Savings bonds: A complete guide
Saving bonds pay you interest, simply for putting your money away for a set period of time. They allow you to passively boost your income, and some are even tax free. Here’s everything you need to know.
Key takeaways
You will receive a fixed interest rate over the bond’s term (ranging from six months to five years)
There are usually penalties if you need to access your money early
Everyone has a personal savings allowance, which means you may not pay tax on any interest paid
NS&I offers income bonds and premium bonds with tax-free prize draws
What is a savings bond?
Savings bonds are fixed-rate savings accounts. They will pay you a set rate of interest, in return for you agreeing to lock your money away for a fixed period of time.
These accounts require you to deposit an initial sum of money, often starting at £500 or £1,000.
You will usually earn more if you agree to put your money away for longer, yet this also means you may miss out on higher interest rates, if they rise during this time.
How do savings bonds work?
There are lots of savings bonds to choose from, and most include the following features:
You will need to make an initial deposit, with some bonds requiring as little as £1, while others may ask for £1,000 or more
Additional deposits are typically not allowed
The interest rate is fixed, which means you'll earn a consistent amount throughout the bond's term
Thinking of dipping into your bond early? Be prepared for penalties, which can include charges or a loss of interest
When the term concludes, you can collect your funds and the interest they've earned, or you might choose to reinvest in another bond
Up to £85,000 of your money is protected by the Financial Services Compensation Scheme (FSCS) if something were to happen to the savings bond provider
Types of savings bonds
These are some of the most common savings bonds you can choose from:
Fixed rate bonds offer a guaranteed return over the bond's term.
Their interest rates follow an index, like the Bank of England base rate, potentially earning you more than a standard savings account.
These pay interest regularly and often allow you to withdraw the principal without penalty.
Offered through National Savings & Investments (NS&I), these are backed by the HM Treasury.
Types of savings bonds
Fixed rate savings bonds
Tracker bonds
Income bonds
Government bonds
How long do you need to lock your money away for?
The most common lengths of bonds are one, two, three and five years, but you might be able to find both shorter and longer terms. The key is to ensure that you won't need the funds during the bond's term to avoid penalties.
Usually you can earn more if you lock your money away for longer, but this isn’t always the case.
You’ll also need to balance the risk of losing out on a higher rate of interest during the term of your bond. If you have a five-year bond, for example, with an interest rate of 4%, if the Bank of England raises rates there may be other accounts launched which pay a higher rate.
On the other hand, if rates fall – you could be earning more interest in your bond than you could elsewhere.
Is it better to invest in the stock market?
When it comes to the potential for higher returns, the stock market often comes to mind. However, it's more risky when compared to fixed-rate bonds. There are no guarantees you will make money and investing doesn’t have the same protections as putting your money into a savings bond.
Do you pay tax on savings bonds?
Thanks to the personal savings allowance, you may not have to pay any tax on your savings bond. This allowance lets you earn interest up to a certain limit tax-free, depending on your income tax rate.
Pros and cons of savings bonds
Savings bonds have their advantages and drawbacks:
Pros
Higher interest rates compared to regular savings accounts.
Fixed-rate bonds guarantee your returns.
Your money is not at risk and will be returned with interest.
If market interest rates fall, your locked-in rate becomes even more attractive.
Cons
If market rates rise, your fixed rate may miss out
Your cash is tied up for the term, which could be inconvenient in emergencies.
Early withdrawal penalties can take a bite out of your interest.
Are savings bonds right for you?
Saving bonds typically suit people who can afford to lock away a portion of their money for a fixed time. They might be less attractive to those who have had cash flow issues in the past, or if you’re in insecure employment.
In this case, you might want to consider an easy-access savings account or a cash ISA instead, to give you more flexibility to access money in an emergency.
If you need more help deciding, the MoneySuperMarket savings decision tree could be helpful.
What happens when savings bonds mature?
What exactly happens when your savings bonds mature will depend on your provider. Generally speaking, your savings will be transferred to another account and it’s up to you whether you reinvest in another bond or close the account.
Are savings bonds a good investment?
Savings bonds can be a good investment if you’re prepared to lock away your money for a while. It’s also important to remember the role that interest rates play. If interest rates remain low, then you can get a worthwhile investment from your savings bond. If interest rates rise then your saving bond could cost you money.
Other useful guides
Compare savings accounts with MoneySuperMarket
With MoneySuperMarket you can see interest rates, deposit requirements, and terms at a glance. Filters streamline your search, and once you've made your choice, you can apply online directly with the provider.
