Avoid being stung by sneaky fees (part two)
No matter how competitive a deal looks on the surface, reading the small print is vital if you don't want any nasty surprises. Many financial companies bury fees and extra charges deep in the small print - and it's up to you to make sure you know what these are.
And they aren't the only ones...
With the heavily publicised High Court case, you’re probably familiar with the main penalty levied on current accounts - the extortionate bank charges applied when you exceed your agreed overdraft limit, or issue a direct debit or cheque that bounces.
Another current account charge is a monthly or annual fee if you have packaged account. These accounts offer a range of extras, such as travel insurance, ID theft insurance and breakdown cover. However, they can cost up to £150 a year and are only really worth it if you intend to use the perks.
Even if you do, the insurance policies included don’t tend to be very comprehensive so you’ll often need to pay out to top up the level of cover anyway.
If you are considering a packaged account or already have one, weigh up the value of the extras you are paying for and consider whether you can get them cheaper elsewhere.
In an account when your money is supposed to grow, you’d be forgiven for thinking your cash would be protected from penalties, but that’s not always the case.
The main one to look out for is on regular savings accounts that require you to put away a certain amount each month to earn the advertised interest rate. Miss a month and you could be penalised by not receiving interest in that month.
You could also lose interest if you make a withdrawal during the 12-month term, a common penalty for fixed-term accounts. Some accounts are less restrictive and allow a certain number of withdrawals, but penalise you if you make more. The way to avoid such fines is to not get seduced by the headline rate, and think carefully about how you intend to use your savings account before choosing one.
If you’re building up an emergency savings stash, it makes sense to go for an easy access, no-notice account, to avoid being hit with a penalty if you actually need access to the funds in an emergency. Equally, only opt for a regular saver account if you have the commitment to see it through. Setting up a direct debit to transfer the money on payday is a good idea, so you don’t get the chance to spend it.
Looking beyond headline rates will also help identify those accounts offering bonus rates. Many providers do this to top the best buy tables to attract customers, only to drop to meagre levels after six or 12 months.
Another sting to look out for is cash ISA transfer fees. If you decide to swap to another provider offering a better rate, simply withdrawing your funds will lose the tax-efficient wrapper, so you’ll need to transfer them by filling in a form.
However, in an attempt to hold onto customers some ISAs levy an admin fee for transferring out - while some ISAs don’t accept transfers in, including many of those at the top of the best buy tables.
Fees and penalties become a little more complicated with investments, because they vary considerably across the board.
One of the biggest stings is a ‘market value adjustment,’ which is often applied to with-profits funds if you want to get your hands on your cash before the policy has reached maturity. It is basically an exit penalty applied at the discretion of the provider, normally during poor market conditions, to discourage investors from rushing to withdraw their funds.
The size of the MVA will depend on the provider and the size of your fund, but it can make a bit dent in the sum you receive so it’s important to find out how much it is and weigh up the loss before cashing in your fund. Some with-profits policies allow investors to withdraw funds on certain days without incurring a surrender charge. These are called ‘spot guarantees’ or ‘MVA-free dates’ and will be detailed in the terms and conditions of your policy.
Charges are also applied to collective investments, such as unit trusts and investment trusts, which pool investors’ money to invest in companies listed on the stockmarket.
Unit trusts have an annual management charge (AMC) of around 1% of your investment, in addition to initial charges of between 3% and 5%. Investment trusts have lower charges; AMCs are usually between 0.5% and 1% and they don’t have levy initial charges.
While at 1%, an AMC that pays for the expertise of a fund manager might not seem like much, the compound impact of annual charges can affect the value of your investment over time. For example, before charges, investing £100 a month in a fund growing at 7% a year over 20 years would be worth £52,093. Factor in AMC at 1%, and the fund value would fall to £45,564.
Lower charges often make investment trusts more attractive to investors, but experts warn against making investment decisions based on cost alone. It’s important to take other factors into account, such as the fund’s objectives and your attitude to risk.
When it comes to tracker funds however, it makes more sense to opt for the cheapest. This is because although they also levy AMCs of up to 1%, there is no manager skill involved; trackers simply follow an index so paying high management fees are a waste of money.
Using a discount broker or fund supermarket is a good way to cut costs, because like normal supermarkets – they offer discounts to customers. Initial charges with fund supermarkets, such as Interactive Investor and Fidelity Funds Network are slashed to around between 0% and 1.25%.
A savings account on which the account holder is required to give a period of notice before making a withdrawal or face a penalty, usually a loss of a specific number of days’ interest or pay a fee. Notice periods of 30, 60 or 90 days are common. These accounts usually pay higher than average interest rates and require large initial deposits (£1,000 minimum) so the notice period and penalties are there to discourage withdrawals. Some of these accounts will only allow a certain number of withdrawals a year.
An overdraft is an agreement with your bank that authorises you to withdraw more funds from your account than you have deposited in it. Many banks charge for this privilege either as a fixed fee or charge interest on the money overdrawn at a special high rate. Some banks charge a fee and interest. And other banks offer a free overdraft but impose very high charges for exceeding the agreed limit of your overdraft.
Also known as index funds, tracker funds replicate the performance of a stockmarket index (such as the FTSE All Share Index) so they go up when the index goes up and down when it goes down. They can never return more than the index they track, but nor will they lose more than the index. Also, with no fund manager or expansive research and analysis to pay, tracker funds benefit from having lower charges than actively managed funds, with no initial charge and an annual charge of 0.5%.
The ISA rules allow investors to transfer money from an uncompetitive savings account with one provider into one from another provider that pays a better rate of interest. The bank to which you are transferring the money must do the transfer process, as withdrawing the money from the ISA wrapper means you lose the tax-free status. You can transfer a cash ISA into a stocks and shares ISA, but not the other way around and the current tax year’s cash ISAs must be moved whole to a single provider, but previous years’ ISAs can be split between new providers.
Regular savings accounts
The attraction of these accounts is the high interest rate they pay. They require customers to deposit money each month, without fail. They come with a number of restrictions, such as monthly deposit limits, no one-off lump sum deposits and restricted withdrawal facilities. Although they are marketed with impressive-looking rates, it’s important to remember that as your money builds up gradually, your overall return will be lower than if you’d deposited a lump sum.
Invidivual Savings Accounts were introduced on 6 April 1999 to replace personal equity plans (PEPs) and tax-exempt special savings accounts (TESSAs) with one plan that covered both stockmarket and savings products, the returns from which are tax-exempt. The ISA is not in itself an investment product. Rather, it’s a tax-free “wrapper” in which you place investments and savings up to a specified annual allowance where the returns (capital growth, dividends, interest) are tax-exempt (you don’t have to declare ISAs and their contents on your tax return). However, any dividends are taxed within the investment, and that can’t be reclaimed.
Used by the holder to buy goods and services, credit cards also have a monthly or annual spending limit, which may be raised or lowered depending on the creditworthiness of the cardholder. But unlike charge cards, borrowers aren’t forced to pay the balance off in full every month and, as long as they make a stated minimum payment, can carry a balance from one month to the next, generating compound interest. As the issuing company is effectively giving you a short-term loan, most credit cards have variable and relatively high interest rates. Allowing the interest to compound for too long may result in dire financial straits.
An account opened with a clearing bank (few building societies offer current accounts) that provides the ability to draw cash (usually via a debit card) or cheques from the account. Some pay fairly minimal rates of interest if the account is in credit. Most current accounts insist your monthly income (salary or pension) is paid directly in each month and they offer a number of optional services – such as overdrafts and charge cards – which are negotiable but will incur fees.
An individual employed by an institution to manage an investment fund (unit trust, investment trust, pension fund or hedge fund) to meet pre-determined objectives (usually to generate capital growth or maximise income) in prescribed geographic areas or investment sectors (such as UK smaller companies, technology or commodities). The manager also carries the responsibility for general fund supervision, as well as monitoring the daily trading activity and also developing investment strategies to manage the risk profile of the fund.
Annual management charge
If you put money in an investment or pension fund, you’ll not only pay a fee when you initially invest (see Allocation Rate) but also a fee every year based on a percentage of the money the fund manages on your behalf. Known as the AMC, the actual percentage varies according to the particular fund, but the industry average for active managed funds is 1.5%.