Investors are increasingly allocating funds into short-term government bonds (gilts) for tax-exempt income and secure returns, positioning these instruments as a safe haven.

Investors are increasingly allocating funds into short-term government bonds (gilts) for tax-exempt income and secure returns, positioning these instruments as a safe haven.

Investors are flocking to short-term UK government debt, known as gilts, attracted by the prospect of tax-free gains and a relatively safe haven for their money. A growing number of DIY investors are also purchasing these short-term gilts, as they offer higher yields than many savings accounts without long lock-up periods[1].

Last week, three different gilts were among the top assets bought by Hargreaves Lansdown platform investors, targeting yields that outperformed other savings options[1]. The T26, which features a 0.125% coupon and costs around £98 to buy, was even popular among Interactive Investors in various age categories during the first quarter of the year[1].

Retail investors are buying short-term gilts for their tax-free profits[1]. If purchased at a discount, these gilts can be redeemed at face value when they mature, allowing investors to bank legitimate capital gains tax-free[1]. Income tax is only owed on the coupons, but most of the return now comes from capital uplift instead of income, especially since the T26 was issued in May 2020 when interest rates were close to zero[1].

Proof of the growing popularity of short-term gilts can be seen in the activity on Platform RetailBook[2]. Over the past two months, the platform has seen £130 million worth of T-bill buying activity[2]. Despite not being capital gains exempt, T-bills are still attractive to investors because they can be held within an Individual Savings Account (ISA) or Self-Invested Personal Pension (Sipp)[2].

T-bills can be an appealing choice for everyday investors, as capital gains benefits of gilts are more applicable to high net-worth individuals[2]. On average, retail investors purchasing T-bills bought around £18,000 worth, with 75% citing tax efficiency as the primary motivation[2].

Why Short-Term Gilts Attract Investors

1. Liquidity: Short-term gilts offer a high degree of liquidity, making it easy for investors to access their funds if needed[2].
2. Low Risk: Considered low-risk investments, short-term gilts are less likely to default, making them attractive for cautious investors seeking stable returns[2].
3. Short-Term Objectives: Short-term gilts are suitable for investors with short-term financial goals or those who need to manage cash flow over a shorter horizon[2].

Investors can enjoy several tax benefits when purchasing gilts, including tax-free interest within an ISA, no capital gains tax, and taxable income that may be covered by the Personal Savings Allowance (PSA)[3]. As the market for gilts continues to evolve, retail investors will undoubtedly explore opportunities to take advantage of these benefits.

1. retail investors are attracted to short-term gilts due to their tax-efficient nature, as the interest earned is tax-free within an Individual Savings Account (ISA) and there is no capital gains tax needed[2,3];
2. as short-term gilts offer a higher yield than many savings accounts without long lock-up periods, they are appealing to do-it-yourself (DIY) investors looking for better returns[1];
3. investors may find short-term mortgages to be a suitable option for managing cash flow over a shorter horizon, as they provide a low-risk alternative for achieving short-term financial goals[2].

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