Saving basics

Why save?

The aim of saving is to build up a pot of money. You could save for a specific purpose such as a car or holiday or to build up an emergency fund for a rainy day.

Savings accounts are usually in the form of deposit accounts which pay interest on the money in the account. Savings accounts are free to set up and providers make money by lending the money to other customers at higher rates.

If you're a tax payer, you'll probably have to pay tax on the interest you earn from a savings account but there are certain types of account where tax is not payable.

Types of account

There are a number of different types of savings accounts and what’s best for you depends on your needs. Instant access accounts, as the name suggests, offer instant access to your money. Fixed rate bonds mean tying up your money for a certain amount of time. Other accounts might require notice for withdrawals, be aimed at certain age groups (e.g. children or over-50s) or managed in a certain way (e.g. in branch or online).

Tax-free savings

Individual savings accounts (Isas) are savings accounts where the interest is paid tax-free. The annual ISA investment allowance is £11,280 for the year 2012/13. Up to £5,640 of that allowance can be saved in a cash ISA. The remainder of the £11,280 can be invested in a stocks and shares ISA with either the same or a different provider.

Cash Isas can have either a variable or fixed interest rate. Savers can transfer money saved in previous years’ Isas (Isas have been going since 1999) to a new Isa to get a better rate without the money losing its tax-free status. However not all Isa products allow transfers in.

Children’s savings

Children’s savings accounts can be a good way to teach your child about saving and how interest works. A child normally has to be seven-years-old to open a savings account. Under that age an account would have to be opened by a parent on their behalf.

It’s not quite true that children are not taxed on their savings interest. Each child can, in the 2012-13 tax year, earn up to £8,105 tax-free from salary, savings or investments before being taxed. However as most children won’t use up their allowance, savings interest is tax-free in most cases. To ensure the interest is paid tax-free, Inland Revenue form R85 needs to be completed and you can get a form from your bank.

Bonds

Fixed rate bonds are savings accounts where the rate of interest is fixed for a certain amount of time, normally one, two, three or five years.

However, the saver won’t be able to touch their money penalty-free during this time period so it’s a good idea to only open a bond if you have other savings accounts which offer instant access to your money.

Rates on bonds are normally higher than instant access savings accounts but savers could lose out if interest rates increase and their money is stuck in a bond.