Personal finance 3: saving
by George Hatjoullis
Our average wage earner is taking home £20,838 p.a. and it is questionable whether this leaves much for saving after expenses, especially if she is living in London and renting. However, let us assume she is living at home and not being charged rent or overheads (or even food).
First thing to consider is safety and security. No point in building up a nest egg that is not there when you need it. The safest place to save in the UK is National Savings and Investments (NS&I). However, the product range on offer is limited at the moment and for sums up to £85k banks and building societies are just as safe. Bank and building society deposits up to £85k are guaranteed by the FSCS and the FSCS is guaranteed by the government, so there is no material difference between NS&I, banks and building societies up to this amount. Our average earner is no doubt within this limit. There are two caveats. If a bank or building society gets into difficulty, the deposit may be guaranteed but it may take a while for the sums to be reimbursed. Moreover, it is, in principle, possible for even guaranteed deposits to be restricted in access during a crisis.
[For an example see Cyprus today. This is an EU and eurozone country but there are still limitations on daily access for depositors. Indeed if one looks at Cyprus one can see where the UK may have ended if the government had not bailed out the banks. The main beneficiary of the bail-out was in fact the uninsured depositor and in some respects even the insured depositor. However, this is a different issue.]
From the point of view of the saver there is no material difference between a bank and a building society other than the ownership structure and funding restrictions. Building societies are mutual and have no shareholders (this may be important to you) and are limited in how much funding they can take from the inter-bank market. Building societies rely more on savers for funding. Both are regulated by the FCA (the Financial Conduct Authority, not the Ferengi Commerce Authority). One very important point to note is that the £85k FSCS deposit guarantee applies to separately licensed banks and building societies. Some institutions have different brands that are branches and thus come under the same license. For example if you go to the Birmingham Midshires website and root about you will find this:
Your eligible deposits with BM Savings are protected up to a total of £85,000 by the Financial Services Compensation Scheme, the UK’s deposit protection scheme. This limit is applied to the total of any deposits you have with the following: Intelligent Finance (IF), Birmingham Midshires (BM Savings), Halifax, Bank of Scotland, Bank of Scotland Private Banking, Bank of Scotland Germany, Bank of Scotland The Netherlands, Bank of Scotland Treasury, Lloyds Bank Corporate Markets and St. James’s Place Bank. Some savings accounts under the AA Savings, Saga and Charities Aid Foundation brand names are also deposits with Bank of Scotland plc. Any total deposits you hold above the £85,000 limit between these brands are not covered.
Basically, if you have a deposit in more than one of the listed entities your total FSCS cover for all is only £85k. Before you allow savings to build up it is as well to be aware of the insurance cover. The details are on every website, somewhere.
The other issue of security arises with internet banking. Online banking is convenient and sometimes the better deals are only available online. Is it safe? The quick answer is that it can be. Online current accounts usually generate a pin from an external (to the computer) device. This requires a debit card and your ATM pin. The generated pin changes every time you access your account online. There is no point anyone reading the last pin that you used. Savings accounts can be linked to your current account so that transfers can only occur via this current account. The security thus comes down to how easy it is to change the linked account. Important security measures might include sending you a code via your mobile phone to enter as a security check or an email. A lot of banks also offer free software that adds another layer of security. The main security advantage of online banking is that you can check your activity everyday. It is advisable to do this. It is also advisable to think hard about the security of your online accounts and if you feel that some arrangements are better than others then it is a valid reason for choosing a specific institution and account. Safety is paramount.
Another very useful feature of online banking is the faster payments system that many institutions now offer. This allows you to make transfers almost instantly. This means you may be able to make transfers between your linked current account and savings account instantly (but not all institutions offer the service and some may be slower). The caveat is that once you make a transfer it cannot be cancelled and any mistakes are very hard to rectify. Check the account number and sort code very carefully. Another method is to use a template. First set up a template on your current account. Check its accuracy by making a very small transfer. If it is successful you can then make the larger transfer using the template with complete confidence. Read more about faster payments here (http://www.fasterpayments.org.uk/).
Our average earner is a 20% marginal tax payer so it is worth saving through a cash Individual Savings Account (ISA). This allows £5760 each year (£5940 from April 2014) to be saved and the interest to be received free of income tax. The interest can be rolled up and does not come out of the next years savings allowance. The problem is that once cash is removed from an ISA it cannot be returned. Returned cash is deemed new saving and comes out of the years allowance. ISAs are pure savings vehicles. Apart form these features the accounts are structured like other savings accounts with all manner of variations. Of course, whether to save through an ISA or not still requires a comparison of interest rates and a consideration of terms and conditions. If the best ISA interest rate is more than 20% below that of the best ordinary savings account then saving via an ISA may not be automatically advisable. The other problem is that a good interest rate this year may not be so good next year and a transfer may be called for. Check any costs and /or restrictions associated with a transfer. Always look at the terms and conditions (no one ever seems to do so). This said, most ISA arrangements allow transfers at no cost and it may still be worthwhile taking a lower after 20% tax interest rate now if you expect to be a 40% marginal tax payer soon. The cash ISA is normally a good place to save for the average earner.It is unlikely that even the most motivated average earner will be saving more than the ISA limit each year.