A savings account is an agreement between you and a bank or another financial institution, which lets them look after your money in exchange for percentage-based interest paid at regular intervals.
There are all sorts of savings products on the market, some more complex than others. Before you choose a high-interest savings account, there are a few things to consider:
- How much you are prepared to invest
- How much you can afford to invest
- How long you can afford to lock your money away
This guide explains everything you need to know about how the different types of high-interest savings accounts work, and which options are out there – so you can choose the account that will maximise your returns.
What types of high-interest savings products are available?
There are actually quite a few savings products available on the market – and, confusingly, savings accounts aren’t the only way to save money.
The main types of savings account are as follows:
- Easy-access savings account: This type of account gives you immediate access to your money, and you can generally withdraw as much as you like as often as you like. As a result, you generally won’t get the best rates of interest with an account like this
- Notice savings accounts: These accounts tend to have slightly better rates of interest, because you can’t withdraw your money immediately. Instead you have to give notice – usually 30 days in advance
- Fixed-rate savings accounts: Here, you agree to lock your money up for between one and five years at a guaranteed rate of interest. The longer you agree to save for, the better the interest you get – the idea is that the bank knows it has access to your money for a set period of time, and can therefore plan how to use it for the longer-term
- Regular saver accounts: These often offer market-leading rates of interest, but there are caveats. You usually have to be an existing customer of the bank offering the account, including using it for your main current account which is then 'back-linked' to the savings account. Some banks do offer regular savings accounts to new customers, however. There is always a maximum sum you can deposit into an account like this each month – generally up to a few hundred pounds. If you have a small amount of money you’d like to put aside every month, this is a great option
Other high-interest savings products:
- Cash ISAs: Short for Individual Savings Accounts, ISAs are effectively a tax-free savings account. Interest counts as income for the purposes of calculating how much income tax you earn, unless the interest is earned in an ISA – on sums up to £20,000. There are various other rules regarding ISAs and four other types of ISA you can choose from, but cash ISAs are the most straightforward variety
- Sharia-compliant savings accounts: Islam forbids the charging or paying of interest, so things like savings and loans work slightly differently under Sharia-compliant banking. Sharia-compliant banks offer what’s known as ‘expected profit’, which means they invest the money you save with them, returning to you some of the profit that they earn on that money. You can almost always expect to reach the expected profit, but it’s not guaranteed. Nevertheless, Sharia-compliant banks can often provide excellent rates of return compared with the rest of the market – and you don’t need to be Muslim to take advantage
How does interest work?
Interest is money added to your account at regular intervals – usually monthly or annually. It’s expressed as a percentage and you receive that percentage of the total sum in the account every interval. So if your interest rate is 2%, your bank will add that much to what you have.
The money that you earn in interest will itself earn interest, which is called compound interest. The more often the interest is added to your savings, the more efficiently you’re saving. So if your compounding occurs daily, you benefit from the most effective form of compounding.
Interest rates vary between accounts and providers, so it’s worthwhile shopping around for the best deal to make sure you get the most out of your savings.
That said, all interest rates – on everything from savings accounts to mortgages and loans – are guided by the Bank of England base rate. This is the rate of interest that banks and lenders pay when they borrow from the Bank of England, which runs the economy in this country.
The base rate tends to increase when they economy is strong, in order to encourage people to save. In weaker economic times, the rate is cut to try and encourage spending. At 0.1%, it is at a historic low – and the knock-on effect is reducing the interest paid by savings accounts across the board.
What is the personal savings allowance?
You are always entitled to a personal savings allowance, which governs how much interest you can earn on your savings without having to pay tax on it. This is decided by your income.
- Basic-rate taxpayers, who have an income of £50,000 or less in the 2020/21 tax year, can earn £1,000 without paying tax on the interest from their savings accounts
- Higher-rate taxpayers, who earn £50,001 and above, can receive £500 of interest without having to pay tax on it
- Additional-rate taxpayers, those earning more than £150,001, are unable to benefit from the scheme
The main reason ISAs are so attractive is because you aren’t charged tax on the interest generated by the first £20,000 you put away every tax year – from April to April. This grows each year, so if you’ve been saving using ISAs for several years, you could be earning a considerable cumulative amount of tax-free interest.
What are introductory bonus rates?
Some savings accounts come with an introductory bonus – a short-term interest boost which usually lasts three to five months, starting from when you sign up. These are used to encourage customers to open a savings account with a particular provider.
Opening a new savings account with a bonus rate will boost your savings, so if you need a short-term savings plan, this will get you off to a good start. Once the bonus rate is finished, interest rates will drop – at which point you might want to move your deposit to another more competitive option.
There are a few things to consider before you decide on your savings bonus:
- Make sure the bonus interest rate is competitive with other options on the market
- Be aware of the basic rate of interest on the account
- Be aware of the minimum amount you need to deposit into the account to sign up
- Know the stated length of the bonus-rate term
- Look out for any extra fees that may be unique to the deal
Is a high-interest savings account worth it?
The answer to that question is ‘it depends’. Savings accounts are great for people who have a decent chunk of money sitting around which they don’t want to spend.
At present, because the Bank of England’s base rate of interest is so low, savings accounts with high rates of interest are thin on the ground. They’re still a competitive option as few, if any, other financial products have decent rates of return themselves, for similar reasons. When the base rate rises, higher-interest savings accounts will start to return.
Here are a few things to think about:
- How much you have to invest: If you only have a little spare money, a long-term fixed-rate account probably won’t make sense. If you have debts, it’s important to know that very few savings accounts – if any – will offer you more interest than you’re paying on those debts. Using your spare cash to pay your debts is a better idea under these circumstances
- How quickly you need to access your cash: If you’re completely certain that you won’t miss money that’s locked away for a year or more, fixed-rate bonds are attractive. But if you have uncertain employment, or have needed quick cash in the past, they might not make sense for you
MoneySuperMarket has a savings calculator which might help you work out why you’re saving and how much you can afford to put away.
Compare high-interest savings accounts
Navigating the many types of savings accounts, interest rates and benefits can be a little overwhelming. But arranging your finances so you get the most out of your money makes a big difference to your savings pot.
You can browse quickly and simply with us to see various easy access savings, cash ISAs and fixed-rate bonds, to help you make your choice.