Low interest rates might be good news for some mortgages, but they are a headache for savers so what's the smart thing to do with our spare cash? Here are the answers you need.
Why are interest rates so low?
In most cases, savings account interest rates are linked, directly or indirectly, to the Bank of England base rate. The Bank of England rate is currently at a historic low of just 0.5%, so it’s easy to see why banks and building society rates are also very low. In fact, the average instant access savings account was paying just 0.15% in interest at the end of April – and things are not much better now, if at all.
As a result, if you have money to save, finding a way to make a decent return might take a bit more creativity and a bit more work that simply finding an account and waiting for the interest to pile up.
Is it worth saving at all?
It is always worth having money put away for a rainy day, but whether it is worth saving now depends on your circumstances.
For instance, if you already have savings and are happy that you have enough put away it might be worth looking at whether you have any debts you can pay off – especially those on which you pay interest, like mortgages, credit cards and personal loans. That is, the money you save by paying less interest on those debts might be more than you’ll make by putting cash away in a savings account.
If you are considering paying off debts instead of saving, look at your options first.
Shop around for a savings product that suits you and find out how much you would make interest over the first year (being careful to factor in any ‘interest penalties’ for withdrawing funds). Then work out how much you would save over the same period if you paid off or reduced some debts on which you pay interest. Once you have that information, you should be able to see pretty quickly which makes the most sense for you.
- Savings are always important – even at low interests rates, it is still worth building up a ‘rainy day fund’
- Do your research before deciding to pay off debts – compare the amount you would save with the interest you might make on savings over the same period before making a decision
- Make sure you check the savings and debt terms and conditions before going ahead – issues like savings account interest penalties and debt early repayment charges might have a bearing on your decision
I already have savings, should I withdraw them if the rates are poor?
Shopping around is certainly the way forward at the moment. By all means you should look at whether moving your savings to an account offering better rates is an option. However, that is not to say that you should withdraw your savings and go on a spending spree. As generally it would be better to leave your savings in an account paying out low interest than to have no savings at all.
If you are thinking about switching to a new savings account, the first thing to do is to check the terms and conditions of your existing accounts. Make sure you would not lose out on interest and check that there are no hidden costs involved in withdrawing your money.
This is particularly important for savings held in cash ISA accounts as you should never simply withdraw the money yourself - doing this will mean it loses its tax free status indefinitely. Instead you need to arrange a provider to provider transfer of funds between your new and existing cash ISA provider.
For standard savings account it's also a good idea to have a new deal lined up before you withdraw your money – otherwise you might end up letting your cash sit in your current account whilst looking around – you’ll almost certainly lose out on interest and, worse, may end up chipping away at the balance over time.
- Find out how much interest your savings are earning and shop around for a better rate
- Check your terms and conditions for any penalties or restrictions on withdrawals
- Have a new account lined up before you close any existing accounts
What are the best savings deals at the moment?
Sadly, genuinely attractive deals are few and far between at the moment – certainly compared with a year or so ago. However, it is still possible to make your money work harder – as long as you are prepared to put in a little more effort.
Obviously, the deals that are available to you depend on your circumstances – specifically whether you are in a position to leave your savings alone, or whether you may need to dip into them over time.
In general, the longer term deals, such as fixed rate accounts, offer the best rates – but making the most of them will usually require that you have a little more to put away (say a £1,000 minimum deposit) and are able to leave the money alone for at least a year or two.
If a longer term deal suits you, then it is very important to check terms and conditions before committing. In particular look out for:
- Introductory interest rates. Make sure that the advertised interest rate applies for the whole life of the product – be it one, two, three years or more
- Are you able to make a withdrawal or close the account early – for example in dire financial emergency - and are any penalties applied in this instance?
I need regular access to my money, what are my options?
If you’re likely to withdraw funds fairly regularly, then an instant access, notice account or ISA may still be the best option. Rates are likely to be lower, but you can still find good deals if you are willing to shop around. Broadly speaking you have two options.
Instant access accounts allow you to withdraw money whenever you want and, as the name suggests, instantly. However, some accounts limit, or apply an interest penalty to withdrawals, so if you are likely to need frequent access your money, look at the terms and conditions before committing.
Notice accounts are slightly different, in that you must give the provider some warning (notice) before withdrawing any money – generally, this ranges from one week to a month. Again, there can be an interest penalty for withdrawing funds, however, because of this notice accounts generally pay better rates than instant access accounts.
Can I make instant access or notice accounts work better for me?
Yes, depending on the deals you choose, you may be able to take advantage of ‘introductory’ or ‘bonus’ interest rates if you are prepared to put in a bit of effort. That is, a lot of savings accounts are currently offering higher ‘introductory rates’ for a fixed period – this tends to be anything from three months to a year – after which time the rate will fall back significantly.
For instance, a savings account might offer 2.75% interest, with 2.25% of that a bonus, or introductory offer. After the bonus period ends, the rate will fall back to the account's standard rate - in this instance 0.25% - which is more in line with average rates at the moment.
If you are prepared to ‘manage your savings’ and move them to new accounts regularly, you can take advantage of these rates time and time again, to make your savings work harder. Obviously there are lots of things to bear in mind before deciding to try your hand at this:
- Always check your terms and conditions before committing – make sure you will be able to move your money at the end of the higher rate period without incurring charges or interest penalties
- Remember that the provider does not, by law, have to tell you when the rate changes – it is up to you to ‘manage your savings’ and start to look for a better deal in plenty of time
- In an ideal world you should select a ‘bonus’ account that also has a competitive rate once the bonus period comes to an end, so you can leave it where it is should your circumstances change
What about cash ISAs. Are they still worthwhile?
Taking up your ISA allowance is always worthwhile – even when rates are low. You get a limited ISA allowance each year and if you don’t use it, you lose it. Over time, ISA interest rates will improve, so you’ll be better off in future for putting money in an interest free savings product – simply because you’ll pay less tax on your savings.
That said, ISA interest rates have plummeted in recent weeks, as savers have rushed to take up their allowance for 2009. In general, the most attractive interest rates on cash ISAs tend to be made available around the start and end of the tax year (6th and 5th of April each year respectively), so there is some sense in delaying taking up your allowance. For instance, you might be better off looking at an instant access account for now and then transferring the balance into an ISA before the end of the tax year. The key considerations here are:
- Make sure you pick an instant saver that will pay enough extra interest (after tax - you'll need to compare the net amount if you're a tax payer) to make it worthwhile
- Check terms and conditions to make sure you’ll be able to transfer your savings to an ISA before the end of the tax year, without losing out on too much interest
- Don’t forget to transfer the money when the time comes
Will my money be safe?
As long as your money is deposited with a UK organisation, or an official UK subsidiary of an overseas company, it will be protected under the Financial Services Compensation scheme. However, be careful to ensure that you do not have more than £50,000 saved with any one organisation, as this is the maximum sum covered under the scheme.
Remember here that the scheme only covers providers that are independently authorised by the Financial Services Authority. If you have savings with two providers, but one is owned by the other and not independently authorised you can only claim once - only £50,000 of your money will be covered, because the two providers will be treated as one.
