Savings Accounts To Beat The Base Rate

With the Bank of England's base rate likely to rise to 5% next week, we find the savings accounts that pay the top rates.

Inflation is the tendency for the price of goods and services to rise over time.

In the UK, the government's preferred measure of inflation is the Consumer Prices Index (CPI). However, as I explained in What Inflation Means To You, the CPI excludes housing costs, which makes it an unrealistic guide to the rising cost of living. Hence, I much prefer the Retail Prices Index (RPI) as a guide to my rising cost of living. According to the Office for National Statistics, the RPI currently stands at 3.6%, so its basket of goods and services which cost £100 last year now costs £103.60.

Of course, inflation is the enemy of savers (and of pensioners in particular), because it erodes the value of money over time. For example, with inflation running at 3% a year, the value of £100 more than halves to less than £48 after 25 years. Another way of putting this is that goods costing £100 today would cost £209 in 25 years' time, with annual inflation at 3%.

Hence, it's vital to make sure that the interest rate on your savings account keeps up with inflation; otherwise, your emergency fund, nest egg or rainy-day money will shrink in real terms over time. However, this is not an easy task, because only a handful of savings accounts pay more than the Bank of England's base rate. The base rate is currently 4.75% a year, but it's a near certainty that the base rate will be hiked to 5% a year next week (on Thursday, 9 November, to be precise).

What's more, unless your savings are tucked away in a savings account which pays tax-free interest, such as a cash mini-ISA (or you're a non-taxpayer who has completed a form R85), then you need to factor tax into the equation.

If you're a basic-rate taxpayer, then you lose a fifth (20%) of your pre-tax interest to HM Revenue & Customs. Hence, to earn 3.6% a year after tax, you need to earn 4.5% a year before tax. For higher-rate (40%) taxpayers, the hurdle is even higher: 3.6% a year after tax works out at an impossible 6% a year gross, which explains the attraction of tax-free savings to high earners!

So, just how high do savings rates go -- and can we beat the base rate (before tax) and inflation (after tax)?

According to the Fool's savings search engine (which is powered by independent financial analyst Moneyfacts), if you're prepared to save a set amount each month for at least a year, then you can earn rates as high as 8% to 12% a year before tax in regular-savings accounts.

However, these ultra-high rates usually require you to switch your current account as well, so they aren't ideal if you're just looking for a better home for your savings pot. Top regular-savings accounts which don't require you to switch banks pay annual pre-tax interest of between 6% and 8.25% a year, but most restrict monthly deposits to £250 or so.

If we assume that you don't want to tie up your money in any accounts with restrictive terms, such as fixed-rate savings accounts or notice accounts, then our choice becomes even more limited. According to Moneyfacts, these are the highest interest rates paid by easy-access savings accounts with no strings attached (I've omitted certain niche or restricted accounts aimed at homebuyers and families with children):

Best Buy savings rates on a balance of £1,000

Hence, as you can see, it's possible to earn more than 5% a year before tax on your spare cash, which enables most savers to beat comfortably both the base rate and inflation. What's more, with savings rates sure to creep up as the base rate rises, savers can look forward to even higher returns. Job done!

More: Use the Fool to find better savings accounts, cash mini-ISAs and investments!