Old spectre of inflation hovers in the air again

Old spectre of inflation hovers in the air again

Be afraid, be very afraid: an old enemy of people in retirement that seemed to have retreated is stalking the land again. Inflation is no joke - even in a relatively mild form, it can chip away at your purchasing power and, if you are living on a fixed income, can halve it in 15 years. There are, however, ways to deal with this problem, even if current generations seem much less aware of the threat of inflation than our parents and grandparents were.

Especially at risk are the 300,000-plus who retire each year and decide to convert a pension fund into an annuity. A 65-year-old woman retiring now with a £150,000 fund could get an annual income of more than £10,000, but if, like most people, she chose not to index-link it, she would receive that same sum until she died, with no inflation increases. At the current level of 4.1 per cent inflation in the Retail Prices Index, £10,000 would be worth £6,700 when she reached 75, £4,500 by 85 and £3,700 by the time she was 90.

Also at risk, albeit less so, are those who receive increases that are at a lower rate than actual inflation. Defined-benefit pension schemes used to be required to give inflation increases of up to 5 per cent, but that was cut to 2.5 per cent in 2005 and could be eroded further.

The basic state pension keeps pace with RPI inflation, but this is still lower than both wage inflation (which people in employment tend to get) and, arguably, the true inflation.....continued below

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rate pensioners face. So while RPI grew at an average of 4.3 per cent in 2007, costs for pensioners are expected to rise by an average of 7 per cent in 2008, according to research by the Newcastle building society.

Much inflation comes via higher fuel, food and raw material prices. World wheat prices are a staggering 90 per cent higher than they were six weeks ago, partly because of huge demand from China and India. Gas and oil prices have also soared, causing problems for the elderly, who are more likely to need the heating on during the day in winter.

If you have money to save, the obvious way to beat inflation is to go for index-linked products. But Moneyfacts, the research organisation, lists only two such products now - it thinks providers are put off by such products' complexity. Both of the products it currently lists are reasonably well regarded, however. Leeds building society's Inflation Buster Bonds - now in their fifth issue - offer RPI plus 2.5 per cent (equal to 6.6 per cent at the current RPI level). National Savings & Investments is offering RPI plus 1.35 per cent (equal to 5.45 per cent). The NS&I product is tax-free, as is the Leeds product because it is structured as an Isa. Clearly some pensioners, at least, see the value of these products - 80 per cent of Buster Bonds go to investors aged 55 or older.

· Inheritance tax is the nation's most hated tax, according to a poll published last week by Co-operative Financial Services (CFS), and as the end of the tax year approaches, Standard Life is reminding people to make use of their annual exemption for inheritance tax (IHT) - £3,000, or £6,000 for a couple, which can be given away as a gift.