Before you start saving, it is a good idea to have a look at your overall finances. Do you have any debts? Have you got a lot of outstanding borrowing on your credit card?
Try to pay off your debts before you start saving in earnest. It is better to use spare cash to pay off your debts before you start to save up for the future. That is because the rate of interest you will receive on savings is much lower than the rate of interest you will be charged on unpaid debt.
Next, think about what you will use your savings for, and how long you plan to save. This will help you decide what type of savings account you need.
When you are building up a savings pot, it is a good idea to think about what you will need the money for. A good way to save for the future is to think about three separate goals for your money:
This could be money you might need in an emergency, for example, if the fridge breaks down or you needed urgent repairs to your car. People sometimes call this “rainy day” money. The cash you save could also be for a holiday or something you might need to spend money on within a few months to a year or so.
You might be saving up for home improvements, a new car, paying for college or a career change. Medium-term money could be tied up for a year to five years.
This is where you save your money for five to ten years ahead – perhaps in a pension or other form of investment. This should be money that you will not need for a few years and which you can leave alone for it to grow in value.
If you are wondering what to do with your savings and the best way to save, first think about what you will need your money for, and then how soon you will need it.
Will you need access to your money quickly? If that is the case, a simple savings account where you can withdraw your money without giving notice would be the best option.
You want your money to work hard for you – either by earning a good rate of interest or by growing within an investment account for you. The interest rate you will earn depends on the type of account you choose and sometimes how much notice you need to give in order to access your funds.
You can find out how much interest you will earn by looking at the interest rate quoted on the savings account information. You can compare the best interest rates on savings accounts by using a comparison service. Money.co.uk has a search tool which enables you to compare our best savings accounts and investment ISAs.
This simple savings account gives you access to your money whenever you need it without any penalties.
Pros: Simple to understand and access your money
Cons: Interest rates tend to be low and don’t keep pace with inflation
Pros: A simple savings account that pays a higher rate of interest.
Cons: Often you have to give notice if you want to withdraw money, and there may be a penalty if you make too many withdrawals in a 12 month period.
Pros: A savings account where the interest rate is fixed for a set period, usually one to three years. These accounts are sometimes known as savings bonds. As you are committing your money for a year or more, interest rates are sometimes, although not always, better than easy access accounts.
Cons: Withdrawing your money early may mean a loss of interest
This is a savings account into which you make regular contributions over the course of a year.
Pros: Regular savings accounts tend to pay a higher rate of interest. You must pay in each month and this can be a good savings discipline.
Cons: If you miss a payment you may lose interest. You can’t take out your money until the end of the term. The amount of money you pay in is capped, so it is not a good home for large sums of money.
Investments in the stock market like ISAs and pensions carry more risk but have the potential to provide a greater return and can also help to beat inflation over the long term.
Make sure you understand the small print and any penalties for withdrawing your money.
ISAs are savings accounts where your money can grow free of tax. You are allowed to put £20,000 per year into an ISA (2022 to 2023 tax year). You can choose from a Cash ISA, which is effectively a tax-free deposit account, or a Stocks & Shares ISA which invests your money in the stock market.
While a Cash ISA doesn’t carry any risk to your initial investment (known as capital), a Shares ISA can go down in value as well as up. However, the potential for growth means a Shares ISA is a good home for medium-to-long-term money.
You qualify for an ISA if you are resident in the UK, and:
16 or over for a Cash ISA
18 or over for a Stocks & Shares ISA
18 or over but under 40 for a Lifetime ISA
If you are currently over 18 and under 40 you can save for your first home or for your long term savings in a Lifetime ISA. Under the current rules, you can contribute £4,000 each tax year, until you’re aged 50. As an incentive for saving, the government will add a 25% bonus to your savings, up to a maximum of £1,000 per year.
You can opt for cash, shares or a mixture of both in your Lifetime ISA. The £4,000 limit counts towards your annual ISA allowance of £20,000 per adult.