Trying to find a competitive savings account is hard enough, but even if you do manage to find one, you could still be stung later down the line – as I recently found out.
Early last year, I opened an easy access savings account with Halifax. I went for an easy access option because I wanted to be able to add to my savings whenever I could and also withdraw money if I needed it.
At the time, the Online Saver account from Halifax
was paying a competitive annual equivalent rate (AER) of 2.80%
and was one of the market leaders. But, as with the majority of easy access savings accounts, it came with a hefty bonus rate – in this case 2.70%
which accounted for the vast majority of returns.
The problem with bonus rates
Bonus rates aren't necessarily a bad thing though. They temporarily boost the overall interest rate and, providing they are fixed, offer a guarantee that the rate won't fall below a certain level for a set period, typically 12 months.
In my case, I knew the interest rate on my savings account couldn't fall below the fixed bonus of 2.70% for 12 months. In a market where savings returns were only heading downwards, that was pretty reassuring.
But almost one year on, and that shelter has all but entirely disappeared. I received a letter from Halifax confirming that, from March, the bonus rate on my Online Saver will expire and the interest rate will plummet to a paltry 0.10%. After basic rate tax, that's just 0.08%, In other words, almost nothing.
For example, if I had £5,000 in my Online Saver earning an annual 2.80%, over 12 months I would pocket £112 after basic rate tax.
But on a rate of 0.10%, I'd receive a pathetic £4 after tax – hardly worth bothering with.
It pays to switch
The only way to avoid being hammered by such a low interest rate is to move my savings to a better paying account before the 0.1% rate kicks in.
Yet because savings rates have tumbled over the past few months, even the best-paying easy access account from Halifax now only pays 1.60% AER and that's only on balances of £20,000 or more. On a balance of £5,000, I'd receive slightly less at 1.55% AER, giving me £62 (after tax) in interest after a year.
So, rather than staying loyal to my bank, I'll need to branch further afield in order to find a better paying account.
One option is the Post Office Instant Saver which pays 2.10% AER and includes a 2.00% bonus. On a balance of £5,000, this would give me a more respectable £84 (after tax) after 12 months.
However, because of the bonus rate, as soon as the 12 months is up, the interest rate will plunge to 0.10% and I will need to move my money again.
I could however, choose to earn a little less and keep my savings put. Virgin's Easy Access eSaver for example pays 2.00% AER and comes with no bonus rate. And a savings pot of £5,000 would only earn £4 less in interest after tax, at £80, compared to the Post Office account.
However, there is more bad news because with inflation remaining at 2.70% in December according to the latest report, basic rate taxpayers need a rate of 3.39% to stay ahead of the cost of living, while higher rate taxpayers need a rate of 4.51%. At the moment, there are no easy access savings accounts or fixed-rate bonds that offer rates high enough.
The only way you'll be able to beat inflation is by opting for a cash ISA, providing you haven't already used up this tax year's allowance of £5,640.
The advantage of having a cash ISA is you won't pay any tax on the interest you earn. So you'll only need to find an account paying 2.70% in order to beat inflation. The M&S Advantage Cash ISA, for example, pays 2.75% AER. If you had £5,000 in this account, you would earn £137.50 in interest tax-free.
Having already used up my ISA allowance this year, I will need to wait until the start of the new tax year on April 6 before I can begin my saving for my new allowance of £5,760.
Stay on top of your savings
Of course, I won't be the only saver to be affected by plummeting interest rates and expiring bonus rates.
If any of you opened an easy access savings account a year ago, I urge you to check the interest rate you're now receiving as chances are it will be a lot lower than it was a year ago.
Your bank should inform you when the bonus rate on your account is due to expire, so it's important to read any letters you receive from your bank to ensure you don't get caught out. But in case it doesn't, it's a good idea to make a note in your diary to remind yourself about when your bonus is coming to an end.
Unfortunately, there is no escaping the fact that savings rates are pitifully low. But even so, a rate of 2.00% is better than a rate of 0.10%, so it's well worth taking the time to shop around and switch to a better deal as soon as possible.
Watch out for savings traps
Finally, when comparing deals, bear in mind that some easy access savings accounts limit the number of penalty-free withdrawals you can make. For example, the Nationwide MySave Online Plus account, paying 2.00% AER, only permits one penalty-free withdrawal per year. Further withdrawals are subject to a loss of bonus and a lower interest rate of 0.10%.
Also remember that interest rates on easy access savings accounts are variable so they can change at any time. If you want to avoid this, you'll need to opt for a fixed-rate bond, but these savings accounts require you to leave your money untouched – usually for a year or more – and you probably won’t be able to add to your savings after making the initial deposit.
However, in return, you'll usually get a higher rate of interest than you would with an easy access account. For example, you can currently earn an AER of 2.96% with Vanquis Bank’s 3-Year Fixed Rate Bond which can be opened with £1,000 – but only operated online.
Please note: Any rates or deals mentioned in this article were available at the time of writing. Click on a highlighted product and apply direct.