Personal Finance for Accountants (U13763)

Lecture 4 Savings

Lecture 4 Savings

• Savings trends in the UK • Motivation for saving • Tax Exempt Savings • Saving products in the UK

Savings trends in the UK

• The UK government defines the term Savings as money on deposit, for example with a Bank or Building Society. The term Investments is used when money is placed into financial products as Shares and Government Bonds (Guilts).

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Savings trends in the UK

• Economists described savings as deferred expenditure. You are delaying spending your money and the enjoyment that will come from that. When you place this money into a savings account you are granting others the use of your money (on a temporary basis) for this you will be compensated, usually in the form of interest.

• The family resources survey conducted by the Department for Work and Pensions provides us some statistics regarding the levels of savings in the UK:

Savings trends in the UK

Amount of saving per UK Household 2003/4 (excluding money in pension schemes) Level of Savings All UK Households

(%) No savings 28 Less than £1500 19 £1500 but less than £3000 8 £3000 but less than £8000 16 £8000 but less than £10000 4 £10000 but less than £16000 7 £16000 but less than £20000 3 £20,000 or more 15

Source: DWP, 2005 Table 5.9

Motivation for saving

• Mr. Micawber, in Charles Dickens' David Copperfield, summed it up by saying:

• ‘Annual income twenty pounds, annual expenditure nineteen nineteen six, result happiness. Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery’.

Motivation for saving

• One important motive for saving is a a precautionary measure often referred to as ‘saving for a rainy day’ this involves building up savings in order to provide for unexpected events or bills. If a household doesn’t have any savings and an unexpected event occurs (such as the car is damaged or someone in the family is too ill to work and loses their income), then there are only three alternatives:

Motivation for saving

• Receive a payout from any insurance taken out against such an unexpected event e.g. Income protection insurance.

• Borrow money (from friends, relatives or financial institutions) to pay the unexpected bills.

• Defaulting on any commitments for example not making payments on a car loan or mortgage. This alternative has consequences you risk repossession and a negative impact on future credit ratings.

Motivation for saving

• Many writers in personal finance recommend that you build up savings to the value of 3 months living expenses. Then if for example you lose your job you have a 3 month safety net in which to live on and by which time hopefully you will have secured new employment.

The table below shows what percentage of UK households held savings, investments and other accounts in 2004.

Type of Account % Current Account 89 Post Office 6 Basic Bank Account 36 Tax Exempt Special Savings Account (TESSA)

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Individual Savings Account (ISA) 33 Other Bank/Building Society Account 54 Stocks and Shares 22 Personal Equity Plans 8 Unit Trusts 5 Guilts 1 Premium Bonds 23 National Savings Bonds 4 Guaranteed Equity Bonds Less than 1% Company Shares Scheme/ profit scheme 4 Save as you Earn 1 Any type of account 94 No Accounts 6 Direct payment account 93

Source: DWP, 2005 Table 5.3

Savings• Note that nearly 90% of the population hold a current

account and over half have a savings account with a bank or building society. Other popular savings products are ISAs (33%) and premium bonds (23%).

• Most savings accounts pay interest after deducting tax

at the standard rate of income tax (currently 20%). • Non tax payers can elect to have bank or building

society interest paid gross they need to complete a form called R85.

Tax Exempt Savings

• Interest from Tax Exempt Special Savings Accounts (TESSAs)

• TESSAs (Tax-Exempt Special Savings Accounts) were the precursor to the Cash ISA and you were allowed to save up to £9,000 over a five-year period with all interest paid tax-free

• The last day you could open one was 5 April 1999, so there aren't any TESSAs in existence any more. But you were allowed to roll a TESSA that matured between 6 April 1999 and 5 April 2004 into what is known as a TESSA-Only ISA (or TOISA for short) so that you could continue to receive tax-free interest. The TESSA was invested with a bank or building society.

Tax Exempt Savings

• The first £70 of interest on a National Savings Bank ordinary account. Interest paid on other accounts is not exempt

• Interest on National Savings Certificates • Interest from Save As You Earn certified

contractual savings schemes • Loan interest paid by a member of a credit union

to the union • Interest from Personal Equity Plans (PEPs), unless

the amount of interest withdrawn in the tax year is more than £180.

Interest from Individual Savings Accounts (ISAs).

• An Individual Savings Account (ISA) is not an investment in itself. In fact, it's simply a tax-free wrapper inside which you put cash, bonds, individual shares or stock-market funds. By sheltering your investments inside an ISA, you don't have to pay tax on any income or capital gains that they make, which boosts your returns.

• For those investors who prefer low risk there is the cash mini-ISA, this tax-free savings account with a bank or building society that allows you to keep £3,600 cash per tax year out of the taxman's reach. Hence, if a cash mini-ISA pays annual interest of, say, 5%, then that's what you'll earn, with no deduction.

Interest from Individual Savings Accounts (ISAs).

• If you can afford to take more risk you can also put up to £3,600 per tax year into a shares mini-ISA. Alternatively you can put the full £7,200 a year into a shares maxi-ISA. This means a couple could invest £14,400 per tax year into shares, without losing a penny of their capital gains or dividends to the taxman.

National Savings & Investments (NS&I)

• The NS&I started in 1861 as the Post Office Savings Account.

• It was a simple savings scheme to encourage ordinary wage earners to save to provide themselves a safety net against ‘adversity and ill health’ (this was before the start of the welfare state).

• The scheme also permitted the government at the time to borrow the money for public spending.

National Savings & Investments (NS&I)

Today the NS&I is backed by the treasury which guarantees customers deposits. They offer a wide range of products including;

• Premium Bonds• ISAs• Index linked Saving Certificates• Fixed Interest savings Certificates• Guaranteed Equity Bonds

Seminar Work

• 1. Review questions page 124 of core text.• 2. Attempt case study 9.1 page 125 of core text. • Please structure your answer as follows: • State their financial objectives/goals• State their current assets• State their attitude to risk• State any assumptions that you are making that form the basis of

your recommendations• Make savings and investment recommendations to achieve the

stated goals. Explaining the advantages and disadvantages of each type of investment and savings product.

Further Reading

• Personal Finance and Planning Theory and Practice by Debbie Harrison. Chapter 9 Savings