What is a savings account?

A savings account is a type of bank account where you can deposit your money and store it. The difference between a savings account and a current account is that you would not typically use a savings account for your everyday spend. Offering savings accounts is one of the basic functions of a bank or building society.

There are several different types of savings account. Typically, the aim is to find one that has a decent interest rate, so you earn interest on the money you are saving.

Different types of savings accounts

‘Savings’ is a product category with a lot of different options catering for a lot of different needs. While the list below doesn’t cover every single permutation available, it describes the main types of savings account.

Instant access savings accounts – Accounts where you can deposit and withdraw money whenever you like. They typically have a lower interest rate than some other savings accounts, but are good if you need instant access to your money. Interest is taxed once it exceeds your personal savings allowance (which ranges from £500 to £1,000 depending on your tax band).

Fixed-rate savings accounts – Accounts where you deposit your money for a fixed term (often 1–5 years). Interest rates are usually higher than for instant access savings accounts, but it is likely you will have to pay a penalty fee if you need to access your money early. Alternatively, you may not be able to access it all until the fixed term has ended. Once again, interest is taxed after you reach your personal savings allowance.

Notice accounts – Accounts that require you to give a certain amount of notice (eg. typically 30-180 days) before you access your money. Interest rates are typically higher than for instant access accounts, but it will take longer to access your money. Interest is taxed beyond your personal savings allowance.

Regular savings accounts – Accounts where you save a set amount each month, with interest typically depending on you keeping up regular payments. Access conditions can vary, but interest rates are generally higher than for instant access accounts. Interest is taxed above your personal savings allowance.

Cash ISAs – Accounts that allow you to save up to your ISA limit (£20,000 for the 2018–2019 tax year), with tax not being charged on any interest you earn on your savings. Access can vary depending on what type of cash ISA you take out, with some fixed-rate ISAs offering higher interest rates if you put your money away for a set term.

Junior ISAs – Accounts where you can pay up to the child’s ISA limit per year (£4,260 for the 2018–2019 tax year) and any interest earned will not be charged tax. Typically, the child will only be able to access the money when he or she turns 18.

Children’s savings accounts – These can vary in type as much as adult accounts, but they are typically accounts that a parent or someone with parental responsibility can set up for a child and hold in trust until a specified age. Access, interest rates and minimum and maximum age requirements will depend on the individual account.

While there is rich variety in the savings market, if you only have a small amount of money to save then it may be worth considering a current account with a high interest rate. Just be careful not to dip into your funds too often, otherwise you won’t really benefit from the interest you could potentially earn on your money.

Savings rates

One of the first things to look at when choosing a savings account is the headline interest rate. This will largely depend on what type of account you are looking at. Instant access accounts typically have lower interest rates, so if you can lock your savings away for longer you are more likely to achieve a higher rate of interest.

Savings interest rates overall have been at record lows in recent years, as the Bank of England has kept the base rate down following the 2008 financial crisis. However, we are starting to see an improvement in savings rates as the base rate has increased slightly to 0.75%.

One way of securing a higher interest rate is to look for accounts that have an introductory bonus rate. These accounts offer a higher interest rate for an introductory period, after which the account will return to its standard interest rate. It could be worth taking out an account like this and then switching at the end of the introductory term. Just make sure you check the terms of the introductory rate, as you could lose the bonus if you withdraw your money before the end of the specified term.

How do savings accounts work?

Savings accounts can be taken out either online or in branch. Accounts usually have a minimum deposit you need to make in the first instance in order to open the account, but this could be as little as £1. How many deposits you can make and how much you can deposit will depend on the type of account you have taken out.

Once you have deposited money in the account, your savings will start to accrue interest. How much interest you will earn will depend on the interest rate on the account.

If your account is not an ISA (a tax-free savings account), then any interest you earn after your personal savings allowance is taxable. If you are a basic rate taxpayer, you can earn £1,000 of interest before paying tax. If you are a higher rate taxpayer, the threshold is £500 of interest, and if you are an additional rate taxpayer you do not qualify for a personal savings allowance.

Tax will be deducted at the following rates from any interest you earn over your personal savings allowance, depending on your tax band (basic, higher or additional rate).

Basic rate Higher rate Additional rate
20% 40% 45%

If you take out an ISA, then any interest you earn on savings up to the ISA limit (£20,000 for the 2018–2019 tax year) will be tax free.

Savings accounts vs current accounts

What are the advantages of a savings account over a current account?

A savings account typically has a higher rate of interest. Although some current accounts have high interest rates, they may carry a monthly fee. Therefore, if you are just looking to earn some interest on your money, a savings account is likely to achieve this goal.

Current accounts are very accessible. The money can be withdrawn at any point using a debit card. In a savings account, your money is usually stashed away out of sight, so you are less likely to dip into it. Access to your savings will depend upon what type of account you choose, but the main advantage is that you won’t be tempted to spend your savings as easily as you could with a current account.

Current accounts are vulnerable to debit card fraud. However, both types of accounts fall under the Financial Services Compensation Scheme (FSCS), which means that your money (up to £85,000) is protected if the financial provider fails.

How to compare savings accounts

When looking into what sort of savings account you want, here are the top things to look at.

Interest rate – Look at the account’s interest rate and whether it includes an introductory bonus rate. You can then calculate, based on how much you are planning to save, how much interest you would earn on your account. Consider whether you can afford to lock your money away for a certain period of time in order to access the potentially higher interest rates.

Access – A key feature of any account is how you will be able to access your money. Either you can select an easy access account, or maybe look into notice accounts or fixed-term accounts. Also research any penalties that accompany withdrawals and whether your interest rate will be affected if you withdraw money before the end of a fixed term.

Minimum and maximum deposits – Some accounts require a minimum deposit in order to open the account. Make sure that you can afford this if you are interested in taking out that account. Similarly, other accounts carry a maximum limit on how much you can deposit. Consider your financial situation and whether the maximum would suit the amount you are looking to save.

Tax – Consider taking out an ISA if you have not yet saved up to your ISA limit (£20,000) for the current tax year, then any interest you earn will be tax-free. If you are looking at other types of current account, consider what level of tax you will be charged on interest you earn above your personal savings allowance.

Protection – Check whether the savings account is covered by the FSCS. Also be aware that there is a limit of protection of up to £85,000 per banking group (eg. you can have savings in both Cahoot and Santander but as they are part of the same group you would only be protected up to £85,000), so if you have savings above this figure consider spreading it across several financial institutions.

How to apply for a savings account

Firstly, decide what type of savings account you want to apply for based on the above information.

Applications typically can be made in branch, online or over the phone. Check out the bank or building society’s website for details relating to the account you are interested in.

Financial providers usually require you to provide details of your address, occupation and current bank account in your application. If you are applying for an ISA, you will also need to provide your National Insurance number.

Will having a savings account affect my credit score?

As you are not borrowing any money with a savings account, then opening an account is unlikely to have any impact on your credit score. The only thing it could affect is the overall picture of your financial situation. If you are applying for a mortgage, your mortgage provider will look at what you have in savings alongside what you owe on loans and credit cards, etc., in order to assess whether to loan you money. Therefore, having a savings account with money deposited in it can only work in your favour.

Should I get a savings account?

Saving into any type of account is a sensible financial move. One of our first financial interactions is typically some sort of children’s savings account, and that leads the way to responsible financial behaviour in the long term. Even if you only save a small amount each month, it is a good idea to have some money put aside.

What type of savings account you choose is dependent on your financial situation. One of the first things to consider when looking to save is whether you can take advantage of a cash ISA. If you haven’t reached your ISA limit of £20,000 for the tax year, then saving into an ISA will mean that any interest you earn will be tax-free.

When looking at saving products, consider how often you want to access your money. If you can afford to deposit your money into a fixed-rate account, which means that your money will be locked away for specified period of time, then you could benefit from higher interest rates.

If you do need instant access to your money, then look at easy access accounts. Some may include an introductory bonus to boost the interest rate.

Whatever you do, consider your financial position, how much you have to save and how much you plan to save each month, and make sure you compare a range of products to find one that suits you.

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