For financial goals within 5 years, and for your emergency funds, you will be looking at saving in cash. Picking the best savings accounts for your circumstances will help you make the most of your savings by earning some interest!
What kinds of accounts count as ‘cash’?
Saving ‘in cash’ doesn’t mean keeping notes under the mattress. ‘Cash’ in this context covers any type of account where your savings amount (known as ‘capital’) is not at risk.
This is in contrast to investments, which can be volatile – meaning their value can fluctuate up and down. In the long term they trend upwards, but for short term goals, this volatility adds too much risk, and the stability of cash is more valuable than chasing higher possible returns. More on this here.
The main options for cash savings in the UK are savings accounts, cash ISAs, and premium bonds.
Can I access my savings any time?
Savings accounts can be easy access (or ‘instant access’), meaning you can withdraw at any time.
Other accounts have limited access:
- Notice accounts require you to give notice before you can withdraw (usually 1-6 months)
- Fixed rate accounts (also known as fixed-rate savings bonds) usually lock your money away until the end of the fix. Some fixed rate accounts may permit you to withdraw but with a penalty fee.
- Regular saver accounts allow you to save a small monthly amount at a high interest rate. Some permit withdrawals, others charge a fee or don’t allow them at all.
Limited access accounts usually have higher interest rates than easy access accounts. But be cautious when locking money away – you risk not being able to get at it when you need it! Make sure you’ve looked at your financial situation as a whole and always keep enough accessible cash to cover your expected needs and potential emergencies.
On the other hand, if you are worried you will spend your savings if they’re available to you, you could consider using a limited access account to help keep them safe. Of course we would always recommend you try to develop good financial habits around savings instead of trying to enforce them like this – we get regular posts from people who locked money away for their own good then genuinely needed it.
How do interest rates work?
All UK savings accounts are required to describe the interest in an “annual equivalent rate” (AER), which assumes that interest compounds daily.
This allows easy comparisons to be made across different types of account, regardless of whether interest is paid monthly, annually, or at the end of a longer fixed term
For more information on how interest rates work, see MoneySavingExpert’s guide to interest rates.
Regular saver interest
Interest rates on regular savers often cause confusion. Take an account paying 7% AER interest on monthly contributions of £250. Many people expect to receive
£250 x 12 x 7% = £210 interest over the year. In fact, the interest will be around half that amount, because only the first contribution will be accruing the interest for a full year. The last contribution will only earn interest for a month. On average the money is in the account for half the year, so the amount of interest comes to approximately half the above formula.
Regular savers are designed for people saving money out of a monthly income – so there’s no way that last monthly contribution could have been earning interest all along, as you didn’t have it yet. If you have a lump sum, you can still use a regular saver, but to maximise interest keep the money in an easy access account and move it to the regular saver monthly.
Premium bond prizes
NS&I, the UK government’s bank, offer various types of savings accounts. A popular one is called ‘premium bonds’.
Premium bond savings don’t pay interest at a set rate, but instead each £1 in your premium bonds account enters you into a random lottery draw for cash ‘prizes’. These winnings average out to an effective interest rate – but your returns are down to luck, and not knowable in advance. You can save up to a maximum of £50,000 in premium bonds and winnings are tax-free.
For smaller savings amounts, the chances of winning anything at all are relatively low and you’re probably better off saving elsewhere (unless you are really excited about the lottery aspect!). However for larger savings amounts the prize wins become more statistically reliable, so more comparable to a savings account. See https://premiumbondsprizes.com/ for a calculator.
Where do I find the best interest rates?
Money Saving Expert do a great job of keeping their lists of top-paying accounts up to date:
MSE Best Savings Accounts covers easy access, notice, and fixed rate savings accounts. This is the best place to start for most people.
Many of the savings accounts on that page can also be opened jointly with another person.
MSE also have a list of Best Regular Savings Accounts. Regular savers offer a high interest rate but with some limitations – you can only deposit a set amount per month, and there may be restrictions on withdrawals.
For tax free savings, see MSE’s list of Best Cash ISAs. You can save up to £20,000 per year using ISAs, and your savings stay tax free year after year. For more information on how this works, see our ISAs page.
If you are saving for a house, consider a cash Lifetime ISA (LISA).
How much tax will I pay on my savings interest?
Interest on cash savings (held outside of ISAs or Premium Bonds) is classed as income, and is subject to income tax, except that you have some additional allowances.
The main allowance is the tax free Personal Savings Allowance (‘PSA’) of:
- £1,000 (basic rate taxpayers)
- £500 (higher rate)
- £0 (additional rate)
Interest earned up to your PSA is taxed at 0%, so effectively free of tax. Interest over the allowance will be taxed at your marginal interest rate.
That does not mean it’s not worth earning interest beyond your PSA! It just means that for interest earned above your PSA, you’ll want to factor the tax in when choosing which accounts to use.
Example tax calculation for a basic rate taxpayer
For example, if you are a basic rate (20%) taxpayer and receive £1,500 of interest, you will pay £100 in tax:
- The first £1,000 of interest is taxed at 0% thanks to your PSA
- The remaining £500 interest is then taxable at your basic rate of 20%
- Therefore the tax due is 20% of £500, which = £100
How to calculate a post-tax return rate
For savings interest you will pay tax on, you can work out your post-tax return rate:
gross interest rate * (100 – marginal tax rate)
E.g. for a 5% interest rate savings account, the net interest after tax, assuming you have no PSA left, is:
- 4% if you pay 20% tax (5% * 0.8)
- 3% if you pay 40% tax (5% * 0.6)
- 2.75% if you pay 45% tax (5% * 0.55)
You can then easily compare this rate to the rates offered by non-taxable accounts (ISAs and premium bonds), to see if you’re better off paying the tax or going for the lower rate without tax.
How to maximise interest if you will exceed your PSA
If you are lucky enough to have a large amount of savings available, you may be wondering how to make the most of it.
Firstly – double check that the amount of cash you’re holding is necessary for your circumstances. If you don’t think you will need to use the money within the next 5 years, you may wish to consider investing it for better long term returns. Use our flowchart to determine how much cash you should hold.
If your circumstances require you to have large amounts of cash savings (e.g. because you are saving up a deposit for a house), and you will exceed your PSA, don’t worry! It’s not complex to work out how to get the highest post tax returns.
Remember you can split your money across different accounts. If you have more than £85k, you will definitely want to do this to ensure you have FSCS protection. But you can also split it up to make full use of your PSA in a taxable savings account, then find the best returns after that.
Your main options are:
✅ Putting savings in a Cash ISA keeps them tax free year after year
✅ Interest rates are often competitive with savings accounts
⚠️ Your £20,000 ISA allowance may be more valuable for a S&S ISA
✅ Save up to £50,000, fully insured by the UK Government
✅ At higher balances, you are more likely to get close to the advertised interest rate (see calculator)
✅ Prizes are tax free
⚠️ You may get unlucky and receive less than average
⚠️ You won’t win the £1,000,000 jackpot so don’t factor that in!
Taxable savings accounts
✅ Could well come out on top, especially for 20% taxpayers
How do I pay tax on savings interest?
For most people, if you are paid PAYE, there is nothing you need to do. At the end of the tax year all the banks report the interest you have earned on your savings to HMRC, and HMRC will adjust your tax code to recover any tax that’s due on interest earned. This usually happens between June and October after the tax year has ended and you will be notified of the tax code change.
With that said, it is an individual’s responsibility to inform HMRC of any tax they owe. If you aren’t sure whether HMRC have been made aware, there are contact details on their “income tax on savings” page. You can also see what tax you have paid on interest in previous tax years in your “Annual tax summary”.
Which PSA do I have?
To establish which allowance is applicable, you need to establish your gross income before allowances, but after some reliefs such as gift aid and pensions. This is known by HMRC as adjusted net income.
A quick note – the PSA doesn’t actually use adjusted net income directly, but it’s the easiest way to establish your PSA. Technically, pension tax relief and gift aid extend your basic rate tax band, but functionally the outcome is the same for this purpose.
An important detail about the PSA is that it isn’t an exemption, but rather an additional 0% tax allowance. This means that interest earned within the PSA counts towards your adjusted net income, including, slightly confusingly, the PSA itself! This means that you could end up in a situation where your salary was £50,000 and you earned £600 of interest, and your PSA would be reduced as a result.
As with other areas of tax, your liability can be decreased and your allowances increased by reducing your taxable income through pension contributions and salary sacrifice schemes like Cycle to Work. Our page on tax efficiency for high earners and our page on pensions cover this in more detail.
You may pay less tax on your savings if your “earned income” is less than £17,570. You can find more details here.
Do I need to complete a Self Assessment to report savings interest?
Most employees with straightforward tax affairs do not need to complete a Self Assessment tax return.
If you already complete a Self Assessment, this will include the total interest paid in the tax year across all taxable savings accounts. Each institution you hold accounts with should be able to provide you with a statement of interest.
If your income from savings and investments is over £10,000 in a tax year you must complete a Self Assessment.
Any tax due will then be collected as part of this process.
Which tax year does an interest payment fall under?
Some accounts pay the interest monthly, which makes things a bit easier to follow, but for accounts that pay interest annually, HMRC consider the date the payment was made to you when working out the tax you pay, not when it was accrued.
What about joint accounts?
Interest from joint savings accounts is considered to be split evenly between the two people on the account for tax purposes.