When National Savings Make Sense

With the safety of Britain's banks put into question in recent times, is it time to turn towards National Savings?

One of my very first investments was a £100 National Savings certificate I received when I was seven. I remember my mum giving me the certificate to look after, which I safeguarded for 5 long years.

Even more memorable was when the certificate matured. And instead of getting a brand new bike as promised, my mum told me she needed the money for `necessities', so this twelve year old was left to walk to school.

Still, I suppose it's the thought that counts.

The point is, unlike the guarantee issued by the Bank of Mum, which collapsed faster than you can say Northern Rock, National Savings and Investments (NS&I) is designed to be one of the safest homes for your money. Unlike banks and building societies, deposits in NS&I are guaranteed by HM Treasury.

But how do they compare with the rest of the market?

Britain's Piggy Bank

At a glance, you may be forgiven for dismissing National Savings as a lacklustre but safe alternative to saving on the high street. Its Easy Access Savings account pays a measly 2.35% on deposits up to £999.

However, NS&I's real appeal lies within their tax free savings.

NS&I offers a range of products which are completely free of tax -- you don't even have to let the tax man know.

Inflation Busting Savings

In my opinion, one of the best value investments you can currently make with NS&I are their Index Linked Saving Certificates.

The certificates work by paying a percentage (currently 1.35%) above inflation. This means that no matter how high inflation levels rise, your savings will always beat it.

Index Linked Savings Certificates

NS&I uses the Retail Prices Index (RPI) to measure inflation. Using the January RPI of 4.1%, both issues currently pay 5.45% tax free to savers. This equates to a gross return of 6.81% a year if you're a basic rate tax payer and a mighty 9.08% for higher rate tax payers.

With this month's interest rate cut eating into many savers' pockets and indications that further cuts are on the way, it's unlikely you'll find an interest rate on the high street or even online to match this rate.

The main downside to these certificates is that although you can cash them in at any time, in order for you to get the maximum return on your money you need to keep the certificate for the full term - a minimum of three years. This is because the guaranteed rates of interest increase each year during the term of your investment. And if you cash in your investment within the first year, you won't get any interest at all.

However, if you are a long term saver looking to beat inflation, these certificates offer both government protection and some of the juiciest rates on the market today.

A Fixed Return

If you want to be sure exactly how much interest you'll be getting at the end of your investment, you could always opt for a Fixed Interest Savings Certificate.

These certificates do exactly what they say on the tin. They pay a fixed rate of interest over a period of two or five years - all tax free.

Fixed interest Savings Certificates

As you can see, in this case the interest rates for these issues are far from competitive. Even taking their gross rates into account, basic rate tax payers get a 3.62% and 3.75% return on the two and five year certificates, with higher rate taxpayers earning 4.83% and 5% respectively.

Yes, you get a government guarantee, but I still think you're better off stashing your cash in a high interest savings account. If you stay under the £35k limit per institution, then your money will be protected under the Financial Services Compensation Scheme.

It's a similar story with cash ISAs. NS&I's Direct ISA currently pays 5.8%. This lags behind Scarborough BS, which offers 6.3%, although you do need to give 30 days notice before making a withdrawal.

If you're looking for an ISA without a notice period, Alliance and Leicester currently pays 6.25%, while Icesave pays 6.1%.

Fortune Favours The Brave

Finally, if you feel that lady luck is on your side, you could always invest in Premium Bonds.

Arguably, Premium bonds are better than the national lottery as, whether you win a prize or not, the level of premium bonds you have will always remain the same, and are entered into each monthly draw unless you decide to cash them in.

With an average return of 3.8%, NS&I states a person with average luck and a maximum investment of £30,000 can expect to win 15 prizes a year (ranging from £50 up to a cool £1 million). All prizes are tax-free.

However, as with all lotteries, you are taking a gamble. The returns could be big, but if lady luck isn't on your side, you may even earn nothing back on your investment.

And finally, if National Savings isn't your cup of tea -- you could always put your savings in Northern Rock...

Ironically, after its tumultuous run, Darling and Co.'s move to nationalise the bank on Monday has now left our friend in the North seemingly as safe as NS&I.

My eyebrows remain raised.

Happy (and safe) saving!

More: Bag A Top Cash ISA Today | Why You Should Start Saving Now | Visit The Motley Fool's Savings Centre for a range of great savings accounts.