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Five best cash ISAs

Interest rates may be low at the moment, but there is still much you can do to get a decent yield on your savings. Here's how to make the most of your savings interest.

The Bank of England base rate has been stuck at its all-time low of 0.5 per cent for three years now but that doesn’t mean you have to settle for such meagre returns on your spare cash.

There are a host of accounts that are paying the same or even less than the base rate, but also a good many that offer considerably more.

Make the most of your savings interest

One of the most important things you can do to maximise the interest on your deposit is to avoid tax and that means setting up an ISA.

You can put up to £5,340 into an ISA in the current financial year, which runs until 5 April.

In 2012-13, the limit rises in line with inflation to £5,640.

Any money you have in an ISA earns interest which is not subject to income tax.

On a normal account, interest generally has basic rate tax (at 20 per cent) deducted, and if you’re a higher rate taxpayer you should be taxed further through the self-assessment system or your tax code.

So if you have £10,000 in an account paying 2.5 per cent interest, you’ll earn £250 interest in a year.

With an ISA you’ll keep the lot but on a standard account you will only receive £200 if you're a basic rate taxpayer, or £150 if you pay tax at 40 per cent.

Clearly, an ISA is likely to be the best home for your cash. But, as with standard savings accounts, there is a great deal of difference between the rates paid on the best and worst accounts.

Customer inertia

In particular, if you’ve got cash invested in an ISA set up several years ago, there is a good chance that the interest it is earning now is well below what you could get elsewhere.

Banks make money by relying on their customers’ inertia.

One common tactic is to offer an eye-catchingly high rate to attract new business only to reduce it gradually over subsequent years and hope that few customers move their money to a rival.

Best vs worst ISAs

This perhaps explains the derisory rates paid by certain banks and building societies on their ISAs.

For example, Santander’s Easy ISA returns just 0.1 per cent a year.

So if you deposited the full £5,340 at the start of the current financial year, you’d earn just £5.34 interest.

Nationwide, Dunfermline and Derbyshire building societies are each paying 0.25 per cent on their most basic cash ISAs, while Smile’s cash ISA offers just 0.31 per cent.

Incentive to move

If you have money in one of these accounts, or any which is paying a low rate, you should definitely think about switching.

Switching is a simple process but you need to ask the bank you’re moving to to arrange the transfer to make sure you don’t lose your tax advantages.

So where should you move your money? Here are five of the current best deals, depending on how long you want your cash to be tied up for.

Five of the best

  • The Halifax five-year fixed-rate ISA is currently paying 4.5 per cent interest a year. It sounds high, but do bear in mind that the rate will not increase before 2017 even if base rates soar and you'll face a penalty if you want to take your cash out before then. But given the alternatives, many people would consider these prices well worth paying. The minimum opening deposit is £1,000.
  • If you don’t fancy leaving your money untouched for quite so long, the Cheshire Building Society Direct Fixed Rate ISA lasts for 18 months and pays 4 per cent a year. You’ll need to kick the account off with a deposit of at least £1,000 though.
  • If you want instant access to your cash, Cheshire Building Society’s Direct Cash ISA pays 3.35 per cent a year, but requires a £1,000 initial deposit.
  • The Leeds Building Society One-Year Fixed Rate Cash ISA ties your cash up for just 12 months and pays 3.25 per cent, so you get more flexibility in return for a lower rate. This account can be opened with just £1.
  • And with instant access, but no minimum initial deposit, is the Barclays Loyalty Reward ISA at 3.05 per cent a year.

All information correct at time of publication.