Moving up on interest
In January 2008, the Bank of England base rate was 5.5%. By 8 January 2009, it was just 1.5%, the lowest level since the Bank was created in 1694. The rate has since fallen further to 0.5%.
If your priority is income rather than capital security and instant access, the fall in short-term interest rates does not have to lead to a corresponding drop in your income. There are several ways to obtain income yields well above the 0.5% gross of base rate, including:
Guaranteed income bonds
A handful of specialist life companies offer these bonds, which guarantee income for a fixed period, typically up to five years. While income and the maturity value are guaranteed, if you need access to your capital before maturity, you are likely to receive back less than your original investment.
If you are a higher rate tax-payer, then you will have no income tax liability until your bond matures. Even then, the additional tax will be based on the net income you have received rather than the equivalent gross amount (as would apply to deposit interest).
Corporate bond funds
While short-term interest rates have been falling, the opposite has been happening to the yields available from many fixed interest securities. For example, the average rise in corporate bond yields over the 12 months to mid-December 2008 was slightly more than 2%.
The increase reflects a variety of credit crunch-related factors, but is seen by some commentators as creating an attractive investment opportunity.
Corporate bond funds can be held within an ISA, in which case there is no income tax deducted from the interest income.
UK equity income funds
The fall in share values has had the opposite effect on dividend yields. As at mid-December 2008, the average yield on UK shares, as measured by the FTSE All-Share
Index, was 4.66%. This figure is effectively net of basic rate tax.
Some UK equity funds are quoting yields of more than this, but at present all quoted yields need to be treated with caution because they are normally based on the last
year's payments. In 2009, there will be dividend cuts, and not just from the banks.
Past performance is not a reliable indicator of future performance. The value of investments and income from them can go down as well as up, and you may not get back the original amount invested.
Article provided by Equanimity IFA