Tax free Isa savings 'benefiting banks, not consumers'Peer says banks don’t pass on Isa tax relief

25 May 2011

Northern Rock offers lower rates on cash Isas than standard savings accounts

Northern Rock offers higher rates on some standard savings accounts than on its cash Isas

British banks are taking advantage of the tax relief available on cash Isas instead of passing it on to consumers, according to a Conservative peer.

Baroness Stowell of Beeston says some Isa providers are offering lower rates on their cash Isas than on fixed-rate savings products of the same length. In theory, cash Isas should always be the first port of call for savers - but where Isa rates are lower than those available on 'equivalent' savings products, they may not offer the best deal overall.

It’s for this reason that Baroness Stowell has called upon the Treasury to pressure banks into offering customers the interest rates she believes they are due – and which, in some cases, they are already being offered on taxable savings accounts from the same provider.

She said: ‘Cash Isas are a great incentive for us all to save. We benefit, and so do the banks: last year 15 million of us held £172bn in cash Isas. But only customers, not banks, are supposed to benefit from the Isa tax relief. The assumption we have to make is that some of the banks are taking advantage of people who are doing the right thing.’

Cash Isa tax relief: which banks are ‘benefiting’?

While some banks offer the same rates on cash Isas as on taxable savings accounts, others cut the rates they offer on cash Isas to a lower level.

Lloyds TSB cash Isas, for example, are covered under the bank’s cash Isa commitments. These include the promise that on the day you open a cash Isa with the bank, the rate you're offered will match or beat that which is available on the equivalent standard savings account.

On the other hand, Northern Rock – a bank owned by UK taxpayers – pays different rates on some of its cash Isas and fixed-rate savings accounts. The Northern Rock three-year E-Bond pays 3.70% AER, while the bank’s three-year fixed-rate E-Isa pays 3.50% AER. Likewise, Northern Rock’s E-Saver (Issue 5) account pays 3.01% AER, at the same time as its instant access E-Isa pays just 2.80% AER.

Getting the best cash Isa deal

Consumer Focus has thrown its support behind Baroness Stowell, with head of fair markets Prashant Vaze commenting: 'It is clearly unacceptable that cash Isas are treated as cash cows by banks who set lower interest rates, effectively shaving off some of the tax relief for themselves.'

Which? savings expert Paul Davies said: ‘In the past couple of years, particularly while interest rates have been at an all-time low, we've seen the quality of some cash Isa deals decline in comparison with the market’s standard savings accounts.

'Although for most savers a cash Isa is still the first place they should consider putting their spare money, matters aren't so clear cut as they have been in the past. If you're a basic rate taxpayer, for example, a cash Isa won't always offer you a better return than you'd get elsewhere – so it’s crucial to compare the rate you'll earn on any savings account when tax is taken into consideration, and to choose your account accordingly.

'Higher rate taxpayers stand to benefit the most from putting money into cash Isas, as they would ordinarily lose 40% of the interest earned on their savings. However it’s still important to look at the different accounts available to you, and the after-tax return they will offer, before committing to a deal.'

To compare the latest cash Isa deals, visit our online Best Rate cash Isas review. For more information on how Isas work and how to transfer your money from one Isa to another, read our guide to Finding the right cash Isa.

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