It’s important that all individuals put aside some money into a savings account. Doing so will help households to deal with any sudden unexpected costs that might crop up and will enable them to start to invest for the future. In particular, some of the key reasons why people save are to build up funds for a mortgage deposit, to put money aside for their children’s education, and to enable them to enjoy a more comfortable retirement.
When it comes to selecting which savings account or accounts to open, UK savers have quite a lot of choice. As we’ll see there are tax-free savings accounts, instant access savings accounts, notice accounts, and savings bonds. Let’s run through each of these and consider the most important features that distinguish them.
Tax-free Individual Savings Accounts:
The UK government encourages UK citizens to save by providing each individual over the age of 16 with the right to take up a tax-free savings annual allowance. Cash ISAs allow individuals to invest up to £10,680 per financial year into a Cash ISA, or £5,340 if you have also taken out a Stocks and Shares ISA. These figures are correct for the 2011/12 financial year, which runs from 6th April. In the March 2010 budget, it was announced that the annual subscription limits would increase in line with inflation in future years.
The great benefit of Cash ISAs is that you will be paid gross interest rather than net interest and the taxman doesn’t get any cut from the interest. They also allow you to withdraw and lodge money at any time, provided that you don’t exceed your allowed annual limit. Interest will be credited at the end of the tax year and you can leave your interest in the account as well as then adding the next year’s subscription limit.
Instant access savings accounts:
As well as ISAs, all banks offer instant access savings accounts. They are very straightforward accounts. You can pay in and withdraw money at any time and there is normally no restriction in terms of how much you can put in. They are not tax-free accounts, so you will be paid the Net Interest rate, and interest may either be paid on a monthly basis or once per year.
Some instant access savings accounts can be operated through a combination of branches, ATMs, telephone banking and Internet banking. However, there are also Internet only easy access savings accounts, where you would have to do an electronic transfer to your current account and then withdraw the money from your current account.
Notice accounts place a restriction on how quickly you can withdraw your money. For example, if I have my money in a 30 day notice account, I would have to provide 30 days notice of my intention to withdraw funds. If a notice account customers requires to withdraw their money without giving the full notice then a penalty fee will normally apply. Clearly, this restriction makes notice accounts a little less convenient than instant access accounts but the compensating factor is that they often pay a higher rate of interest.
For people who are prepared to set their money aside for a longer time-frame, savings bonds may be worth considering. They are normally for a fixed term (i.e. number of years) and offer the promise of a fixed interest rate. For example, I might take out a 5 year fixed rate savings bond at a rate of 4%. I have the advantage of knowing that I will get that 4% on my money no matter what base rate does. The downside is that my money is tied up and if base rate were to go up significantly I might be left earning a rate of interest that is no longer competitive. Savings bonds usually have minimum and maximum subscription amounts, and penalty fees will normally apply if the person wishes to close their account early.
Savings compensation scheme:
With the recent banking industry crisis, the fact that UK savers are protected by the Financial Services Compensation Scheme (FSCS) has become all the more pertinent. The FSCS ensures that individuals are protected on savings deposit accounts for up to £85,000 per person per firm. That’s a pretty big figure and means that the vast majority of UK savers have the comfort of knowing that they will get their money back even if their bank goes bust.
Savings versus investment products:
That completes the run through of the main types of savings accounts that you will find in the UK. It’s worth bearing in mind though that there are also a range of regulated investment products (such as Stocks and Shares ISAs, unit trusts, etc) that may also be worth considering as a home for some of your surplus cash.