The impact of soaring inflation and poor rates of interest will put to the test the predominance of cash Isas, the most popular variant of the tax-efficient savings vehicle.

Inflation is running at an annual 5.5 per cent in the latest figures from January and the Bank of England expects it to climb to 7.25 per cent by April. High inflation eats away at the purchasing power of cash savings, eroding even more rapidly when banks and building societies offer paltry rates of interest.

Charles Incledon, client director at financial planners Bowmore Wealth Group, adds: “At the moment keeping your money in a cash Isa means it is losing value in real terms at the fastest rate in almost 30 years.”

With inflation at 7.25 per cent, a cash balance of £20,000 earning interest at 0.01 per cent will halve in real terms after 10 years. The total balance will rise to £20,020 over that period, but the real value after the effect of inflation will be £9,942.

Yet when it comes to Isas, cash remains the most popular flavour, accounting for two-thirds (65 per cent) of money subscribed to all Isas in 2019-20 versus 32 per cent for stocks and shares Isas. The split has remained broadly constant over the past decade.

Nonetheless, for the first time in the 23 years since their introduction, there has been a substantial drop in the total holdings of cash Isas, from £295bn in January 2021 to £289bn in January this year, according to Bank of England data.

Part of that may be explained by people spending down savings in the pandemic, says Anna Bowes, co-founder of Savings Champion, a savings rate monitoring website. But she adds that consumers and banks had already begun to lose interest in the cash Isa market from 2016, when the government introduced a personal savings allowance that blunted the tax-free advantages of the cash Isa. Basic-rate taxpayers pay no tax on the first £1,000 of interest earned on savings; higher-rate taxpayers on the first £500 .

Furthermore, interest rates on non-Isa bonds now eclipse those on the equivalent cash Isas. “If you’re a basic-rate taxpayer and you’re using your personal allowance you can still earn more after tax in a bond than in the equivalent cash Isa,” says Bowes.

The “best buy” rate for a one-year cash Isa bond (with a minimum investment of £500) is offered by Shawbrook Bank at 1.35 per cent, according to finance website Moneyfacts. The rate on the top non-Isa equivalent bond is 1.71 per cent, for a bond from Al Rayan Bank with an 18-month term and a minimum investment of £5,000.

Over the past 12 months, the average stocks and shares Isa fund produced a return of 6.92 per cent, Moneyfacts says, compared with an average rate of 0.51 per cent for cash Isas. But savers may still be reluctant to relinquish the safety of cash as markets remain highly volatile.

Rachel Springall, finance expert at Moneyfacts, says: “As inflation continues to soar and the Bank of England raises interest rates, it will be interesting to see how savers respond and where they place their cash. It’s clear to see how cash Isas are being eroded by rising inflation, but consumers may not feel confident enough to invest in the stock market quite yet.”

Some may need to keep a large cash sum on hand at short notice, such as those drawing down a pension who would prefer to use cash than liquidate investments at an unfavourable moment. But shopping around is still worth it in spite of low rates.“ Though there have been two base rate rises since December, Halifax, Lloyds, Santander and NatWest all still paying 0.01 per cent on their easy access cash Isas,” says Bowes.

“If you’re going to have a cash Isa you mustn’t leave it with your high street provider . . . They are paying you as little as they can.”