How do savings accounts UK work? Bank accounts explained - what are the best rates to grow your money

With the Bank of England hiking its base rate again, beneficial interest rates on savings should be available for some time yet

Given we’re in the midst of a major cost of living crisis, it’s likely you’ve had to continually assess your personal finances over the last few months.

With inflation eroding the spending power of people across the UK, record high interest rates making mortgages more expensive and real-terms wages falling, it has been tougher than ever to keep hold of your hard-earned money. A recession is also expected to hit this year, with both the Bank of England and International Monetary Fund (IMF) unveiling their latest forecasts this week.

With all of this in our in-trays, it’s probably a good idea to think about how you can boost your financial resilience. One way you can do this (if you have at least some disposable income) is to try to keep a portion of your money in a savings account.

One of the upshots of a higher bank rate is that high street banks are paying out the best rates of interest on savings accounts in more than a decade. The same is also true of current accounts, where providers are offering what are effectively cash bribes to get people to switch to them.

But what are savings accounts - and how can you make the most of them at the moment? Here’s everything you need to know.

Saving money away for a rainy day might be a good idea given the cost of living crisis (image: Adobe)

What are savings accounts?

A savings account is a type of bank account that pays you back (i.e. gives you interest) for putting money into it. They tend to have more rules attached to them than current accounts, for example you may have to lock your money away for a certain period of time to secure the full interest payment. Broadly, there are five key types you should be aware of:

  • Easy-access accounts: you can withdraw your money at any time (although there may be some rules you have to abide by).
  • Regular savings accounts: require you to deposit a certain amount in them each month.
  • Notice accounts: you have to notify the bank in advance that you’ll be withdrawing cash.
  • Short-term fixed rates: your money is locked away at a particular rate for several months. You won’t be able to access it during this fixed period.
  • Long-term fixed rates: your money is locked away for a period of years and usually cannot be accessed within this period without incurring a penalty.

If you’re a higher tax rate payer, or you have a big pot of savings you want to put away, you should look into getting an ISA. Savings accounts are only tax-free if your annual interest payments do not exceed £1,000 (for basic-rate taxpayers) or £500 (for higher rate taxpayers).

How can you make the most of savings accounts?

At the moment, savings account interest rates are not keeping pace with inflation. The best interest rates on the market at present are around the 4.5% mark, while CPI inflation is sitting at 10.5% - although it is expected to fall over the course of 2023.

So, by putting your money in a savings account, you will technically not be saving. However, you will at least be getting some money back, while also creating a rainy day pot of cash that you can turn to if you fall on hard times.

The first thing to do is to see whether you can in fact put any money aside. To do so, you will need to write up a budget for all of your incomings and outgoings for a typical month. If you have only a small amount of money going spare each month, it might be worth opting to put it into an easy-access savings account that allows you to quickly get hold of it when it’s needed.

But be aware that these sorts of accounts tend to come with the lowest interest rates on the market. Martin Lewis’s MoneySavingExpert website recommends looking out for ‘bonus’ rate introductory offers to maximise this type of account.

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Say you regularly have a bit more disposable income left over each month, it might be worth looking at a regular savings account. This type of account requires that you pay in a set amount each month, and give you higher interest rates than standard accounts in return.

If you are considering a fixed-rate account that will lock away your money for a period, but offers you a decent interest rate, be aware that sometimes rates can rise as well as fall. Should they go up, your fixed rate might not be paying you as much as another account would.

To get around this, you could think about hedging your bets and putting some money into a more easily accessible savings account. The Bank of England is expected to increase interest rates at least one more time over the coming months, so there is some uncertainty about what will happen to rates over the first half of 2023 - although they are expected to remain relatively stable over the remainder of the year.