Get financially fit: How to start saving and making money

If you want to develop a savings habit, there’s no time like the present and a savings account is a good place to start

If you are prepared to take a little more risk, you can earn a decent return.

The value of regular saving

The new year is a great time to start a new savings habit. If you start setting aside small, regular amounts of money now, you could quickly build up a handy pot of cash to use on anything from holidays, home repairs or covering the cost of next Christmas.

Start saving £100 a month now and by 2015 you’ll have up to £1,240, depending on interest rates. Keep saving and by 2019 you could have almost £7,000 squirrelled away.

If you have no money in the bank and want to develop a strict savings habit, a regular savings account is a good place to start. These accounts reward you with a healthy interest rate for making regular deposits. Miss a payment and you put that interest rate in jeopardy, providing a good framework for starting to save.

The best rate comes from First Direct whose regular saver account is offering 6 per cent for the first year, and you can pay in between £25 and £300 a month. There’s a catch, though: you need a current account with the bank. First Direct’s current account costs £10 a month unless you pay in at least £1,000 each month. If you will pay for the current account, this offer is best avoided. By the time you’ve paid the fee you could have got a better return with a regular savings account paying less interest.

For example, pay in £300 a month with First Direct and you’ll have £3,716 after the first 12 months — £3,656 after the current account fees. Put the same amount into Kent Reliance’s Regular Savings account, which pays 4 per cent, and you’ll have £3,678.

Where to put a rainy-day fund

Once you’ve built up a savings pot, the next step is to find the best home for it. Under the mattress is tempting, and easy to keep an eye on. But, thanks to inflation, your money’s spending power will be shrinking. With inflation at 2 per cent (CPI) your mattress stash will be worth less at the end of the year. Also, if it gets stolen, your home insurance probably won’t cover it.

The rule of thumb is that the longer you lock away your money, the more interest you will receive. If you want the money within five years, your best bet is a fixed-term savings account. FirstSave’s Five-Year Fixed-Rate Bond pays 3.25 per cent interest (minimum deposit £1,000). If you do go for a fixed-rate account, don’t tie up all your money in it. Always keep some savings in an easy-access account and, that way, when the unexpected occurs, you can get hold of some money without paying exit penalties.

financially fit

Money that you want to tie up for longer than five years could be invested. Returns on stock-market investments perform better than cash over longer periods. There are risks — you could lose capital if markets fall — but over a long time, the ups and downs of market movements are smoothed and returns can be greater.

Make the most of your personal allowance

As well as using your ISA allowance you can also make your savings grow faster by using your personal allowance to the maximum. We are all entitled to earn £9,440 a year before we have to start paying income tax. If you are over 65 that rises to £10,500, and if you are over 75, £10,660.

If you earn less than these amounts you don’t have to pay income tax on any interest you earn on your savings. However, your bank won’t know your status unless you tell them, and will take tax unless you fill out an R85 form. You can get the form from your bank.

Also, if you are married or in a relationship, clever use of both your personal allowances can reduce your tax bill. If one of you has earnings that fall within the allowance, then put more savings in their name so you are paying less tax on the interest. Or if one of you is olderand qualifies for the higher allowances, put more money in their savings accounts.

It may mean an hour or two spent juggling your cash, but it is worth doing. For example, if one of you is a higher-rate taxpayer you will earn £675.16 less interest over five years on £10,000 in a 3 per cent savings account than someone who pays no income tax.

Don’t gift money to the taxman

Wherever you are putting your savings, make sure that you aren’t paying unnecessary tax. Any interest you earn on your savings could be taxed, and with rates so low this can leave you earning almost nothing. Protect your savings from the taxman with an Individual Savings Account (ISA).

Everyone is allowed to put £11,520 into an ISA. Once in there your money is allowed to grow without any income tax being due. Of that £11,520, up to £5,760 can be kept in a cash ISA, the rest has to be in a stocks and shares ISA.

To put it simply, money put in the best-rate ISA will grow faster than money in the best-rate standard savings account. For example, one of the best rates on an instant-access ISA is 1.75 per cent, which is available from NS&I, Stafford Railway Building Society and Virgin Money. Compare that with The Coventry, whose Online Saver instant-access savings account pays a market-leading 1.6 per cent; factor in tax and that is a return of 1.28 per cent for a basic-rate taxpayer.