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The £100,000 question

A married couple aged 61 and 65, who are basic-rate taxpayers with a

cautious to moderate approach to risk, are looking to generate a reasonable

level of income from their life&#39s savings of £100,000. How should they

go about this?

Against a backdrop of tumbling stockmarkets, most income investors prefer

to sit on their hands and do nothing. But with interest rates at a 40-year

low, anyone getting more than 3 per cent net from their savings account is

firmly in the minority.

To make matters worse, given the likelihood that this money will need to

work for them for the next 30 years, even low average inflation of just 2

per cent a year would nearly halve its real value over 30 years.

Nonetheless, cash is the buffer that will protect investors when markets

fall, so I would suggest this couple keep £25,000 liquid.

Competitive interest rate consistency is key, so I would use Scottish

Widows Bank, which currently pays 4.15 per cent gross a year on a balance

of £25,000.

After April, the couple will have the option to use some of this money for

next year&#39s Isa allowance but, in the meantime, it will help ease them into

investing.

From April 2004, shares lose one of their tax benefits from being in an

Isa, so their £14,000 allowance should go into corporate bond funds.

The Threadneedle strategic bond and Aegon optimum income Isas both search

for an investment “sweet spot” by holding a spread of investmentand

non-investment-grade bonds and should deliver tax-free income of around 7.5

per cent a year.

This will help provide the clients with a reasonable inflation-beating

income over the long term.

The sum of £20,000 should go into a with-profits bond, where returns

are smoothed and can be drawn as income or rolled up for growth.

After heavy stockmarket falls, there is speculation that any recovery will

find its way to the pockets of the life office rather than the investor.

However, the Prudential with-profits bond has an asset mix of roughly 50

per cent shares and the rest mainly in bonds and property, so it will have

avoided many of the falls and will be well placed going forward. An income

of 4 per cent net a year is a reasonable starting point.

If the value of their home and other assets will push them over the

£250,000 inheritance tax threshold, then insurance bonds, such as

with-profits, can also be useful for effective tax planning.

Distribution funds offer a mix of bonds and shares, which helps reduce risk

but provides prospects for rising income and some growth, so a further

£20,000 should be invested here.

If inheritance tax planning is important, then the Axa distribution bond

would be a good choice. If it is not, then the Jupiter distribution unit

trust would be preferable as any gains will accrue to their capital gains

tax allowance, providing greater tax-efficiency.

Equity income funds look ideally placed to take advantage of some of the

sky-high dividends currently on offer so I would recommend placing

£5,000 into Credit Suisse income and £5,000 into New Star higher

income.

With the final £11,000, I would recommend the NDF selector income

& growth plan 2, option 2. This would provide a 6 per cent income for

four years and full return of capital provided the FTSE 100 never falls by

more than 50 per cent or is no lower at the end of the term than it was at

the start. There is the potential for loss of some capital if these

barriers are breached but the plan is a good way of paying an attractive

income in a flat market.

Overall, this gives the couple lots of liquidity, an overall net income of

about £4,500 a year – well in excess of a savings account – and

excellent prospects for this to rise in future years as their investments

increase in value.

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