Deposit accounts are generally suitable for short-term savings (less than 5 years) but it is always advisable to maintain access to safe, liquid capital to cater for unforeseen events and expenditure. Six months’ net income is a sensible minimum cash reserve. Add to this the likely outlay on one-off items over the next 3-5 years, whether it’s changing the car, doing work to the house or jetting off on exotic holidays.
For very cautious investors and for those who have no need for growth, cash savings may be considered for the medium to longer term. Fixed term deposits may offer higher returns for those who are prepared to tie up their capital for a number of years. But be careful of rising interest rates which can quickly render fixed rates unattractive.
Over the longer term it is highly likely that cash deposits will lose value relative to inflation. This means that the buying power of your savings will gradually be eroded.
From 6th April 2016 banks and building societies no longer deduct tax from interest added to savings accounts. Furthermore, basic-rate tax payers will be allowed to earn £1,000 in interest tax-free and higher–rate tax payers will be allowed to earn £500 in interest tax-free.
This Personal Savings Allowance is in addition to the Tax-Free Savings Allowance of up to £5,000 for low earners. The tax-free savings allowance means that no tax is payable on savings interest for individuals earning less than £16,500 in the 2017/18 tax year (£16,850 in 2018/19).
The combination of these allowances means that no tax will be payable on up to £6,000 of savings interest for low earners (see table below).
Cash ISAs also offer an opportunity to shelter savings interest from tax. The limit for new contributions is £20,000 for 2017/18 and the same for 2018/19.
Savings in UK Banks and Building Societies are protected by the Financial Services Compensation Scheme (FSCS) up to £85,000 per individual per institution.
Beware of quoted interest rates which seem significantly higher than the norm. These may well be offerings from “peer to peer” lending institutions. These are NOT risk-free and they are not covered by the FSCS.