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Why money in the bank can lose value over time

Thanks to the dynamics of inflation and interest, the money you keep in your current account might be losing value over time. We look at ways to stop that from happening.

Investment Planning Guide

Is keeping money in the bank the best place for it?

Leaving all your money in the bank feels like a safe bet, especially as it carries a government-backed guarantee up to 85k. However, a lot of people don’t realise that money in the bank loses value over time. At the time of writing, interest rates are pretty poor and look set to be so for a while, so is the bank the best place for your money? Nobody wants to waste money but leaving all of it in your current account might be doing just that.

We take a look at the topic of inflation and interest rates and what economic factors affect them, how money loses value over time and how you can prevent this.

What happens when you keep your money in a current account?

We work hard to earn our money, so it’s natural to want to have it somewhere you can keep an eye on it. For most people, this means a day-to-day current account, where you wages are paid in to and your bills are paid from. Keeping your money in this one account feels simplified but this can come at a cost to your finances as your money may lose value over time.

Current accounts are not considered a saving or investment vehicle, whilst some banks might have interest applied it is likely to be at a low rate compared with savings accounts. It is even more probable that it will be lower than the rate of inflation. Nowadays some current accounts don’t pay any interest and others even charge you for the pleasure of keeping your money.

SAVINGS GLOSSARY: Inflation

Inflation is a measure of how much the cost of things increases over time. We’re all used to those little price increases at the supermarket, that’s a sign of inflation. The Office for National Statistics (ONS) keeps track of how much various things cost over time, and then works out this rate of inflation.

When the rate of inflation is higher than the rate of interest applied to your account, if you are lucky enough to receive interest, your money loses value over time.

Some people have a lot of cash built up in their current account, whether this is £100 or £10,000 inflation versus interest rates will impact on your money. If you have £10,000 in your account and earn 1% interest, you’ll have £10,100 at the end of the year. If inflation was 2%, you would need £10,200 to buy the same amount as last year, meaning you’re £100 worse off. Your money has lowered in value over that year and the interest you earned didn’t cover that loss.

If you reverse those figures and make inflation 1% and the interest rate 2%, then you’d be better off by £100. We all want to be better off financially, so how can you make sure your money doesn’t lose value over time?

SAVINGS GLOSSARY: Interest rates

The Bank Of England sets the interest rates, it’s often called the “Bank of England Base Rate” and it normally makes the news when it changes. Banks and other financial institutions will apply this base rate to their products and services. They don’t apply it directly and are free to vary their rates as they please. This is why you’ll see different rates advertised for current and savings accounts.

How can you make sure your savings keep their value?

If you want to make sure your money keeps its value and beats inflation, you’ll need to make sure it’s earning a higher interest rate than the rate of inflation.

To do this, you can put your money into savings accounts where the interest rate is higher than the rate of inflation. At the time of writing, saving rates are so low that it may not be possible to access a saving product that will beat inflation. If you’re not going to need access to the cash for a few years, you can invest your money somewhere that returns a sum that beats inflation.

The difference between savings and investments is an important one, and we’ve written more about that in our guide to investment planning.

How do savings help beat inflation?

While savings rates vary considerably, it’s usually possible to find an account that will pay more than inflation. If, like at the time this article was published, interest rates are very low you may need to seek higher yield savings accounts. These types of savings accounts often require you to leave the money alone for a set period of time, between 1 and 10 years, for the most lucrative interest rates to apply. If you pick the right saving products you can also make use of tax-free allowances.

What about investing money?

Investing your money means understanding your own risk appetite. A saving strategy is unlikely to generate a positive cash balance of more that 2% a year. When it comes down to it, investment may be the only way to reach your financial goals in the long term. There are lots of different types of investment that vary according to risk and the term of the investment, and so many investors split their investments across these various types. By having a well-planned investment strategy, your invested sum can earn returns greater than inflation.

We offer investment planning advice. Get in touch for an introductory chat.

Making the most of your money?

The balance between the sum you keep in your current account, what you save and what you invest, is an important part of managing your money. It’s tempting to simply leave it in the easily accessible current account.

As you’ve seen, this might lead to you losing money over time and not making the most of tax-free allowances available to savers.

What should I do if I want more help?

If you feel your money is losing value in your bank account you need to plan and manage a financial strategy to make sure your finances grow over time and stay healthy. If this is something you don’t have the time for or the knowledge to do, that is where we can help.

Our financial advisers can look at your unique situation, find out more about your lifestyle and money goals and help take all the worry and stress out of finding the best balance for you while helping you find the best place to keep your money.

Do you want to review your savings strategy? Or do you just want to ask some questions about what you’ve read above? Send us a message. We’d love to hear from you.

 

Article Date: 26/02/2020

Author: Cherie-Anne Baxter

Editor: Cherie-Anne Baxter

 

The value of investments can fall as well as rise, you may get back less than you invested.

Tax treatment varies according to individual circumstance and is subject to change.

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