Get 7% a year income free of tax – ‘beats every single savings account’

Cost of living: Why Bank of England has increased interest rates

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Even though the Bank of England increased interest rates from 1.25 to 1.75 percent yesterday to curb inflation, savings accounts will continue to disappoint. Millions will see the value of their savings DESTROYED in real terms as prices rocket.

Yet you could get income of between five and seven percent a year tax-free inside an Isa, beating even the best savings accounts.

The catch is that you have to take on a bit more investment risk, by investing in shares or bonds.

Financial experts say everybody should have a rainy day fund of up to six months’ spending money held in cash on easy access, that they can get in a hurry.

However, longer term savings will work harder if invested in stocks and shares, which deliver a higher total return over time.

The downside is that stock markets are more volatile, as values can rise and fall at any time, and your original capital is not guaranteed.

However, if you can invest for a minimum of five years, and preferably longer, you can get a better return while reducing the risks.

A fund called Schroder Income Maximiser currently offers income of a staggering 7.02 percent a year, which you can take tax free if you buy it inside your annual £20,000 Isa allowance.

This fund invest mostly in UK dividend-paying stocks such as BP, Glaxo, HSBC and Shell, plus some international stocks.

As with all stocks and shares funds, this income is not guaranteed and could change depending on market conditions. 

The fund has an annual management charge of 0.75 per cent, which will be deducted from the income you receive.

We asked investment expert Dzmitry Lipski, head of funds research at Interactive Investor, to name his three favourite investment funds paying a high level of income. Schroder Income Maximiser was not on the list.

Instead, his first choice is Vanguard FTSE UK Equity Income Index Fund. He says this gives investors a broad spread of more than 100 income-paying stocks by tracking the FTSE UK Equity Income Index.

This reduces your risk by diversifying across a range of different companies and sectors. It yields 5.35 per cent a year.

Better still, it has a rock bottom annual fee of just 0.14 per cent, so you get to keep more of your return rather than hand it over in charges.

Lipski’s second choice was M&G Emerging Markets Bond Fund, which doesn’t invest in shares and should therefore be less risky.

This fund aims to deliver income and capital growth by investing in a diversified portfolio of government and corporate bonds issued in emerging markets such as Brazil, Indonesia, South Africa and Mexico.

This makes it riskier than bond funds targeting developed markets such as the US and UK, but it pays more income. “Claudia Calich has managed the fund since December 2013 and is very knowledgeable,” Lipski says.

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The fund is paying an attractive yield of 6.35 percent a year, according to Trustnet, which still gives you high income after subtracting the annual charge of 0.70 per cent a year.

Bond funds are less risky than stocks and shares, so your capital is a bit safer, although it will not benefit from stock market growth.

Lipski’s final high income tip is the Artemis Monthly Distribution Fund. This invests around 60 percent in bonds and 40 percent in stocks and shares.

“Blending the two combines the capital growth and income potential of equities, with the greater predictability of bonds,” he says. 

More than half of the portfolio is invested in the US and UK. “The fund is well diversified, but its simplicity and significant overseas exposure sets it apart,” Lipski says. 

The current yield is lower than the others at 4.23 per cent and you must deduct an annual management charge of 0.75 per cent.

You could get almost as much from a five-year savings bond, with Aldermore paying 3.25 per cent, but will not have access to your money in that time.

These are all reputable investment funds with a proven long-term track record. They will be more volatile than a savings account, but over five or 10 years, should be a lot more rewarding.

As with every investment, never put all your eggs in one basket and spread your money around to diversify and reduce risk.

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