Inflation rose to 2.7% in May, meaning savers face a struggle to protect the value of their money from being eroded. To match inflation, a basic rate taxpayer needs to find a savings account paying 3.38% a year, while those on a higher rate need an interest rate of at least 4.5%. And the bad news is that not a single standard savings account delivers big enough returns. Even if you do not pay tax, you will struggle to beat inflation: a five-year fixed-rate bond from First Save (paying 2.9%) is about your only option. So what can hard-pressed savers do with their cash?
Here are some options if you want to maximise your returns – but bear in mind if you are a taxpayer that not all of these beat the current rate of inflation.
Regular savings accounts
Some regular savings accounts offer a rate that works out above inflation before tax – but they are only available to customers of the banks offering them. First Direct's Regular Saver Account pays 6% AER on monthly deposits of £25 to £300 made over 12 months, while HSBC pays the same to Premier and Advance customers, and 4% to other account holders.
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Remember that only the cash deposited on day one will earn the full 6%, so if you saved £300 a month into First Direct's account for 12 months you would get back £117 before tax, a return of 3.25% (2.6% after basic rate tax). Still above inflation, but not as stunning as it might first appear.
Norwich & Peterborough's Gold Savings Account pays 5%, which does not beat inflation over the year, and this is also just for current account customers. Deposits of between £20 and £250 a month are accepted.
These accounts are good if you can commit to saving a sum each month, but to withdraw money early you will have to close the account and the amount of interest will be reduced to the rate made on the banks' standard accounts. The maximum amount you can hold is less than your Isa allowance.
Elsewhere, rates on regular savings accounts are dire – at Lloyds TSB, for example, you get just 2% – less than the bank offers on some current account balances.
While most current accounts offer no, or very little, interest to customers in credit, some do – and the rates can be better than the same provider offers on its savings accounts. Take Lloyds TSB, for instance. It pays up to 3% on credit balances in Vantage accounts – you need to be holding between £3,000 and £5,000 and to pay in at least £1,000 a month - while its best rate for adult savers is 1.9% on a two-year fixed-rate Isa.
Santander's 123 account offers a rate of 3% on balances between £3,000 and £20,000, plus cashback of up to 3% on a range of purchases. There's a monthly fee of £2 and you need to pay in at least £500 a month.
Nationwide's FlexDirect pays a hefty 5% on balances up to £2,500 if you pay in at least £1,000 each month. Its FlexPlus account pays 3% and has a £10-a-month fee.
To get the advertised rate you will usually need to make the current account your main account and pay in a set amount each month. Some savers will also be uncomfortable with keeping their savings in an account which they can easily access, particularly one where they can dip into them without even realising it if they use their debit card.
The most "alternative" alternative to savings accounts is becoming increasingly popular. These online operations allow you to generate a return by depositing money which is then made available to borrowers. They are like an old-fashioned bank, but with fewer layers between you and the person accessing your cash. There is a fee, which is deducted from your interest.
Zopa is probably the best known and has been operating for eight years. It advertises a return of 4.7% after fees for savings held for five years but the rate you actually get will depend on how much risk you are willing to take, as well as the timeframe of your investment.
RateSetter is one of the alternatives. At the moment you can get a return of up to 5.2% if you are willing to commit your money for five years. A three-year commitment can earn up to 3.9%, while lower rates are available over a month and a year.
With all of these providers, there are risks: that the borrower will default, and that the company will go bust. The former is being addressed through schemes like Zopa's Safeguard and RateSetter's Provision Fund, which shield lenders from bad debt. The latter is a potential problem as deposits lent through peer-to-peer lenders are not covered by the Financial Services Compensation Scheme (FSCS). (RateSetter does offer FSCS protection for money that has not yet be passed to borrowers.)
Another, more minor, issue is that savers will need to declare their income and pay tax directly to HMRC as none of the peer-to-peer lenders deducts tax before paying interest.
Stocks and shares
You could seek a return by putting your money in the stock market. If it's income you're after, instead of earning interest, you could look for funds that pay dividends. Patrick Connolly of IFA group Chase de Vere says UK Equity Income funds can do the job: "These often invest in large companies that are making consistent profits and paying dividends to shareholders."
Some are offering returns above inflation – he suggests investors consider Threadneedle UK Equity Income (currently yielding 3.5%), Invesco Perpetual High Income (3.2%), Artemis Income (4.0%) and the Schroder Income Maximiser fund (5.8%). "However, investors shouldn't focus solely on those funds paying the most income as this could come at the expense of capital growth," he says.
Connolly says anyone seeking income should also hold money in fixed interest investments. "It can be difficult to invest in the perceived safest forms of fixed interest, such as gilts, and still yield more than the rate of inflation," he says. "Fixed interest funds which invest only in high yield bonds can be expected to consistently yield much more, although there is greater risk to investors' underlying capital." His preferred option is strategic bond funds, and he suggests Henderson Strategic Bond (5.6%) and Jupiter Strategic Bond (5.2%).
Commercial property funds are another option as the rents being paid provide an income to investors.
The downside of stocks and shares is that your money is not protected – funds are less volatile than individual shares but you can still lose money if the fund manager makes the wrong call or the markets crash. Read Patrick Collinson's guide to starting investment for more guidance.
Connolly says: "The best approach to beat inflation, and to protect underlying capital, is to hold a diversified investment portfolio containing cash, equities, fixed interest and property.
"However, even by spreading risks, investors must accept that the value of their money can fall in absolute and real terms."