UPDATED on 2nd August 2012 (current best rates at bottom of the article)
Reader’s Question:
I am a non tax payer, where can I get the best interest rate for £10,000, I don’t mind if it’s in for five years
Thanks.
My response:
Nice question, as it helps me highlight a couple of key things regarding savings.
First of all cash ISAs are wonderful. They are a tax payers dream! (I know you said you’re not a tax payer but bear with me).
Ordinarily savings interest is taxed at your marginal income tax rate. How this works in practice is that your bank pays you your interest with 20% already deducted – the swines! Then if you are a high rate tax payer (40% or 50%) you have to pay the balance (a further 20% or 30%) via your tax return.
What this means is that while the rate you think you are getting is the gross advertised rate in reality you get at least 20% less.
For example, if the interest rate is stated as 4% then a basic rate tax payer will only receive 3.2% net of tax. But a 40% tax payer will have to pay even more tax via their tax return meaning that they in reality only receive 2.4%.
Step forward cash ISA’s!
Any interest earned on a cash ISA’s is paid tax-free! Why? It’s government’s way of trying to encourage people to save. But the silver lining has a dark cloud – namely that an individual can only invest £5,640 per tax year. Anyway, back to the question...........
Now non-tax payer’s such as yourself can actually inform their bank that of their tax status and receive interest on their ordinary savings accounts tax-free!
So for you the attraction of a cash ISA vs ordinary savings accounts is certainly less marked. But one thing I would ask is ‘are you ever going to be an income tax payer again?’ While there is no immediate benefit in you taking out a cash ISA, should your circumstance change and you start having to pay tax on your savings then any interest on non-ISA monies will be hit. Had you built up a large cash ISA pot over time (remember you can only save £5,640 per tax year into a cash ISA) your interest will always be paid tax-free.
But interestingly, recent research has shown that some banks are effectively keeping the tax relief on cash ISAs for themselves by offering better rates on their ordinary savings accounts!
But only you can decide what is right for you.
The dangers of chasing rates
The important thing is to shop around and find the best savings rates (be it ISA or normal savings accounts). Sites such as Money facts can help you quickly search the market.
If you do have a look around then make sure you compare like with like. Some savings accounts offer eye catching introductory bonuses to lure you in. But after the offer ends you can end up on a fairly naff rate.
Also make sure that there are no account opening restrictions and how regularly interest is paid out. As you alluded to, the longer you tie your money up (without access or loss of interest on early withdrawal) the better the interest rate. But don’t forget, what looks attractive now may not be in a few years time. The Bank Base rate is at an historic low so the only way is up from here. And when rates do go up savings rates will follow.
It’s easy to just go with the bank with the highest interest rate but ask yourself the question why is it so good? It is likely that they are desperate for your money and have to offer eye-catching rates to persuade investors to part with their cash. Shortly before Iceland’s Kaupthing bank collapsed in 2008 they were offering market leading rates. Any investor who jumped in with both feet got a nasty shock. See my article Money Tip #100 – The dangers of chasing the best savings rates for more on this.
I suppose what I’m trying to say is that every financial decision, no matter how seemingly simple, should be given the necessary care and attention.
Best rate for £10,000 lump sum
So what are the best rates at the moment? (with no introductory bonuses and paying monthly interest)
5year
Vanquis Bank offer the best 5 year fixed rate bond at 4.06% a year.
2 year
AA offer the best 2 year fixed rate bond at 3.80% a year
Instant access
If you want easy access to your money with no restriction the best rates are just under 3% (incl. bonus)
Cash ISAs
Bear in mind the annual funding limit of £5,640
Fixed rate Cash ISAs
5year
Halifax - ISA Saver Fixed at 4.15% a year
1 year
Santander - 1 Year Fixed Rate ISA at 3.20%
Instant access cash ISAs
You are looking at 3.00% (incl. bonus) Direct ISA Issue 10 from Santander
Bear in mind your other savings?
Under the terms of Financial Services Compensation Scheme (FSCS) any savings you have are protected for the first £85,000 of money held on deposit (£170,000 for a joint account) with your bank or building society. That means that should the unfortunate happen and the bank or building society go bust then you will get back up to £85,000. But the FSCS offers protection per institution registered with the FSA. So if an institution has a number of brands but only one group licence with the FSA then the FSCS will only guarantee £85,000 of savings across the group.
You may not have £85,000 worth of savings ( I certainly don’t) but if you do then you might want to make sure that you spread your money around.
Inflation proof your savings
But if the reason why you are trying to look away money is because of inflation fears then take a look at NS&I Index Linked Savings Certificates (which are backed by the government so are 100% secure). However, these are intermittently withdrawn from the market due to over demand.
See my post NS&I Index Linked Savings Certificates are back! The facts and the pros & cons
I hope that helps
Best wishes
Damien
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