14 rate rises in a row: How rising interest rates could affect your savings

On 3 August 2023, the Bank of England (BoE) raised the base interest rate from 5% to 5.25%, a level last seen 15 years ago, in February 2008.

The good news is that the 14th successive rise since December 2021 wasn’t as steep as the 0.5% increase the BoE made in June, indicating that the successive rate rises are having the desired effect on inflation.

Indeed, in the year to June 2023, the UK inflation rate was 7.9%, down from the 41-year high of 11.1% in October 2022.

Historically, when inflation starts to rise too much, interest rates are increased as it helps deal with one of the main drivers of inflation: consumer demand. This is because higher interest rates encourage people to save their money instead of spending it on goods.

In time, this should help bring down the price of goods and services, thereby lowering inflation.

The chart below tracks inflation and interest rates from January 2018 to May 2023. The blue line represents the level of inflation. You can see that increasing interest rates started to have the desired effect in October 2022.

Source: Statista

With all this in mind, how could rising interest rates affect you and your money?

Good news for savers

Interest rate rises are good news for savers, as they usually result in higher savings rates offered by banks and building societies.

According to Moneyfacts, the highest interest rate on an easy access savings account as of 7 August 2023 was 4.65%.

While banks are generally good at passing rate rises down to consumers, the interest you can earn on your savings is still less than the rate of inflation.

It’s wise to keep a pool of money in an easy access account as a ready emergency fund, but holding more cash in the bank than you truly expect to spend, isn’t necessarily the best course of action. This is because, over time, the effects of inflation can harm the real term value of your cash.

Your circumstances will dictate how much you might want to hold in cash. We can help you understand the balance that might suit you and explain alternative ways to grow your savings and work to prevent your buying power being diminished by inflation each year.

Watch out for potential Income Tax charges on interest earned

Everyone has a Personal Savings Allowance (PSA) that limits how much interest you can earn before having to pay Income Tax.

Now that the base rate has climbed to 5.25%, it’s likely that your cash savings are earning substantially more in interest than they were a year ago. If you have a lot of cash in the bank, this uptick could increase the chance of you incurring an unwelcome tax charge.

In 2023/24, the PSA allows:

• Basic-rate taxpayers to earn £1,000 interest during the year before paying Income Tax.
• Higher-rate taxpayers to earn £500 before paying Income Tax.

Any interest earned that exceeds your PSA will be liable to Income Tax at your marginal rate.

If you’re an additional-rate taxpayer, you do not have a PSA. This means that any interest you earn on your cash savings is taxable at 45% in the 2023/24 tax year.

If you are unsure whether you might have to pay tax on interest you earn following the spate of interest rate rises, please get in touch. We’ll help you understand your situation and discuss alternative options for your cash savings.

Investing with a long-term view could beat interest rates on savings and help protect your buying power

Over time, investing in the stock market can be a good way to hedge against the effects of inflation.

While equity investments will always be affected by short-term fluctuations, if you remain calm and hold a diverse portfolio, investing could help protect your wealth from the eroding effects of inflation.

For example, Times Money Mentor reports that, as of June 2023, over the past 30 years, with dividends reinvested, the average annual return for the FTSE 100 was 7.3%. This compares favourably to the 2.1% average annual growth in inflation over the same period.

Remember though, past performance is not a reliable indicator of future performance.

The typically positive compounding effects of equity investments is one of the most popular reasons to work with a financial planner.

After understanding your circumstances and goals, we can help you build a well-diversified portfolio that considers your risk profile and takes a holistic view of your financial situation.

Your retirement income could be affected

If you’re approaching retirement or have already retired, you may have concerns about how your pension might be affected by rising interest rates.

The effect of the rate rises will depend on how your pension is invested.

Many pension funds are at least partially invested in bonds, which often fall in value when interest rates increase. As a result, during times of higher interest rates, you may find that your pension pot doesn’t grow as quickly as you might like.

One way to benefit from higher interest rates might be to buy an annuity.

According to a PensionsAge report, annuity rates have increased by 20% in the 12 months to June 2023. Since the start of 2022, the total increase adds up to 48%.

An annuity can be a helpful way to secure a guaranteed income in retirement. However, this solution may not be suitable for everyone and can’t be changed once you’ve purchased it, making it crucial to speak with your financial planner before you commit to a deal.

Get in touch

If you’re concerned about how the recent interest rate rise will affect your finances or want to find out how you can make the most of the options available to you, we’re here to help.

Email us at hello@bluewealth.co.uk or call us on 0117 332 0230.

Please note

The content of this newsletter is offered only for general informational and educational purposes. It is not offered as, and does not constitute, financial advice.

A pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits.

Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor.

The Financial Conduct Authority does not regulate tax advice.

The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.

Blue Wealth Ltd is not responsible for the accuracy of the information contained within linked sites.

Blue Wealth Ltd is an appointed representative of Best Practice IFA Group Ltd, which is authorised and regulated by the Financial Conduct Authority.