Seeking income? Try an alternative

18 January 2012

Income-seekers are battling turbulent times and rock bottom interest rates - so where can they turn? There are the typical options, including corporate bonds, equity income and high-yielding shares, but also riskier routes for those who can hold their nerve.

Those willing to consider their attitude towards risk to boost their income could consider the following, more unusual options.

Investing in start-ups
You can back new start-ups through venture capital trusts (VCTs). While not every acorn grows into an oak, some do, and if you're willing to accept high risk in pursuit of high reward you may be tempted to take a punt.

Returns can be enticing. Last year, reports the Financial Times (paywall), six of top ten investment companies were VCTs, and the Generalist, Specialist Technology, Specialist Media and Aim-quoted sectors all made positive returns.

As well as tax breaks, there are income-attractions of venture capital trusts. A number are paying out yields of between 6-10%, which have the advantage of being tax-free. "A 6% yield on a VCT is worth as much as an 8% dividend yield on equities or a 10% gross interest rate to a 40% taxpayer. For a 50% taxpayer, the comparative figures are even more attractive", says Interactive Investor .

The added bonus with VCT distributions is that they do not count towards an investor's taxable income, helping the holder remain in a lower tax band. There is also the ability to offset 30% of the purchase cost of newly issued VCT shares against income tax liabilities. However, investing in start-ups during a difficult economic period is not for the faint-hearted, so seek advice before taking the plunge.

Shifting to emerging markets
‘Emerging markets' are no longer peripheral; they account for 50% of all economic activity on the planet, and the number of funds - including global and emerging market bond funds, investing in the region is gaining momentum. While emerging markets were the surprise underperformer of 2011, the future looks positive.

The risk there is that, in Asia, companies pay a percentage of earnings - not a growing dividend, like in the UK. But fund managers are optimistic of their potential.
Matthew Dobbs, manager of Schroder Oriental Income, comments: "We believe income represents a substantial portion of Asia's long-term total return, and dividend yield strategies continue to be among the strongest performing equities strategies in the region.

"In 2012, we are more likely to see companies surprise with higher dividends than expected as the extensive capital-raising activities of 2009/10 means that companies can now afford to pay out cash raised.

"In Asia, balance sheets are strong and pay-out ratios are back to historically low levels which should provide some comfort for the sustainability of dividend versus earnings.

"Historically, almost two-thirds of long-term equity returns in Asia have come from dividends. Now dividend-yield strategies continue to be among the strongest performing equities strategies in the Asian equities. They come into their own largely in the period after a crisis as investors move back towards quality companies."

Permanent income-bearing shares
Permanent income-bearing shares (Pibs) and bonds issued by building societies and banks, are tipped by some advisers, says the Daily Telegraph .

Permanent interest bearing shares (PIBs) are special shares issued by building societies that pay a fixed rate of interest. However, they cannot be sold back to the society - but can be bought and sold on the stock exchange, which means the price varies.

Yet while they can yield over 8% investors may lose capital because Pibs are not guaranteed by the building society in the same way that cash deposits are. Also, Pibs' investors are not protected by the statutory safety net of the Financial Services Compensation Scheme. Yet rates are attractive -a rates table can be found here .

Before investing, beware of the dangers. Apart from the possibility of a society failing, ifwider interest rates rise, Pibs' coupons will lose their attraction and their price could fall. There is also ‘liquidity' - meaning enough buyers and sellers for Pibs to be traded - as this can be poor so you may not be able to buy or sell at a reasonable price.

Peer-to-Peer lending
Aside from investment routes, why not try ‘social lending'? Also known as 'peer-to-peer' lending (P2P), this connects lenders and borrowers directly - with no banks in the way - and typical returns of around 8% are far above the best buys on savings tables.

These inflation-beating returns are offered by the likes of Zopa.com, Funding Circle.com, and RateSetter.com. All are regulated by the Office of Fair Trade and involved in proactive discussions to create a code of practice for the P2P industry.

The Financial Services Compensation Scheme guarantees savers get up to £85,000 of their money back if a UK bank goes bust.

Should a social lender stop trading, administrators would be required to ensure borrowers continue to repay savers.

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