Investing For Income: Short-term gains, long-term view

MOST PEOPLE begin by investing for growth, but there are times when you may need income from your investments. This could be because you decide to start a family and so have to survive on one income rather than two.

When this happens, the first thing to decide is exactly how much income you need. Next look at the annual income your investments are producing. If you have invested in a unit trust in the UK equity growth sector, your fund will typically be yielding 1 to 3 per cent a year.

If you want a higher yield than your fund is producing you will need to switch into one where there may be less capital growth but the income from the fund is higher, says Vivienne Starkey, senior consultant at independent financial advisers Haddock Porter Williams.

"To take more income you must sacrifice growth. The higher the income the more growth you forego," she says.

The obvious type of fund to move into is an income fund. The typical yield on a fund in the UK equity income unit trust sector is between 3 and 5 per cent. If you have invested through a Pep, this income will be tax free and there is still the opportunity for capital growth in the fund.

If you need a greater return than this, then a UK equity and bond income fund may be better, and often the income is paid out monthly. These funds invest in fixed-interest bonds as well as equities, so the income levels may be higher, but there is less potential for capital growth (particularly with higher yielding funds). Yields are typically in the 5 per cent range.

Alternatively, investors may want to move into a UK fixed-interest fund where all your money is invested in fixed- interest assets such as corporate bonds. Income may be paid monthly or quarterly and the typical yield is 5 to 7 per cent.

For a potentially higher return, you could consider investing in the income shares of a split capital investment trust. The income on these shares is not guaranteed but, depending on the fund, can yield up to 9 or 10 per cent. These funds are able to offer potentially higher yields than others because the income shareholders make up only a percentage of the total number of shareholders in the fund, but receive all its income.

But is it worth switching out of a growth fund for more income? If you need the extra money then the answer is yes, says Bina Abel, a financial planning manager with Bradford & Bingley, the largest high-street independent financial adviser in the UK. "If possible it is best to remain with your existing investment provider as long as the income fund its offers has a good track record," she says.

This is because most fund managers will let you switch from their growth fund into their income fund free of charge. If you had to pay to do this, then you would face an initial charge of up to 5.25 per cent. If your fund manager does not offer a suitable alternative, however, then you will need to look to other funds.

Among those income funds favoured by Ms Starkey is the Newton Higher Income fund which yields 4.5 per cent. While in the fixed interest sector she likes the M&G Corporate Bond fund, currently yielding 5.8 per cent, and the CU PPT Monthly Income fund, currently yielding 6.7 per cent.

"Over the past few years there have been occasions when using an income fund and reinvesting the income would have produced better growth than using a growth fund," says Ms Abel.

If it turns out that this is what you have been doing, then start drawing out the income from the fund rather than reinvesting that income for growth.