The sneaky way to beat inflation today

By Staff Writer Ruth Jackson Jul 20, 2010

Ruth Jackson

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Did you know that most UK savings accounts are actually losing you money? The average savings account pays 1.3% interest but inflation, as measured by the Retail Price Index (RPI) is running at 5%. So money invested in the average savings account is not doing what you want it to do – growing in value. Instead it loses purchasing power every day.

But at least UK savers have long had one good option – NS&I savings certificates. No more. On Monday National Savings and Investments (NS&I) announced that it was withdrawing its savings certificates from sale with immediate effect. It also slashed the interest rates on a good many other products.

Why? NS&I says too much money was coming in and that it was going too far over target. That may be absolutely true, but there are suspicions that there is slightly more too it than just the volume of savings pouring into the certificates.

The withdrawal may also have been prompted by the persistent rises in UK prices: it may be that NS&I isn't buying the Bank of England's view that high inflation is a temporary phenomenon and is keen to cut its future payout costs.

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Otherwise, it is possible that the changes are designed to placate our high street banks, most of which are facing serious funding problems, and need all the deposits they can get. They have never been thrilled by the competition offered by the state in the form of saving certificates, and right now simply aren't able to pay out anything like the 6% tax free some have been getting from NS&I.

Still, whatever the explanation, all this is bad news for savers. So without the NS&I's best-buy products, where is the best place to put your money?

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Where are the best savings rates?

In order to see a real rate of growth your savings rate needs to beat inflation after tax. If it doesn't, then in a year your money's spending power will not be as it is now. A basic-rate taxpayer needs an interest rate of at least 6.25% and a higher rate taxpayer, a rate of 8.33% to beat RPI inflation and tax.

Even if you only attempt to beat the Consumer Price Index rate of inflation (CPI) – which is lower than RPI as it doesn't include mortgage interest costs in its calculations – basic rate taxpayers would need a rate of 4%, and higher-rate taxpayers, 5.33%. Sadly, those interest rates just aren't available. So wherever you save today you have to accept that you will lose out over time.

The best rate is 4.9% – from the Baroda Max five-year fixed-rate bond. But I would not recommend locking your money up for five years when interest rates are so low – they can only rise from here. A better time period would be two years: that way when interest rates go up you won't get left too far behind. The Baroda Max two-year fixed-rate bond pays 3.8%.

If you go for a cash Isa, you need a lower rate of interest to beat inflation, as your returns aren't being taxed. But you would still need 5% plus to beat RPI and 3.2% plus to beat CPI. Sadly you can't get these rates either. The best cash Isas available are from Northern Rock and the Post Office which both pay 3% on their one-year bonds.

The sneaky way to beat inflation

However, all is not lost. There is one sneaky way to beat inflation – make the most of current account deals. Santander offers a rate of 5% on balances of up to £2,500 on its Preferred In-Credit Rate account.

You just have to pay £1,000 a month into the account – if you don't, the rate drops to 0.1% – but that money can simply bounce through the account straight into another one. Add the £100 cash-back you will receive if you set up one direct debit from the account, and that easily beats inflation.

Alliance & Leicester offers the same deal, but you can't hold an account with both banks. If you do, you'll earn 5% interest on one account and 1% on the other. Just be aware that the rate drops to 1% after a year, so be ready to move your money.

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  • 1. Stephan

    (20 July 2010, 06:05PM)  Complain about this comment

    Santander still offer a 3.2% ISA, and it's instant access. You have to hold a current account with them and go into one of their branches to open it though, as it isn't advertised online.

  • 2. CKP

    (21 July 2010, 12:33PM)  Complain about this comment

    It's high time that the authorities stop blatantly defrauding savers (most of them hard up pensioners) and allow them to earn a real rate of interest on their cash. The banks are shamelessly profiteering while savers find it impossible to maintain the purchasing power of their savings. Meanwhile the irresponsibly indebted are getting bailed out by having their debt inflated away. Yes low interests rates where temporarily necessary to stabilise the financial system, this is now not the case, stop this criminal fraud NOW. It is a national disgrace seeing how many pensioners are being forced to work the tills at Tesco in order to just get by

  • 3. John

    (21 July 2010, 02:43PM)  Complain about this comment

    The terms say:
    "5.00% AER/4.89% gross (fixed) on balances up to £2,500"

    and are very unclear about any amount over £2,500.

    Looks like this isn't an option for dumping £20,000 or so and keeping its value.

  • 4. James

    (22 July 2010, 01:19PM)  Complain about this comment

    Yes this is a good option for up to £2500. I opened the account when they were still offering 6%. I'm not sure if it still applies, but when I opened the account, I was offered a linked regular savings account, also paying 6%. Sadly, the most this will accept is £250 per month.

    Still, I keep the current account in credit to the tune of £2500 and drip feed the regular saver with £250 and earn a nice 4.8% after tax on them both.

  • 5. Andy

    (22 July 2010, 04:12PM)  Complain about this comment

    Doing a maths course I came across this formula which shows how to calculate impact of inflation on savings, the real return.

    Sum divided by 1+ inflation (as a decimal).

    Eg. Put £5100 into a 2.5% ISA and after year nominal sum is £5227.50. Take CPI, the lower measure of inflation at 3.2% and convert into decimal. =0.032. So £5227.50 divided by 1.032 = £5065.41. Inflation has not only eaten away the interest its starting to erode the capital. This is the lower index, using RPI or calculating personal inflation is even more scary...

  • 6. 4caster

    (22 July 2010, 11:25PM)  Complain about this comment

    The Santander current account looks like a good way to earn up to £125 before tax for one year by keeping close to £2,500 in the account, making sure it is funded by £1,000 per month but never allowing the balance to reach over £2,500, and then nimbly moving the money elsewhere when the year is up. If you can be bothered, I take my hat off to you.

  • 7. HeyDee

    (23 July 2010, 11:57AM)  Complain about this comment

    Seriously, what mindful reader of money week is interested in a route to making £125 per year pre tax for a shedload of administration and hassle? Are you kidding....

  • 8. Stephan

    (24 July 2010, 11:04AM)  Complain about this comment

    @7 - what mindful moneyweek reader would lose £250 per year to inflation and poor rates unnecessarily?

    Took me 10 minutes to apply and 2 minutes to set up standing orders between the accounts. No admin; no hassle. I have two with Santander, which gives immediate access to £5k in cash (contingency fund) at any one time, all of which is protected against inflation. So you can divert everything else you have into more serious ventures.

  • 9. Howard

    (24 July 2010, 12:45PM)  Complain about this comment

    Whilst it is good that Ruth is looking for ways to help us beat inflation I agree with comments 6 and 7. It's just not worth the hassle. I'd rather spend the money on some top end 2009 Bordeaux wine. The best vintages have massively exceeded inflation in the last few years. Even if this trend ends, and just keeps up with inflation, at least you'll have some nice wine to drink in the future.

  • 10. Howard

    (24 July 2010, 12:47PM)  Complain about this comment

    Oh, another thing, Santander's customer service (and A&Ls) is pretty poor, as I'm sure a lot of readers can testify to.

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