Cash Isas: there are still benefits be had – here are the best rates
High inflation, low interest rates, declining tax benefits – has the cash Isa had its day? Perhaps not quite yet
It has been a tough year for cash Isas. For 11 months in a row in 2021, substantially more money was pulled out of these accounts than was deposited: in total, over £4.5bn was removed. We haven’t abandoned saving by any means – £35.5bn was paid into non-Isa cash savings accounts during the last six months of 2021 – but Isas have fallen out of favour.
This isn’t a new phenomenon. “Cash Isas hit peak popularity in 2014, when the Isa limit was dramatically increased to £15,000 partway through the tax year and flows in the final six months of that year stood at £15.6bn,” says Laura Suter, head of personal finance at AJ Bell. “However, their appeal has dwindled since then.”
So what happened? Firstly, the introduction of the personal savings allowance in 2016 dealt a hammer blow to the accounts. You can now earn up to £1,000 interest tax-free in any cash account each year as a basic-rate taxpayer, £500 for higher-rate taxpayers and £0 for additional-rate taxpayers. Then add to that the shockingly low interest rates of recent years – 1.7% is the best you can do at present (see below) – and it’s easy to see why many savers just don’t see the point in the tax benefits of a cash Isa when the vast majority won’t owe any tax anyway.
It’s not the end of the line for cash Isas
However, there is still a strong case to be made for holding savings in a cash Isa. First, simplicity. Once you have deposited money (up to £20,000 this tax year) into a cash Isa it is protected from tax for as long as it stays in the account. That could be decades. You can also transfer that money into an investment Isa without it affecting your overall allowance if you want to take more risk with your savings in the hope of a greater reward in the future. Also, while the personal savings allowance seems generous, it could quickly disappear if your earnings were to rise. For example, the government’s decision to freeze income-tax thresholds means over a million people will become higher-rate taxpayers by 2026, according to analysis by the House of Commons Library. If you are one of them, then your personal savings allowance will be halved overnight, which could leave you suddenly paying income tax on your interest.
Throw in the fact that interest rates are slowly but steadily rising, and the personal savings allowance may soon become inadequate for protecting your savings from tax. Putting your money into an Isa at least gives you peace of mind, and it doesn’t cost anything extra. As Suter notes, “we’ve already seen the Bank of England increase interest rates and it’s signalled that it plans to raise them further, to hit 1.25% before the end of the year”. At that interest rate, a basic-rate taxpayer would hit their PSA if they had an £80,000 nest egg, while higher-rate taxpayers would start paying tax on interest if their balance exceeded £40,000.
Keep an eye on inflation risks
So, which cash Isa should you choose? The reality is that the options aren’t great and absolutely no option will protect you from inflation. Indeed, says Laith Khalaf of AJ Bell, “it’s shaping up to be the worst year ever for cash Isa savers, with interest rates still pinned to the floor, and inflation relentlessly climbing”. As a minor consolation, “rate rises should provide some relief as we move through the year, but there’s no escaping the fact that money in cash Isas will still be losing its buying power”.
Inflation is one key reason why you should consider placing sums that you can afford to lock up for several years in a stocks and shares Isa. This involves taking risk with your money and, unlike cash, you may get back less than you originally invested. But if you want to maintain the purchasing value of your money in “real” (after-inflation) terms over the long run, it’s your only option. However, everyone should also have emergency savings (ideally up to six months’ living costs) stored in cash somewhere – and despite its flaws, an easy-access cash Isa still fits the bill. We look at some of the highest-paying options on the left.
The best cash Isa rates
The best interest you can get on a cash Isa is 2% from United Trust Bank for seven years. But with interest rates expected to rise, now is not the time to lock your money up in a long-term fix. You could find your return falls behind the competition when rates increase.
Nor are medium-term fixed rate accounts offering a sufficiently high interest rate to warrant locking your money away for several years. The best are 1.65% on the United Trust Bank’s Three-Year Bond and 1.65% with Leeds Building Society's 3-Year Fixed Rate Cash Isa
A better option is to go for an instant-access Isa, or, at most, a one-year fix. That way you’ll be able to access your cash and transfer it to a better-paying Isa if and when interest rates rise. The best one-year rate is 1.35% on Castle Trust’s Fixed-Rate e-Cash Isa. The account accepts Isa transfers and can be opened and managed online. If you’d prefer branch-based or postal banking, then Coventry Building Society pays 1.2% on its Fixed-Rate Isa (158), which matures next year.
On the instant-access front, Paragon Bank's Triple Access Cash Isa pays 0.8% – but you may only make three withdrawals in the year or the interest rate will drop to 0.25%. Yorkshire Building Society’s Internet Saver Isa Plus Issue 10 pays 0.6% on more than £10,000 and 0.82% on more than £50,000. It accepts transfers from other Isas, but can only be opened and managed online. For branch-based instant access, Yorkshire also leads – its Access Saver Isa Plus Issue 8 pays up to 0.7%.
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