Savers who are seeking a safe haven for their money may automatically consider a cash ISA, but there are alternatives that might be suitable, depending on their personal preferences.
At the start of every tax year you receive a new annual ISA allowance. For the current 2023/24 tax year this is £20,000, and you can put this full amount in a cash ISA if you wish, or split your allowance between other types of ISA. However, the savings option that is right for you will depend on your personal circumstances, and attitude to risk. You can find more guidance in our articles What is your attitude to risk? and Investing – the basics.
Here, we look at some of the alternatives to cash ISAs that you might want to consider, and how they work.
Savings accounts
Basic-rate taxpayers can earn the first £1,000 of savings interest tax-free outside an ISA (£500 if you’re a higher-rate taxpayer) under the Personal Savings Allowance, so you may choose to save in a standard savings account instead of a cash ISA. However, it’s worth noting that savers have a greater chance of breaching their Personal Savings Allowance now that the Bank of England base stands at 4.25%, which has pushed up savings rates. Read more about this in our article What is the Personal Savings Allowance?
If you are considering a savings account, bear in mind too that with inflation reaching 10.1% in the 12 months to March, savers’ returns are unable to keep up with the rising cost of living, even if they choose the highest paying account. The Bank of England’s base interest rate is currently 4.25%, but many savings accounts pay less than this. The top paying instant access savings account is around 3.55%, while the highest rate on a one-year fixed rate savings bond is about 4.65%. By comparison, the top one-year fixed rate cash ISA pays 4.2%. Find out more in our guides Best instant access savings accounts, Fixed rate savings bonds explained and Best cash ISA rates.
Top-paying current accounts
Some current account providers offer customers access to linked regular savings accounts, which pay more interest on cash than top-paying savings accounts and cash ISAs. They may also pay decent rates of interest on money held in a current account. However, the amount you can save is usually capped at around £5,000 or less, with monthly payments often restricted to a maximum of £300 or £400. For example, Nationwide is paying 5% on balances up to £1,500, but only for a year. If you’re a regular saver, Lloyds pays 6.25% fixed for 12 months if you save between £25 and £400 every month.
You may also pocket hundreds of pounds in the form of a cash switching incentive by moving to a different current account provider. Find out more in our guide 9 of the best current accounts and switching incentives.
Stocks and shares ISAs
You may choose to use some or all of your ISA allowance to invest in a Stocks and Shares ISA, provided you’re comfortable with the risks involved. You’re basically investing in the stock market, but the advantage of doing so within an ISA is that you won’t have to pay any capital gains tax or income tax on any profits made from your investment. Read more in our article How do stocks and shares ISAs work?
You receive a tax-free allowance for dividend income outside an ISA, but this has recently been reduced. For the 2023-24 tax year, this tax-free allowance is at £1,000, half the previous year’s £2,000 allowance. The dividend allowance will fall further to £500 in the 2024/25 tax year. Above this threshold, dividend tax rates are 8.75% for basic-rate taxpayers, 33.75% for higher-rate taxpayers and 39.35% for additional-rate taxpayers.
ISA rules allow you to transfer your Stocks and Shares ISA to a Cash ISA in the future, if you wish, or the other way around. As mentioned, you should only invest if you can accept that the value of your investments can fall as well as rise, so there’s a chance that you could get back less than you put in.
Money market funds
Volatile stock markets and uncertain economic times can be very worrying for investors, especially for those approaching or in retirement who may not have decades to weather market storms. Money market funds can offer a relatively safe choice for your tax-efficient stocks and shares ISA, and could be considered a defensive core to a wider investment portfolio, as they hold a diversified basket of low risk bonds that are due to mature soon, usually within a year. Read more in our article What is a money market fund?
Money market funds can provide valuable peace of mind that you won’t lose all your savings in the event of a stock market crash. If you haven’t yet decided where you want to invest over the longer term, they can provide a useful short-term home for your money too. Alternatively, you may be planning on spending this money within the next few years, and looking for a short-term home for your savings that you can access relatively quickly.
Money market funds have become more competitive in the rates they pay as the Bank of England hiked interest rates in the past year. However, whether they continue to pay a rising income will depend on what’s happening more widely to interest rates.
Premium bonds
You don’t receive standard interest payments on savings held in National Savings & Investment’s Premium Bonds. However, you have the chance to win money in monthly prize draws. NS&I pays out two £1m jackpots every month, and offers numerous other prizes starting from £25. There are more than 2,000 prizes up for grabs that are worth between £5,000 and £100,000.
You can save up to a maximum of £50,000 in Premium Bonds, and each £1 you save is given a bond number with a chance of winning a prize. Find out more in our article Are Premium Bonds better than savings accounts? While they don’t offer a guaranteed return on your savings, they pay someone with average luck a prize-fund rate that amounts to around 3.30%. There are no guarantees you’ll get this amount though – you could end up winning nothing at all, or you might win big and receive a substantial prize (if you’re very lucky).
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