In part four of our Personal Finance GCSE, read about five different types of savings vehicle: alternative ways to save money and earn interest.
In the first three parts of The Motley Fool's Personal Finance GCSE, I covered:
1. How to get out of debt: The Motley Fool's Personal Finance GCSE!
2. How to get into debt: A Complete Guide To Borrowing Money
3. The two top ways to save money: Two Of The Seven Best Ways To Save Money
As you can see, I covered two of seven different savings vehicles last time, so now I shall cover the other five.
These five are less flexible, because of the conditions and penalties around withdrawing your savings. Flexibility is Foolish, so we can strike like a snake at the best offers!
That said, we're all different and have different needs, so alternatives certainly can't be dismissed out of hand. Although the following won't be suitable for as many people as the first two products, I shall cover them so that you can make an informed decision, and to continue your education into the issues and pitfalls for savers.
I shall continue the numbering from the previous list, although these are in no particular order:
3. Notice savings accounts
I don't mean 'take note of savings accounts', I mean this next product is called a 'notice savings account'. Notice accounts require you to give advanced notice that you're going to withdraw money. Typically this is 30 to 60 days. In return, you're supposed to get a higher interest rate than you get with easy-access accounts (covered in part three), but the difference is usually so small that it's not worth it. Just like easy-access accounts, tax is deducted at 20%, and higher-rate payers must pay an additional 20%.
However, some notice accounts allow you to make a few withdrawals a year penalty free so, if you know you won't need to dip into your savings much, this is a perfectly acceptable option.
4. Bond (or 'term') accounts
With these accounts, you agree to lock up your savings for three months to five years, in return for a fixed rate of interest. You can often get a higher interest rate with these than with the first three products, if you shop around. Tax is deducted as with easy-access accounts.
Traditionally (and in my view correctly) the Fool has regarded these as inferior accounts. Firstly, most people will require their savings to be more flexible. Secondly, locking yourself into financial products for a long time rarely seems to pay off. And thirdly, the interest rate is usually only a tiny bit higher at best. Quite possibly the provider believes that variable interest rates will rise during the term, so they'll have locked you into a lower fixed rate.
5. Regular saver accounts
I don't mean that these are accounts for normal or ordinary people (whoever they are). What I mean is that this product is called a 'regular saver account'. This is designed for people with a little bit of spare cash after all their outgoings. These people want to stash away that spare money every month (although you could do this with many cash ISAs and with all easy-access savings accounts, too).
The best regular saver accounts usually offer the highest interest rates of all your options, although tax is, of course, deducted. Furthermore, the interest rate is fixed, not variable. However, these accounts come with all sorts of conditions and penalties:
- You often have to open a current account and pay your salary into it.
- You can't withdraw your money early, or if you do you'll be penalised.
- After a year, your money is usually transferred to another account, often a bond account paying pathetic interest.
- You can't invest lump sums.
- Furthermore, you can usually save just £10 to £250 per month in these accounts.
The overall effect is that the accounts can be a little gimmicky for people with a decent sum to save. Also, the amount of interest you've earned at the end of it can easily be partly eroded by penalties or other conditions.
However, the interest rates can be very high so, if the inflexible conditions don't bother you, they're certainly worth considering.
6. Guaranteed Income Bonds
I'm just going to touch briefly on Guaranteed Income Bonds (GIBs), because it's not really a savings product. Your money is stashed away for, typically, one to five years. You earn interest just like all the above products, but it is paid to you, either annually or monthly, like it is extra income. You are paid after 20% tax.
However, the interest you earn is usually less than you'd get in the best cash ISAs and easy-access savings accounts. Also, your money is tied up till the agreed period expires. On the plus side, the interest rate is fixed, not variable. This is handy if you just want to know what you're going to get in savings income each month or year. But you can be pretty sure that the provider has factored in future interest rates, and priced it so that they do better out of you than if you'd left it in a more flexible product.
Also, unlike savings accounts, non-taxpayers can't claim the 20% tax back.
It's really higher-rate taxpayers who are most likely to benefit. The interest these taxpayers can get from the best GIBs is often comparable to the best easy-access savings accounts. The trade-off is being locked in when better products become available.
7. National Savings Certificates
National Savings & Investments offers two tax-free 'savings certificates'. The first of these is the fixed interest savings certificate. Unfortunately, your money is locked up for two or five years. You get it all back at the end with the interest you've earned. You'll be penalised with much lower interest if you withdraw your money early.
The rates tend to work out so that higher-rate taxpayers will probably get a better rate from a top easy-access account, and basic-rate taxpayers will be significantly better off with the latter.
On the other hand, there are some positive things to say about these certificates. Easy-access accounts have variable rates, whereas these are fixed interest savings certificates. That removes some uncertainty, just like GIBs. Better news for those of you who are cautious is that National Savings & Investments is backed by the Government; you can't really have a safer savings product than that.
The other certificate (if you remember, I said there were two) is an index-linked savings certificate. You can currently choose between three or five year certificates. It pays you interest based on the Retail Prices Index (RPI) measure of inflation, plus a bit more. In recent year, very roughly, the average RPI has been about 3%, but it varies greatly. Recently, for example, it's been as high as 4.8%, but it's expected by many to come down. The interest you earn with this certifcate will go up and down with inflation.
National Savings adds some more to the RPI figure, at present it's an extra 1.35%. And, of course, it's all tax free. The overall effect is that you can often earn somewhat more than you would in an easy-access account (higher-rate taxpayers in particular), although almost certainly less than you would in a cash ISA.
The good thing about this product is that, as inflation goes down, interest rates usually go down too. This means that, if inflation goes down, your certificate will pay you less money, but so probably will easy-access savings accounts, because those rates are likely to be reduced too.
Again, the weakest aspect of this product is its lock-in period. It's a long time to be tied in, when you could earn decent interest in flexible products.