Is it worth taking a fixed-rate savings deal as base rate shows signs of peaking?

Something strange is going on in the savings world. Normally, the longer you keep your money in a savings account, the higher the interest you receive. Providers reward you for entrusting your money for a long time.

But in recent weeks, more and more providers are reversing this trend. They offer the same or lower rates on five-year fixed-rate accounts than on one- or two-year fixed-rate accounts.

Laura Suter, head of personal finance at wealth platform AJ Bell, says, “For the first time since 2016, average term accounts with maturities of two years or more pay less than the average for accounts with fixed maturities of less than a year.”

The average interest rate on bonds with a fixed term of one year or less stood at 3.37% in February, the latest data from the Bank of England showed. For bonds with a fixed term of more than two years, the average interest rate was 2.45 percent.

> View the latest fixed savings rates on our best-buy tables

Why is this happening?

Savings providers price their deals based on what they expect the Bank of England base rate to be in the future.

For example, they do not want savers to have to pay five percent interest per year in four years’ time if the interest rate has fallen to two percent.

Financial markets are predicting that base rates are nearing their peak and may even fall in the coming months. That’s because the rate of inflation is expected to fall sharply later this year, meaning the Bank of England no longer needs to raise key rates to tame it.

Myron Jobson, senior personal finance analyst at wealth platform Interactive Investor, says: “It may seem counterintuitive for savings providers to offer lower interest rates for longer-term fixed deals, but it underscores the belief that the cycle of rate hikes is close by. an end, with inflation expected to cool significantly this year.

‘Having to pay a higher interest on savings long after interest rates have fallen can be at the expense of savings providers’ profit margins.’

How long should you fix?

Ask yourself when you will need access to your savings again. You don’t normally have access to it during a fix, so don’t tie your money up any longer than is practical.

If you don’t need to touch your savings for several years, you may decide it’s worth accepting a slightly lower rate now for a longer fixed-rate account. This way you will still receive a good rate even if the interest rate falls sharply.

However, if you disagree with the current forecasts and believe that rates may continue to rise, agree on a shorter term and then get a new fixed-rate deal when it expires.

For savers unsure of what to do, Laura Suter suggests a middle ground. “You could save half in a longer-term fix, the rest in a shorter-term fix, and take your chances with what the rates will be when that fix expires,” she says.

What are the best rates?

There is currently little choice between two-, three- and five-year fixes.

For example, SmartSave offers 4.51 percent on a one-year fix; Al Rayan offers 4.68 percent with a three-year fix, and United Trust Bank offers 4.65 percent over five years. Atom Bank offers 4.45 percent on its two-, three- and five-year fixed-rate accounts.

What about tax?

When taking out a multi-year fixed-interest account, pay attention to how the interest is paid. Some pay interest annually, others pay everything at the end of the fixed-rate period. If you choose the latter, you run a greater risk of a tax assessment.

You must pay tax on the interest on your Personal Savings Allowance (PSA). Basic rate taxpayers have a PSA of £1,000; higher rate taxpayers have £500 and higher rate taxpayers have none.

When taking out a multi-year fixed-interest account, pay attention to how the interest is paid. Some pay interest annually, others pay everything at the end of the fixed-rate period.

If you save on a Private Savings Account (Isa), you do not have to pay tax on the interest received.

> Rising rates mean you may owe tax on a piggy bank of less than £5,000

Any other alternatives?

If you know you won’t have to touch your savings for the next five years, ask yourself if you should invest instead.

In the long term, prudent investing usually yields a better return than interest on savings. However, you should only invest money that you don’t need to spend for the next five to ten years.

Sarah Coles, head of personal finance at wealth platform Hargreaves Lansdown, says: ‘If you have the money tied up for five to 10 years or more then it’s definitely worth considering investing. You take investment risk, so this can rise and fall in value in the short term.

“However, the idea is that if you have a balanced portfolio, you should have time in the long run to absorb any fluctuations and take advantage of more potential growth.”