With inflation easing and interest rates still high, now could be the perfect time to take advantage of inflation-beating savings returns.
Four out of five savings accounts now pay returns that are higher than inflation, according to Moneyfacts Compare, and therefore protect the value of your savings from being eroded by rising living costs. It’s a far cry from the couple of years prior to November 2023, when no savings accounts beat or even matched inflation.
Here, we explain why grabbing a good Individual Savings Account (ISA) before the end of the tax year might be a sensible move, and where you can find the best rates.
Why is now a good time to get an ISA?
One of the actions taken by the Bank of England to combat spiralling inflation over the past couple of years has been to increase the base rate. This is the rate that it charges other lenders to borrow money from it, so it effectively dictates the movement of fixed mortgage and savings rates rates. In theory, higher interest rates should spur people to save more and spend less, reducing demand for goods and services and pushing inflation down.
High interest rates are painful for borrowers but benefit savers, who have seen returns jump across regular savings accounts, bonds, and both fixed and variable rate individual savings accounts.
Now that inflation is finally easing – it stood at 3.4% in the 12 months to February, having been at 10.4% a year ago – interest rates may soon follow the same trajectory. The Bank of England has opted to hold the base rate at 5.25% over the last few months, rather than increase it, and it seems likely that the next movement will be a downwards one. Lenders are already starting to curb their top rates in anticipation of a downwards movement in the base rate, and we can expect them to drop further once the base rate actually does fall.
This means that now could be an ideal time to take advantage of a good inflation-beating ISA offering a fixed rate for at least a year, before they potentially disappear in coming months.
Having a savings account with an interest rate higher than inflation is really important if you want to maintain the purchasing power of your cash.
Anna Bowes, founder of savings website Savingschampion.co.uk, explained: “If you have £10,000 in an account earning 0.25%, with inflation at the current level of 3.4%, after one year, although the total balance including accrued interest would be £10,025, the real value after the effect of inflation would have reduced your spending power to £9,695.
“However, if you picked an ISA paying 5.15% tax-free, not only would the total balance have increased to £10,515 after a year, but more importantly the real value would have grown too – giving you spending power of £10,169, so more than keeping up with inflation.”
Another good reason to grab an ISA now before April 6 is that you can’t carry any of your £20,000 annual allowance over into the new tax year (although you will get a fresh allowance when the new tax year starts). In other words, if you had £40,000 to stash away, you could pay in the first £20,000 in the current 2023/24 tax year, then deposit the rest when the 2024/25 year begins. Read more in our article Nine reasons to use your ISA allowance before the end of the tax year.
What are the best ISAs right now?
There are a few different kinds of ISAs you can choose from if you want to take advantage of current high rates, but thinking long-term, your best bet may be a fixed-rate cash ISA.
This is an account where the attached interest rate is guaranteed for a certain term – usually one year, two years, three or five – meaning that even if interest rates drop this year, you’ll still receive inflation-beating returns for the duration of the account. Other types of cash ISA, such as notice cash ISAs, may offer slightly better rates for the time being, but these are usually variable rate accounts and so returns may drop this year as soon as interest rates start to fall.
Currently, the highest rates are attached to cash ISAs with one-year terms. While it is common for higher rates to be reserved for ISAs with longer terms, the opposite is true at the moment, as interest rates are widely expected to fall in the near future.
The best one-year fixed rate cash ISAs right now are from Paragon, Charter Savings Bank and Close Brothers Savings, all offering one-year fixed rates of 5.05% annual equivalent rate (AER) with minimum opening balances of £500, £5,000 and £10,000 respectively.
Oaknorth are offering 5.04% on a starting balance of just £1, meaning there’s no entry barrier if you don’t have lots to save.
If you’re happy to tie up your savings for longer than a year, the best two-year fixed rate ISA is also from Oaknorth, at 4.71%, though you can grab an 18-month fix from Skipton Building Society at 4.75% as well, bearing in mind they have a hefty minimum opening balance of £5,000.
The best five-year fixed rate ISA pays 4.16% AER and is from UBL. This account can be opened with a minimum deposit of £2,000, though you must deposit the money by April 5 if you want to use your 2023/24 ISA allowance.
These are the highest rates at the time of writing (28.3.2024), but if you want a list of the best fixed and variable rate cash ISAs, updated weekly, check out our article Which cash ISAs pay the most interest?
Remember that with a fixed-rate account, you won’t usually be able to access your savings during the fixed rate term. Certain accounts do allow you to make withdrawals, but this will often result in an interest penalty, so it’s best avoided if you can help it. For example, making a withdrawal from any of the best one-year accounts mentioned above will result in you losing 90 days’ worth of interest. If you would like to be able to make withdrawals at a moment’s notice without penalty, consider an easy-access cash ISA instead.
Learn more about ISAs
If you’re not familiar with how ISAs work, it’s never too late to get to grips with them.
Simply put, an ISA is essentially a tax-efficient “wrapper” for your savings and investments. Any returns you generate from an ISA aren’t subject to income tax or capital gains tax (CGT), so even if you have savings accounts already, an ISA can be a really useful addition if you have used up your Personal Savings Allowance for the current tax year.
Read more about ISAs in our article Everything you need to know about ISAs and about how to make the most of your savings allowances in our article Are you paying unnecessary tax on your savings?
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