Are NS&I bonds an option for short–term savers?

27 May 2011

Short-term savers can still cash in with NS&I's inflation–linked bonds, even though they are designed to be held for five years.

"Using the NS&I bond as a one-year savings account is worth considering due to the flexibility it offers in terms of access after one year," says Peter Chadborn, partner of IFA Plan Money.

Despite being advertised as five-year deals, savvy savers can withdraw their money from the popular accounts after just one year and still receive interest with no penalty at a rate that far exceeds the best one-year accounts. (It should be noted that doing so before 12 months will see savers lose these benefits.)

On top of the promised 0.5% interest, the bonds are index–linked to the retail prices index (RPI), which is currently 5.2%. The 0.5% interest rate is averaged out over the five-year term so savers who close their account after one year would receive 0.25% interest plus the index–link. Based on the current RPI level that would equal 5.45% in total.

By comparison the best one-year fixed–rate accounts are currently paying in the region of 3.5%. FirstSave's online-only account pays the top 3.5% while Barnsley Building Society's online bond pays 3.4%.

Read our round up of the best savings rates on the market

In addition there is no tax to pay on the NS&I bond, meaning other best buy savings accounts will struggle to keep up. Using the 5.45% figure, a savings account would need to pay 9.08% for a higher–rate taxpayer and 6.8% for lower–rate taxpayers to achieve the same level of growth.


However, it's worth pointing out that this is all based on RPI remaining at its current level for the next year. The index-linking aspect to the certificates is variable and worked out by looking at RPI figures two months before account opening and two months before account closure. NS&I then uses a complicated calculating system to work out exactly how much savers will receive.

Justin Modray, founder of Candid Money thinks that the bonds are “no brainers" for those who have already used up their ISA allowances and particularly for higher–rate taxpayers.

But he issues caution to others because of the risk factor. Essentially savers are taking a gamble on RPI remaining high, if it drops then the 0.25% interest that's added onto the index link, after one year, may be unable to compete with other savings accounts.

“For most people I wouldn't necessarily recommend using these bonds over other savings accounts," says Modray.

“There has been a lot of attention on the high rate because of inflation and that they are tax–free but that's not quite an accurate picture. It's probably unlikely RPI will continue to be as high as 5.2% over the next year so the final rate will drop."

However, the fact that these bonds may not look so competitive after five years makes them even more attractive as a short–term option, says Chadborn. He adds:

"In times of low interest rates you have to use your imagination and make the deals work for you rather than be encumbered by inflexible arrangements"


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