Risk-free investingMinimising the risks

Risk-free investment can be affected by interest, tax and inflation

Factors affecting low risk investments

Investing is all about assessing risk against reward. For many people, reducing risk to a minimum is the most important thing.

There are three key factors to take into account when considering risk-free savings: interest, tax and inflation.

Interest

The interest you earn on savings varies considerably, depending on: the type and size of investment; the length of time you are prepared to see your money tied up; and how often you need access to it.

For purposes of comparison, savers should always look at the annual equivalent rate (AER), which is the true rate of return. It assumes that you reinvest any interest you are paid monthly.

Tax

Headline interest rates tend to ignore tax and risk-free savers need to be very aware of this. Banks and building societies usually pay interest with tax deducted at the standard rate of 20%. Higher-rate taxpayers pay 40% tax.

Inflation

As a risk-averse saver, the interest you earn needs to keep pace with inflation; otherwise, your capital’s purchasing power will be eroded.

For a basic-rate taxpayer, with current RPI at 3.9%, this requires a minimum rate of 4.9% gross, and for a higher-rate taxpayer 6.5% gross. Your savings will grow only by the amount you beat this and only then if you reinvest the interest you receive.

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