First Direct Scraps Credit Interest

This award-winning online and telephone bank will no longer pay interest on credit balances from November. Alas, more banks are likely to follow its lead!

Telephone and internet bank First Direct, part of global giant HSBC, has announced that it will no longer pay any interest on credit balances in its current accounts with effect from 1 November.

At present, First Direct has two current accounts. The Cheque account pays yearly interest of a pathetic 0.10% AER, or £1.50 a year before tax on a balance of £1,500. The Bank account pays a more generous (but far from market-leading) 2.00% AER, which comes to £30 a year before tax on £1,500. First Direct has around 1.2 million current-account customers, split evenly between these two accounts.

The bad news

From November onwards, First Direct is merging its Cheque and Bank accounts into a single, new account called the `1st Account'. This account won't pay a single penny in interest on credit balances, regardless of how much customers keep in it. Instead, First Direct is urging its customers to direct their spare cash into two new savings accounts. By doing this, it claims that customers can "earn serious money on their savings, rather than small change on their current account".

The good news

First Direct is to reduce the cost of authorised overdrafts, making the first £250 of borrowing entirely interest-free. It will also scrap the £2.50-a-month charge for its `red alert' text-messaging service, which helps customers to avoid going overdrawn or exceeding their overdraft limit. Then again, this service is provided entirely free at online bank Cahoot, so First Direct is profiteering by charging £30 a year for it.

Two new savings accounts

First Direct's two new savings accounts are both pretty good and will undoubtedly prove attractive to its loyal savers.

The Everyday e-Saver account is a no-strings instant-access savings account which pays a yearly before-tax interest rate of 5.50% AER on £1+. Customers can set up an automatic monthly sweep to move money from a 1st Account to an Everyday e-Saver account. This will help to maximise the interest they can earn on their surplus funds.

Although this rate doesn't match those paid by the table-topping accounts from ICICI Bank (6.30% AER) and Icesave (6.20% AER), it is very good. What's more, unlike First Direct's other e-Saver account, you don't lose a month's interest on your entire balance for every month in which you make a withdrawal.

First Direct's new Regular Savings account pays a fixed rate of 8.00% AER before tax. Savers can deposit between £25 and £300 a month for a year. Any withdrawals or account closure during the year will trigger a drop in the rate paid to First Direct's standard Savings Account rate, currently just 2.25% AER. Still, by saving the maximum £300 for twelve months, a First Direct saver could earn total interest of £154.17, according to our savings calculator. After basic-rate (20%) tax, this comes to £123.34, or £92.50 after higher-rate (40%) tax. Not bad at all, in my view.

Will you be worse off? I will!

First Direct claims that an average customer who does absolutely nothing will be better off by £1.20 a year. However, if this customer moves their existing savings from other First Direct savings accounts into the new online Everyday e-Saver account, s/he will be better off by £34.80 a year.

Alas, as an existing First Direct customer, I can see that I will certainly be worse off when credit interest is withdrawn. Over the past twelve months, I earned almost £45 in interest, after deducting higher-rate tax. From 1 November, I'll earn nothing, which simply isn't good enough.

In addition, I take great care not to go overdrawn, so the £250 interest-free overdraft is of no use. Nor is the free text-message service, as I detest mobile phones and don't own one. As for my savings, I keep them only in accounts which pay market-leading rates, so I won't be opening an Everyday e-Saver account.

Indeed, what I plan to do is close my First Direct account and move to an account which pays a tip-top rate of interest on current balances. This is something I've been planning for more than a year, so this news should prompt me to get off my rear and switch banks at last!

I expect that this news will be greeted with dismay by many of First Direct's 1.2 million customers. Indeed, it could be argued that First Direct has shot itself in the foot once again. It set itself up for a customer exodus when it introduced a monthly fee of £10 in February, as I reported in Is Free Banking Doomed? Chris Pilling, First Direct chief executive, should brace himself for a second round of account closures!

Finally, First Direct seems to be going in the opposite direction to most other banks. Indeed, we've seen its rivals launch accounts paying credit interest rates in excess of 6% AER, whereas First Direct has chosen to pay nothing. Nevertheless, other banks may follow First Direct's lead by reducing or scrapping their credit-interest rates. If they do, we'll be sure to let you know...

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