Bradford & Bingley, Icesave and Kaupthing, every sensible saver should ask is my money safe?
The answer is simple. Provided the money is in a UK-regulated bank or building society account, it's protected under the Financial Services Compensation Scheme (FSCS) meaning...
Up to £85,000 per person, per financial institution is guaranteed.
Sadly the exact rules about what counts as 'UK-regulated', the links between institutions, and joint accounts make it more complex. For full info see the detailed Are Your Savings Safe? guide.
For large savings, to keep it 100% safe, simply spread it in a number of accounts, not putting more than £85,000 in each. In fact consider spreading money even if you've under this amount, as if you needed to claim compensation it takes time, which means you wouldn't have access to your cash. See the get 100% safety section of the Savings Safety guide for full info.
This guide and best buys
It's impossible to pick "which bank is in trouble?" Even great names of world banking like Goldman Sachs and Merrill Lynch have been in trouble. Therefore our stance is to not try to judge, but to suggest you rely on the UK savings guarantee - so we report all top rates regardless, but include any 'protection oddities'.
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