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Real effects of inflation and tax on Savings

British savers still largely unaware of real effects of inflation and tax

British savers still suffer from a lack of knowledge about the effects of inflation and tax on their savings when choosing the right nest egg for their money, despite wide coverage of the credit crunch and its implications, according to research from NS&I (National Savings and Investments), the government-backed savings and investments organisation.

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Almost a third (31%) of people said that although they know what inflation is they don't understand how it affects their savings while almost one in ten (9%) said they don't know what inflation is at all.  More than a quarter (28%) of people also had no idea how tax affects their savings.

John Prout, NS&I's Sales Director said, "It is concerning that many people don't understand what inflation is, or how it might affect decisions about saving or spending money.  Inflation means that prices increase over time, so £100 today will buy you a little bit less in a year's time.  It can be caused by increases in salaries, increased demand for items or a decrease in supply which all push prices up."

Learning from experience

They say the older the wiser, and this appears to be the case when it comes to understanding inflation and tax, as the table shows:

Interest in inflation-beating savings products: Index-linked Savings Certificates

In order to protect their savings against inflation people are looking to inflation-beating products such as NS&I's Inflation-Beating Savings (also known as Index-linked Savings Certificates), suggesting a growing awareness of the effect of inflation on savings.

How do Inflation-Beating Savings work?

Index-linked Savings Certificates increase in value each year in line with inflation as measured by the Retail Prices Index - plus guaranteed fixed rates of interest, for 3 or 5 years. These fixed rates increase each year, so to get the best return overall customers should keep their certificates for the full term. This means the returns outstrip inflation and, as nothing is taken away in tax, the spending power of the investment is increased by the end of the term. Customers can cash in their certificates at any time but need to hold them for at least a year to benefit from index-linking and extra interest.

Index-linked Savings Certificates were introduced on 2 June 1975 to protect pensioners' savings against inflation when inflation was at an all time high and over 20%. Originally they were only available to 60+ and so were known as 'Granny Bonds'. Now anyone aged seven or over can invest from £100 up to £15,000 per Issue (a new issue becomes available each time NS&I changes the interest rate on Savings Certificates), and they may be bought for children under seven.

Related Links:

• Compare Savings Accounts
• Guide to making savings go further