Are you proactive about finding the best Isa rates or is your cash languishing in a low-paying account? Read our guide to getting it right
We are currently in what the financial services industry and media call ‘Isa season’. You will have seen plenty of emails and articles prompting you to maximise your Individual Savings Account (Isa) allowance before the end of the tax year, then many more encouraging you to open up new accounts for the next.
Maximising the return on any savings you have used to be good practice. But if you do it this year, it could be just one example of where you are getting it all wrong when it comes to cash savings.
Here are five ways you could be saving in the wrong way – and how to put things right.
1 You are saving while you still have debts
Psychologically, many people like to have savings even though they are in debt. But there is a limited benefit to having money stashed away in savings accounts if you also owe money on credit cards, loans and overdrafts. The rate of interest you are paying on your debts, unless you have a 0% deal, is likely to far outweigh what you are earning on your savings. You are better off paying down those debts before building a large nest egg. However, it is still worth having access to some cash in case of emergencies.
2 You have too much cash in easy-access savings accounts
Having a savings pot is essential. But the most you actually need in any kind of easy-access account is enough to cover you in emergencies. That is anything from paying to get your car serviced to covering your mortgage and bills if you lose your job. The general rule of thumb is that you should aim to have enough cash to cover three months of essential outgoings.
Anything you have in savings above that amount you may be able to put to better use. A mix of the following should benefit you and your money in the long run.
For general savings, you are likely to get the best returns if you invest it – but this is not for the short term. You want to have this money working for at least five years, so you need to be fairly sure you won’t want to access it. Moneywise has extensive guides to get you started.
If your mortgage allows overpayments, then you could pay off a lump sum to reduce what you owe and cut the amount of interest you will pay in the long term, while also adding to your equity for when you remortgage.
Similarly, you could choose to make extra payments to your pension pot. The most you can pay in each financial year and still receive tax relief is £40,000. If you’re not hitting that level from just your normal contributions, you could use spare cash to boost your pot.
If you want to keep access to your savings, but could lock your money away for a few months or years, consider whether a fixed-term savings account could offer you a better rate.
3 You are saving in the wrong place
In 2016 the government introduced the personal savings allowance (PSA). This allows all basic-rate taxpayers to earn £1,000 in interest each year without paying tax on it. The allowance drops to £500 for higher-rate taxpayers (anyone earning more than £50,000 in the 2019/2020 tax year).
So what do these figures actually mean? Well, say you had your money in the highest-paying easy-access account (1.30% with Marcus from Goldman Sachs or Saga at the time of writing), you would need to have £74,000 to make £1,000 in interest, or £37,000 to reach £500. That is a lot of money.
This is why the tax-free benefits an Isa provides are essentially redundant for many. Instead look for the best-paying account you can – regardless of whether it is in an Isa wrapper.
That is not to say all Isas are without merit. Alongside investment Isas, first-time homebuyers will benefit from the 25% bonus that comes with the Lifetime Isa – and it could be a good option for the self-employed who don’t have a workplace pension.
Of course, if you do have a lot of money in cash – perhaps a windfall you are working out what to do with – it makes sense to avoid the 20% or 40% that will be taken off any interest outside the PSA, but don’t forget the annual Isa limit is £20,000.
Furthermore, once money is in an Isa wrapper, it is tax free indefinitely. So you may want to put money in a Cash Isa so that it's ready when you do want to invest in a Stocks and Shares Isa or when Cash Isa rates do start to go up. If there is little difference between an easy access account and a Cash Isa, you may want to opt for the latter. It's far more likely that the PSA will be withdrawn in the future than money sheltered in an Isa will lose its tax-free status.
4 You are not getting the best return
As pitiful as 1.30% sounds, it is actually a very good rate for the current climate. Most accounts will not pay anything near that amount. According to Moneyfacts, the average interest rate on an easy-access account on 25 March was 0.53%.
Even that might be generous. Many people will have cash languishing in the banks where they have their current accounts – and these are generally paying even less. Among the worst is Lloyd’s Easy Saver with a rate of just 0.010%. All of a sudden 1.30% looks a lot better.
But this can be beaten too. For any money you cannot or do not want to invest, consider when you will actually need it. If you are willing to lock the money away, the rates increase. ICICI Bank is offering 1.60% but requires 95 days’ notice, while a two-year fix with Wesleyan pays 1.67%. Longer fixes are available too, though there’s always the chance that general rates could go up in that time.
Ideally, though, you want to beat inflation. The latest figure sees the rate at 1.7%, with a 12-month peak of 2.1% in April and July last year. Anything below the current rate means you are losing money in real terms. It’s hard to find interest above these levels, but it is usually possible with smaller deposits.
Best of the bunch is a Nationwide FlexDirect current account. New customers can earn 5% on balances up to £2,500 for one year (although the rate is being cut on 1 May to 2%). TSB’s Classic Plus account offers 3% on savings of up to £1,500 (this goes down to 1.5% on 2 May). An individual can only have one Nationwide account with this rate, but an additional TSB account is available as a joint account. This means if two people maximise their initial deposits with five accounts across these two banks they could make a combined £385 in the first year on a balance of £9,500 – the equivalent of 4.05% AER.
Beyond this, there are also regular saver accounts for First Direct, HSBC and M&S Bank customers, which pay 2.75%. You’re limited to the amount you can save each month, but you can funnel the cash over from lower-paying accounts.
Wherever you put your money, watch out for bonus rates that end, or long-forgotten accounts where the rate has plummeted since you first saved the money.
5 Your savings are not protected
It’s vital to make sure you don’t have more than £85,000 in one place. This is the maximum covered for individuals by the Financial Services Compensation Scheme (FSCS) in the event a bank goes bust. Any savings above that amount would likely be lost, though up to £1 million is temporarily covered for six months after a life event such as selling a house or receiving an inheritance.
The FSCS only applies to UK-regulated banks and building societies, so it’s worth checking that your savings are covered. Just because there is a branch near you doesn’t mean it is on the FCA register – some foreign-owned banks are covered by the compensation scheme of their home country.
You also need to make sure the bank is classed as a single financial institution. Many are actually part of umbrella organisations that operate under the same FCA licence, such as First Direct and HSBC. Money split across these banks is then subject to a combined £85,000 limit if you needed to make a claim. But some of the well-known banking groups, such as NatWest and RBS, do have separate licences.
Check out all banks on the FCA register.
And here are some of the most notable joint brands:
• HSBC and First Direct
• Halifax and Bank of Scotland
• Bank of Ireland and Post Office Money
• Virgin Money, Yorkshire Bank and Clydesdale Bank.
Need some help actually putting money aside?
It is all well and good showing you where to put your cash, but what if you don’t actually have a savings pot? These quick tips should help you get started.
Keep it separate from your everyday spending
If you keep your savings in the same account as your everyday money, you will lose track of what’s what. The result is you will inevitably end up spending it. Put your savings in a separate account instead.
Pay yourself first
Set up a standing order to move spare cash out of your current account just after payday, so you don’t forget. You can always change the amount if you are short of cash.
Add to your pot every time you spend
Banks including Lloyds, TSB, Monzo and Starling have features where each purchase you make can be rounded up to the nearest pound. This spare change is moved into a separate account. So if you spend £2.55 on a coffee, 45p will be put aside.
Use a robot to work out what you can afford
Connect to artificial intelligence apps such as Chip and Plum to let them analyse your spending habits. Based on what you have coming in and going out each month, these smart algorithms will move money before you can spend it.
Combine more than one regular saving account. Also drip feeding can make higher interest.