Avoid poor cash rates in Isas and Sipps

Getting a good rate on cash is important to many investors. Growth investors may want to keep a cash reserve to take advantage of market falls, while those who are drawing income from their portfolios will need to keep at least a couple of years' income in cash to protect against market falls.

But despite the government changing the Isa rules to allow transfers from stocks and shares to cash, rock-bottom interest rates are widespread on cash held in stocks and shares individual savings accounts (Isas). And the majority of brokers say they have no plans to develop better cash products for Isas.

The average Sipp or Isa account offers 0.1 per cent a year interest on cash, equivalent to a tiny £10 on every £10,000 saved. This is way below the amount you could get on your cash outside a tax-efficient wrapper, by simply holding it in a bank or building society.

The best Isa deal is AXA Self Invest which offers a 0.65 per cent on cash, while Interactive Investor and The Share Centre give customers 0 per cent on Isas regardless of the amount invested. Other brokers, such as AJ Bell, Charles Stanley and Hargreaves Lansdown offer interest rates on a sliding scale, giving better rates to customers with the most money.

For retirees deciding how to invest their pension money, this presents a major conundrum. Financial planners recommend older investors with a cautious appetite for risk should keep up to 50 per cent of their pension money in cash. For people paying an adviser to do their investments for them, this is fine, because their money is placed in Sipps through which fixed-term cash bonds with decent interest rates are readily available. But DIY investors, unable to take their money out of a pension wrapper without being taxed, only have the option of a DIY Sipp unless they want to buy an annuity.

Why are cash rates in Sipps so low?

Despite a huge and growing demand for cash bonds in Sipps, most DIY brokers would rather not allow it. This is because they are making "easy profits" on the cash investors are holding directly on their platforms, according to Phil Bray, the marketing manager at Investment Sense, a Sipp comparison website.

He claims even the smallest Sipp platforms are easily able to strike deals with banks to get an interest rate of 1 per cent rate on customers' cash, 10 times bigger than the average rate offered by big brokers.

Danny Cox, a financial planner at Hargreaves Lansdown, says bigger brokers have an advantage when negotiating with banks, because of their size.

But Ben Yearsley, the head of investment at Charles Stanley Direct, says that because banks have generally become so reluctant to lend over the past year, even big brokers are generally only able to squeeze banks for an extra two basis points by pushing for more.

He says the government's Funding for Lending scheme, which was designed to encourage banks to lend to small- and medium-sized businesses, is mainly to blame for the "abysmal" cash rates offered by brokers. On top of this, a revision to the European Capital Requirements Directive CRD4 around a year ago means banks now have less appetite for retail money on their books, further deteriorating rates for savers.

How to get a better rate for your pension cash

If you have a sizeable chunk of money that you want to hold in cash instead of risking it on the stock market, you can relax because you might be able to beat these woeful cash rates by putting it in a bespoke Sipp.

Cost-conscious investors normally wouldn't dream of putting their money in all bells and whistles Sipps, which are run by relatively small brokers. The fees associated with them tend to be significantly higher than the big DIY brokers charge, because they allow you to put unusual investments, such as commercial property, into a pension wrapper. But most of them offer cash bonds with a relatively good interest rate.

Most bespoke Sipps have a fixed annual fee and will charge a small amount to put your money in a cash bond, but if you have enough saved, the pay-off will be worth it.

For example, an investor with £50,000 to invest in cash would only get £24.10 in a Hargreaves Lansdown Sipp, even though it does not charge fees on cash. Liberty Sipp doesn't have a set-up fee but charges £150 a year for holding cash but, because it offers access to cash bonds, the same investor could get a 1.75 per cent interest rate and earn £725 after charges. Another advantage of bespoke Sipps is that they allow money to be split into separate accounts, each with £85,000 to ensure maximum protection from the Financial Services Compensation Scheme (FSCS), which is not possible with platform Sipps.

Here's the calculation you need to do to find the minimum lump cash sum you'd need to make using a Sipp with an annual fee profitable:

(Annual Sipp charge / annual interest rate on the cash account in %) x 100

If you are retiring and your money is in a pension fund splitting your funds between more than one Sipp should not cost you extra to set up, and it should be an easy process. However, if the money you want to move is already in a Sipp, moving it may not be cheap or easy. Some brokers charge hefty exit fees if you decide to move money to another company, and as Investors Chronicle reported earlier this year, investors are facing agonising five-month waits for transfers, including cash.

There may be some hope for pensioners with their cash already invested with a big broker, though. A number of them, including Bestinvest, Hargreaves Lansdown and Barclays Stockbrokers, have confirmed they are working on a range of new cash products that will give savers a better value alternative to holding cash directly on their platform. These are set to be up and running by April next year, to coincide with the government's new pension rules that will give pensioners more freedom over how they draw their pension income.

Cash rates offered by big UK brokers

Source: Investors Chronicle

Example to show how a bespoke Sipp offers better value on cash than platform Sipps

Source: Investment Sense

Assumptions: Liberty Sipp interest rate of 1.75 per cent