National Savings re-introduces Index-Linked Certificates
Saving | National Savings
By Justin Modray, published 12 May 2011.
National Savings' popular tax-free inflation-linked savings are back, are they worth buying?
National Savings & Investments (NS&I) Index-Linked Certificates are back on the market after being withdrawn in July 2010.
The new 48th issue will pay inflation (measured by the Retail Price Index) plus 0.5% over 5 years. This look a bit stingy given the rate was RPI & 1% when withdrawn, plus there's currently no 3 year option. But returns are tax-free and the allowance is a generous £15,000 per issue.
How do they compare?
There isn't any direct competition because the tax benefit is unique to NS&I. But we can compare to the couple of taxable inflation-linked savings accounts and cash ISAs currently available. To make a realistic comparison I've assumed average annual inflation of 3% over the next 5 years.
|Account||Equivalent Gross Annual Return Assuming 3% RPI|
|Non-Taxpayer||Basic Rate Taxpayer||Higher Rate Taxpayer|
|NS&I Index-Linked Certificates 48th Issue
|BM Savings Inflation Rate Bond 2
|Yorkshire BS Protected Capital Account 5
Note: BM Savings has a slight advantage by paying interest annually, so you could earn more interest on the money elsewhere until maturity - figures above don't reflect this.
The potential NS&I Index-Linked Certificate returns look appealing for higher rate taxpayers but are slightly lower than BM Savings for basic rate taxpayers. And I really wouldn't touch Yorkshire Building Society's product, which is a structured product offered via Credit Suisse - see my review here.
Comparing to conventional variable and fixed rate savings accounts is more tricky, as future inflation will determine which turns out to be best. I think average annual RPI of around 3% over the next 5 years is fairly realistic, so you could compare current 'best buys' of around 3% variable or 5% fixed for 5 years to the above (although you'd need to factor in possible interest rates rises to the variable account).
What matters is future inflation, not past
Inflation is currently high, RPI increased by 5.3% over the year to March. But that's largely irrelevant when considering inflation-linked savings, what matters is inflationary changes moving forwards - specifically over each of the next 5 years.
Current high inflation is largely due to rising energy and food prices, both directly and from pushing up the costs of other goods and services. Predicting the future is difficult - food prices are influenced by climate and Middle Eastern tensions coupled with global economic uncertainty will likely cause continued energy price volatility. But I think there's a reasonable chance the prices of both will subside over the next couple of years, in which case inflation will likely fall.
For a more in depth analysis of rising inflation please see my previous article - little has changed. And to see why I don't believe interest rates will rise by much (if anything) short term in response to rising inflation, see this article.
Are Index-Linked Certificates worth buying?
If you think inflation is here to stay and have savings then the outlook is grim, as at current rates savings are moving backwards after inflation (i.e. in real terms) - especially if they're taxable. So the re-introduction of Index-Linked Certificates will be music to your ears, particularly if you're a higher or top rate taxpayer.
Personally I won't be rushing to buy some. I'm not convinced inflation will remain high over the next year, let alone the next 5. And interest rates will probably rise at some point (albeit not soon). But if you're a taxpayer prepared to tie up cash for up to 5 years then hedging some of your savings against sustained high inflation (after all, I might be proved wrong!) seems sensible.
Cashing in early
As 'pvcdoc' was kind enough to point out below, NS&I is quite generous if you decide to withdraw Index-Linked Certificates before maturity. While you simply get back your original investment when withdrawing before the first anniversary, therefater you'll receive the last anniversary value plus the fixed bonus and any positive index-linking for each complete month held since then. The fixed rate bonus isn't 0.5% a year throughout, it starts at 0.25% for the first year and gradually rises to 0.86% in the final year to average 0.5% annual interest overall. Nevertheless, it does mean the worst case scenario is a one year 0.25% tax-free return (better than the majority of savings accounts, although a lot lower than 'best buys') - if inflation is low/negative at that time you can just withdraw your money.
So unless you expect inflation to fall quickly over the next year, there doesn't seem much downside to putting cash in Index-Linked Certificates for taxpayers. But please don't expect interest based on March's 5.3% RPI - as I mentioned above, using past inflationary rises to estimate returns is very misleading! Returns will only depend on price changes (i.e. inflation) moving forwards.
You can read more about Index-Linked Certificates on our National Savings page.
And our Index-Linked Certificates Calculator illustrates equivalent gross returns based on an assumed inflation rate.
Readers' Comments (10) - To post a comment please register or login
Comment by pvcdoc at 6:10pm on 12 May 2011:
Saving Certificates are not rigid fixed-term products - you can access your money early, unlike some fixed-term bonds.
Also, since RPI usually runs a little ahead of CPI, these figures are really assuming that the Bank of England will more-or-less hit its inflation target throughout the next five years.
Comment by rafferty at 6:48pm on 12 May 2011:
They can be cashed in at any time although there's a penalty of the loss of all index-linking and interest if done during the first 12 months and the return is just RPI + 0.25% for the first year (averaging out at +0.50% over the 5 years). So a better comparison might be with 1 yr fixed rate savings accounts which are currently paying up to 3.5%. Anyone not using their cash ISA allowance might want to consider that route too.
Comment by justin at 10:38am on 13 May 2011:
Thanks, yes, these are points I should have mentioned (in fact, I've just added to article).
The actual annual bonuses, which average 0.5%, are:
1 - 0.25%
2 - 0.35%
3 - 0.40%
4 - 0.65%
5 - 0.86%
If we guesstimate removing the impact of food/energy price rises from March CPI of 4% then I reckon it would be below 2% - so I don't think assuming 3% RPI medium term is unrealistic. We could even see deflation if food/energy prices do fall over the next year as I don't envisage many other inflationary drivers in our fragile economy. But, as I mention in the article, trying to predict food/energy is v difficult!!
Just checked gilt yields - breakeven rate on 2016 I-L gilts is 2.83%, i.e. this is what the market reckons average annual RPI will be over the next 5 years...
Comment by rafferty at 8:04pm on 13 May 2011:
I suspect you'll having a hard time convincing some people it's not a cash give away after they've read some of the hype already out there.
This is one of several ThisIsMoney headlines:
"Thousands scramble for NS&I's '9% rate'
...When tax relief is added, the present interest rate rises to the equivalent of 7.25% for basic-rate taxpayers and 9.67% for higher rate taxpayers....."
The article says: "For example, if you withdraw after one year the interest rate falls to inflation plus 0.5%." when the actual figure is 0.25%. Some excitable articles in the broadsheets have been just as misleading.
Doing it on my fingers, a basic rate payer will need the RPI to have increased by about 2.6% and a higher rate payer by 1.9% by next year to beat 1 yr fixed rate accounts now offering 3.5% gross. I've seen a couple of '25% off everything' offers in shops this week which we could see more of as the squeeze tightens and would further pull down inflation. So probably a reasonable option for a chunk of savings for the short term, especially for HR payers, and whatever happens it will give a small positive return of between 0.25% and 0.5% free of tax.
But there might be a few complaints if they don't get their 9%. :)
Comment by StrawberryKing at 10:59am on 14 May 2011:
Just heard Justin might be on Radio 4 today at noon talking about NS&I. Hope to hear some good pros and cons. I still don't see they're worth buying
Comment by totallylost at 12:19pm on 15 May 2011:
New NS&I Savings Certificates.
Is this deal as clear as the papers suggest or is it likely to lead nowhere fast? On reading all the available blurb I'm totally lost as to what it is actually saying.
Using a practical example to ask the simple questions - What is really in it for me?
March 2011 rpi = 5.3%. Invest £10000 May 2011.
March 2012 rpi = 5.3%
On anniversary, May, do I get £10000 + 5.3% + fixed % of .25%?
or do I get £10000 + 0% + fixed % of .25%?
If rpi March 2012 = 5.4%
On anniversary, May, do I get £10000 + 5.3% + fixed % of .25%?
On anniversary, May, do I get £10000 + 5.4% + fixed % of .25%?
or do I get £10000 + .1% + fixed rate of .25%?
With the possibility of the government manipulating the rpi ahead of the budget is it sensible to make the anniversary date before the budget or wait until reality kicks back in?
Comment by justin at 9:22pm on 15 May 2011:
Hi 'totallylost'. The key thing to understand is that RPI is actually a single figure (index) that represents the cost of a basket of goods (which is used to measure the change in prices over time, i.e. inflation). I know it's common to refer to RPI at a percentage, e.g. 5.3%, but this is really the change in RPI over the last year.
Let's suppose you invest now, NS&I will use the March 2011 RPI of 232.50 as a starting point (they use RPI from 2 months before you invest). If prices rise by 5% between March 2011 and March 2012 (i.e. RPI rises to 244.12), then you'll receive £10,000 + 5% (RPI change) + 0.25 (bonus) = £10,525. March 2012 RPI of 244.12 is then used as the starting point for the next year and so on...note: the annual bonuses increase each year to give an average of 0.5% compounded over the 5 years.
The worst that can happen is that prices fall over the year, i.e. March 2012 RPI is less than 232.50, in which case you'll just receive the 0.25% tax-free bonus.
To match the 'best buy' 1 year fixed rate cash ISA of 3.3% then RPI would need to increase by 3.05% over the year (plus the 0.25% bonus).
The main influence the Government has on short term inflation (i.e. RPI) is VAT, I doubt this'll change in the next Budget. By far the bigger impact has been higher food and energy prices, but these are rather unpredictable. My gut feeling is that they (and inflation) will fall over the next year, but I may well be wrong...
I hope this makes more sense, but feel free to post a follow up if it doesn't.
Comment by totallylost at 12:15pm on 16 May 2011:
Thanks for clearing it up for me. The switch from % to 232.5 and 224.12 threw me a bit but my wife sorted that out.
As I read it, if, in late April 2012 that nice man on radio 4 tells us that the RPI for March (2012) was any % greater than zero then I can add that % plus an additional .25% to my base investment to give my new total investment for the following year.
If the nice man is not so nice and tells us the % is zero or less then I only get to add the .25%.
That now makes sense, thank you.
All I have to do is work out if 'Call Me Dave' is as adept as that nice Mr Blair and his sidekick Mr. Brown at manipulating the factors that affect RPI so that at the next election inflation is way down and he can say 'Whosa clever boy then?' Cynical? Moi?
In summary, it is probably not worth using money that is in, or could go into an ISA to fund a purchase but if it is going to sit in a current account with 0.01% interest there is little, if anything to loose.
Comment by rafferty at 10:42pm on 16 May 2011:
I've just listened on iPlayer to Justin's explanation of these accounts on Saturday's edition of BBC Money Box which I missed. Should be helpful to anyone still confused about them. Link
Comment by pvcdoc at 4:34pm on 17 May 2011:
Many thanks for your comments and clear explanation, Justin.