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RIP free current accounts?

Kit Klarenberg
Written By:
Kit Klarenberg

As Santander hikes fees on its popular 1|2|3 current account, we look at the future of free banking in the UK and ask could it become a thing of the past? 

Historically, UK banks have subsidised free current accounts with the profits made from a combination of charging high overdraft fees, investment banking operations and selling loans, mortgages and other products.

Now, due to high profile scandals, greater regulatory scrutiny, stricter lending requirements and retreat from investment banking, many of these activities can no longer be used to cross-subsidise current accounts, rendering free current accounts a potential loss-leader.

A paid-for future?

While PwC research indicates 62 per cent of residents wouldn’t be prepared to pay anything for a bank account, UK bank chiefs recognise a shift towards paid-for current accounts is a potentially unavoidable development.

In March 2014, RBS boss Ross McEwan told a Treasury Select Committee paid-for accounts were “the way the industry was headed”.

Andrew Hagger, director of Moneycomms, believes the existing model is “already halfway down the road” to becoming extinct – although, he doesn’t think free current accounts will disappear completely.

“Consumers will never be forced to pay for a ‘basic’ account, with which you can deposit, withdraw and transfer,” he says.

Charlotte Nelson of Moneyfacts.co.uk agrees.

“The government wants everyone to be able to access banking in one way or another – and the general consensus among the British public would mean we never entirely get rid of free banking,” she says.

The same PwC study suggested around 22 per cent of UK consumers already pay for their bank account, usually in the form of a ‘packaged’ account (current accounts with extra features, typically costing between £5 and £20 per month).

The current market

The most popular paid-for bank account is the Santander 1|2|3. It offers perks such as monthly cashback on certain bills, and a comparatively high monthly interest rate of 3 per cent (on balances between £3,000 and £20,000). In return, customers must pay a £2 monthly fee, have at least two active direct debits and deposit a minimum of £500 per month.

However, Santander recently announced it would increase monthly fees to £5, meaning its incentives may now be less attractive. Hagger believes the increase “took the shine off” the account package, particularly for consumers with smaller balances.

“If you have a £3,000 balance you’ll earn £90 per year pre-tax, reduced to £72 after 20 per cent tax, but will be paying out £60 in fees – giving you just £1 per month benefit,” he notes.

Instead, Hagger recommends the Nationwide FlexPlus account, named ‘Best Packaged Current Account’ by Moneynet in 2014, as a “real standout”.

For a monthly fee of £10, FlexPlus customers receive 3 per cent interest on balances up to £2,500, UK & European breakdown and recovery assistance, mobile phone insurance and travel insurance for all the family.

Nicolas Frankcom, money expert at uSwitch.com, believes the Santander announcement represented “a huge kick in the teeth” for existing customers – especially as Tesco Bank, “allegedly coincidentally”, subsequently declared it would cut monthly fees for its current accounts.

Previously, Tesco Bank charged £5 per month for current accounts – in return, customers enjoyed 3 per cent AER interest on credit balances up to £3,000, and Clubcard points whenever the card was used. Now, customers receive these perks free. For Frankcom, the news demonstrated forecasts of the end of free banking are overstated.

“We’re still seeing good free accounts out there – Tesco’s recent reversal from paid-for to free current accounts shows it’s possible to go the other way,” he says.

Frankcom tips TSB’s Classic Plus account on this basis. The account offers 5 per cent AER on balances of up to £2,000, as well as 5 per cent cashback on £100 of contactless spending every month (this offer ends 1 December 2016), in return for a monthly deposit of £500.

Nevertheless, he believes consumers with free and paid-for accounts should stay on their toes, and be wary of being seduced by short-term incentives – “as Santander have shown, these can be removed at short notice”.

Nelson also warns against being drawn in by top line bonuses.

“Paid-for accounts are only worth the money if a consumer ensures they are eligible for the benefits and will use them on a frequent basis,” she says.

Jody Baker, head of money at comparethemarket.com, says many banks are offering “attractive” up-front cash deals as incentives. The table below illustrates the best deals available.

Bank Financial reward on switching
Halifax £125
First Direct £100
Clydesdale £150
Yorkshire Bank £150
The Co-operative Bank £100 to customer, £25 to charity
M&S £100 M&S gift card

Source: comparethemarket.com

Frankcom notes that Clydesdale Bank, on top of offering the highest cash reward for switchers, was recently voted by uSwitch.com customers to have the best app, best branch customer service and best switching service of any UK bank.

Meanwhile, First Direct’s incentive may be the lowest in cash terms, but the bank recently came second in a Which? survey assessing customer satisfaction with 100 of the UK’s biggest brands.