How to choose a current account

Published:
13 February 2009
Topic:
News,Money,Current Accounts

There's a common misconception that all current accounts are pretty much the same so it doesn't really matter who you bank with. As a result most of us have never changed provider and have an account with one of the big four banks - Barclays, HSBC, Lloyds (which is the newly formed banking group following the merger of Lloyds TSB and Halifax Bank of Scotland) and Royal Bank of Scotland (which owns Natwest).

But that's not the case. There are significant differences in the types of current account available and the market is changing rapidly. Halifax has launched a new product, its Reward Account, which is structured in a very different way to the traditional current account. For more information on this deal, check out our interview with Mike Regnier, head of banking at Halifax.

The result of all these developments is that there are some great current account deals available which offer much better value to the customer. It's time to get switching, but working out which is best for you can be difficult because features vary so much that it can be like comparing apples with pears.

We highlight the main things to bear in mind when looking for a new current account.

Before you start comparing deals, you need to answer the following question - is your balance usually in-credit (in the black) or are you normally overdrawn (in the red)?

I'm usually in the black

If you tend not to go overdrawn, the key thing to focus on is the in-credit rate of interest.

The standard current accounts from the big four banks pay virtually no interest on balances in-credit: Lloyds and Natwest pay just 0.1%, while HSBC and Barclays scrapped paying interest on their accounts last year. However, a number of providers do reward you for being in-credit: Alliance & Leicester's (A&L) Premier Direct account pays 6% for the first year and you can earn up to 4% if you have Lloyds TSB's Classic Plus account with Vantage. And although Halifax has abandoned in-credit interest on its new Reward Account it pays customers £5 per month - £60 a year - if they deposit £1,000 or more into their account each month.

However, as the minimum funding requirement on the Halifax Reward account highlights, there are certain 'catches' you need to be aware of when comparing deals:

Introductory bonuses: Many of the highest paying accounts include a bonus which will typically run for 12 months at which point the rate will fall significantly.

For example, the market-leading rate on balances up to £2,500 is 6% available from the A&L Premier Direct Current Account and the A&L Premier 21 (16- to 21-year-olds only). The rate is fixed for one year at which point it reverts to Bank rate less 1%. This 'go-to' rate looked quite attractive when interest rates were higher, but with Bank rate currently just 1%, this means the A&L deal will pay nothing to those in the black after the first year. 

If you don't want to bother switching after a year you may be better off with Halifax's Reward Account, or the Lloyds TSB Classic Plus Account. Lloyds TSB Classic Plus pays 2.5% on balances up to £2,500 (you earn just 0.1% on anything above that) and there is no introductory bonus meaning the rate won't drop after the first year. Similarly, the £5 a month Halifax pays on its Reward Account is a long term offer, not just an introductory feature.

Balance limit for high interest rates: With savings rates plummeting there may be a temptation to keep a larger balance in your current account.

However, to deter customers from using their current account as a vehicle for savings, many of the highest-paying in-credit rates are only available up to a capped balance. The Lloyds TSB Classic Plus account, for example, limits the preferential rate of 2.5% to the first £2,500. A&L's Premier Direct and the Abbey Account (Preferred In-Credit Rate), which pays 5.5%, are the same. A&L and Lloyds pay just 0.1% on anything above that amount, while Abbey pays 1.0%.

There are options if you keep a higher balance in your current account. Lloyds TSB offers another deal, its Classic Plus with Vantage pays up to 4.0% interest. But again, there are catches - you only receive this higher rate if you have between £5,000 and £7,000 in your account. Lower rates are paid on lesser amounts - 0.1% on balances up to £999, 2.0% if you have between £1,000 and £2,999 in the account and 3.0% for balances between £3,000 and £4,999.

If you keep more than £7,000 in your account Coventry Building Society's First Account is worth a look at. It pays 2.1% up to a maximum of £250,000, although this does include a first-year bonus of 0.85%.

Minimum funding: Be sure that you can credit any account you apply for with a sufficient amount of money each month. Most of the leading accounts insist you pay in £500 or £1,000 each month. The Cahoot Current Account, which pays 1.25% up to £249,999, has no minimum investment restriction.

Monthly fees: Another option is a packaged account. These current accounts charge a monthly fee but in return you receive additional benefits such as travel insurance, breakdown cover, identity theft cover and preferential rates on other financial products such as savings accounts, mortgages and credit cards. You therefore need to weigh up whether you will use the benefits on offer otherwise there is no point in paying a monthly fee.

Key things to consider before you apply:

  • What is the in-credit interest rate?
  • Is there a cap or introductory bonus?
  • How much must be credited into the account each month?
  • Is there a monthly fee? If so, what are you paying for and will you use the benefits?

I'm usually overdrawn

If you're usually in the red, there's no point in looking for a current account that pays a high rate of interest on accounts in credit - instead look at how much you'll be charged for being overdrawn.

Traditionally banks have charged customers who go overdrawn an annual rate of interest. And you will probably be charged more if you exceed your agreed overdraft limit or go overdrawn without permission.

The big four banks charge an average authorised overdraft rate of 19% and you'll pay an average of 24.7% for unauthorised borrowing.

In addition to paying interest, unauthorised borrowing also tends to result in penalty fees - it is these charges that are at the centre of the court case between eight current account providers and the Office of Fair Trading. You can be charged as much as £39 each time for going over your overdraft limit.

However, competition has heated up in the overdraft market over the last couple of years and even if your account is frequently, or always, in the red you can still switch current account provider and take advantage of a more competitive deal.

So what is important and what should you look for?

The cost of being overdrawn: While the average rate charged by the main current account providers for overdrafts is 19% there are much more competitive deals to be had.

A&L has the most competitive overdraft proposition. Customers receive a free overdraft of up to £2,000 for the first year their account is open, after which, rather than being charged an annual rate of interest, they pay a daily fee for being in the red. The charge is 50 per day up to a maximum of £5 per month.

This overdraft offer is available on all of A&L's current accounts although perhaps the most attractive for those who are regularly in the red is the Premier Account. Its in-credit interest rate is just 0.5%, but if you're overdrawn most of the time, this doesn't really matter. Customers receive free European travel insurance and A&L is also offering a switching incentive at the moment - anyone who opens a Premier Account will receive £100. 

A&L was the first current account provider to switch to a daily fee for those who go overdrawn but it could well catch on. Halifax has also adopted this charging structure for its new Reward Account because it believes it is much more transparent for customers as they'll know exactly what being overdrawn will cost them. However, Halifax's overdraft isn't as keenly priced as A&L's. It charges £1 per day for authorised borrowing up to £2,500 and there is no upper cap, so you could be charged £31 if you are overdrawn for an entire month.

Things to watch out for

Fee-free overdraft buffers: If you run your account in credit most of the time but have a tendency to slip into the red now and again, some providers offer free overdraft buffers. But be warned, the accounts that offer these buffers tend not to offer attractive in-credit rates and if you only dip into your overdraft now and again, you could be better off opting for a higher-paying deal such as A&L Premier Direct or Halifax's Reward account.

For example, the First Direct 1st Account offers 0% interest on overdrafts under £250. It's offering a £100 switching incentive to customers who open an account, which makes it quite attractive for the first 12 months but over the longer term it may not prove to be that good value, so you should consider switching again. First Direct also requires you to have your salary paid into the account and this must be at least £1,500 a month. If you pay in less than this you'll be charged a £10 monthly fee.

Unauthorised borrowing charges: The cost of being overdrawn can soar if you exceed your overdraft limit or go overdrawn without permission. Most banks charge customers penalty fees, which can be in excess of £30. These are levied not only for going overdrawn without authorisation, but also for any transactions such as standing orders or direct debits that are honoured or declined whilst you are borrowing without permission. As a result, exceeding your overdraft limit by just a few pounds can end up costing you hundreds in penalty fees.

Key things to consider before you apply:

  • What will you be charged for going overdrawn?
  • Is there a fee-free overdraft buffer?
  • Is there a monthly fee?
  • When are penalty fees applied and how much could you be charged?

What else should you watch out for?

Here are some more things to think about when shopping around for a current account:

  • If you have a poor credit score: Banks and building societies will check your credit file when you apply for a current account. If you have a very bad credit score, or don't have much of a credit history, perhaps because you've not lived in Britain for long or have never been registered on the electoral role, you may struggle to get a standard current account. However, most current account providers now offer a basic bank account which enables you to pay in your wages, make cash withdrawals from ATMs and pay bills by standing order or direct debit. Basic bank accounts don't have overdraft facilities so you can only spend what you have in the account and you will not receive a cheque book.

  • For use overseas: If you spend a lot of time overseas, consider the ATM withdrawal charges when you use a debit card. The Nationwide Flex Account charges no overseas commission.

  • Access: Many of the leading current account rates are online only deals. Check if branch or postal access is important to you.

  • Spread your money: Remember the Financial Services Compensation Scheme protects the first £50,000 with a single institution (£100,000 if you have a joint account). If you have more than this in current and savings accounts within the same financial institution you'll need to spread your money around. For more information, read our article 'Who owns who?'

How does the switching process work?

One of the other reasons why so few people switch current account provider is because they think it's too much hassle. This is understandable given that most people have numerous standing orders and direct debits going out of their account each month. However, the switching process really isn't that complicated because your new bank will do most of the work for you.

Once you've applied for an account, your new provider will contact your existing bank and ask for a list of all the direct debits and standing orders linked to the account. You then stipulate which mandates you want transferring over and your new bank will do the rest.

It usually takes around six weeks for everything to be moved over to the new account. Because direct debits often go out throughout the month and some may leave your account before your salary is paid in, most banks will either set up an overdraft facility to ensure all payments are honoured or guarantee that you won't be hit by penalty charges.

Disclaimer: Please note that any rates or deals mentioned in this article were available at the time of writing.

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