Savers advised to opt for deposit accounts

Potential savers interested in taking up the new Government Special Savings Incentive Scheme have been advised that the best returns may come from guaranteed deposit accounts. Deposit-type accounts should produce a better return for savers who were unable to continue saving for the required five-year period, according to Mr Kieran Barry, managing director of consultant actuaries, Becketts.

For savers who continue to save for the five-year term, returns on equity-based accounts may not compensate for the risk involved, he said. In an assessment of the options which will become available to savers from May 1st, Mr Barry argued that unit-linked and other equity-based savings products may not be suited to the scheme. A five-year investment period with savers saving through monthly installments might be insufficient to generate an adequate return when charges were taken into account, he said. Traditionally, a minimum 10year term was recommended for unit-linked savings plans, he added. Some special savings products are starting to come on to the market. But savers can have only one account under the Government scheme and should wait to see the full range of what is on offer before opting for any products. A flood of products is expected before the May 1st date on which the scheme starts. The 25 per cent Government subsidy is worth 8.9 per cent per annum to an investor who saves over the full five years before any interest earnings. But for a saver who saves for one year then stops, leaving the funds in the scheme, the subsidy is worth just 5 per cent per annum.

Assuming a gross deposit return of 3 per cent per annum, the risk-free return on a deposit account saved over the full five years would be 11.9 per cent per annum. With more risky investments such as equities, savers should expect a higher return for taking a risk.

To provide a return equivalent to the 3 per cent deposit return and cover charges, a unit-linked fund with a 5 per cent bid-offer spread and an annual charge of 1.5 per cent would have to produce average annual returns of 6.6 per cent. To add a 3 per cent risk premium, the annual return would have to be 9.7 per cent, Mr Barry calculated. A unit-linked fund with no bid-offer spread and an annual charge of 1.75 per cent would have to grow by 4.8 per cent per annum to provide the same returns as 3 per cent on deposits. To add a 3 per cent risk premium, it would have to produce annual growth of 7.9 per cent. Mr Barry considers these levels of projected performance challenging and feels they are unlikely to be achieved with an effective investment term of two and a half years (because the savings are monthly over five years - unlike a lump sum invested on day one - the effective term when the money is generating returns is half the total savings term). "The hurdle rates which unit-linked schemes would have to meet in order to generate a return to savers of even 3 per cent per annum above the risk-free deposit return are at the higher end of any reasonable expectations - even in excess of the generally accepted projected returns on such unitised investment products," he said. Becketts is advising its corporate clients - mainly the companies it advises on employee benefits - to channel employee plans into traditional deposit accounts or other cash-based plans rather than equity plans. Mr Barry stressed that, because the Government subsidy of 25 per cent would be effectively withdrawn if savings were not maintained in the special saving incentive schemes for the full five-year period, the full benefit of the subsidy was, in effect, deferred to the end of the investment period.

On this actuarial basis, the value of the subsidy varies according to the time the savings are made with the most valuable subsidy added in the final year, so Becketts is advising savers to pay the maximum amount in to the account in the final two years.