Premium bonds are a popular way for UK savers to potentially earn prizes while keeping their money safe. They are issued by National Savings & Investments (NS&I) on behalf of HM Treasury. With premium bonds, instead of earning interest, each £1 bond number is entered into a monthly prize draw where it could win between £25 and £1 million tax-free. Despite being around for over 60 years, some people still have questions about how safe premium bonds are. This article will examine the safety of premium bonds and whether they are a good place to put your savings.
Are premium bonds safe?
When weighing up whether premium bonds are safe, there are a few key factors to consider:
Backed by the UK government
Premium bonds are backed by HM Treasury, which means they are essentially as safe as the UK government. Given the UK has one of the highest sovereign credit ratings in the world, this makes premium bonds very low risk compared to other investments. Even if NS&I were to collapse, HM Treasury would step in to protect bond holders’ money.
FSCS protection
In addition to being government-backed, premium bonds are also covered by the UK’s Financial Services Compensation Scheme (FSCS) up to £85,000 per person. This means that in the extremely unlikely event NS&I became insolvent, the FSCS would compensate savers up to that limit. So along with being backed by the government, premium bond savings have another layer of protection.
Low chance of negative returns
With premium bonds, the value of what you put in is secured. The only fluctuation is the level of prizes you might win each month. So there is practically no chance of losing money in nominal terms. Compared to investments like stocks and shares that can go down as well as up, this makes premium bonds a very low-risk option. The only way to lose money is if inflation exceeds the prize returns over the long run.
NS&I security
NS&I has robust security measures in place to protect bond holders’ money and details. For example, customer identities are verified when bonds are purchased and transactions are authorized using unique holder numbers. NS&I also segregates all customer funds from its own operational funds. So savers can be reassured their money is held very securely.
How are premium bonds different to bank savings accounts?
While both offer safety of capital, premium bonds and normal savings accounts have some key differences:
Prizes instead of interest
With traditional savings accounts, you earn a fixed rate of interest on your deposits. Premium bonds instead enter you into a monthly prize draw where you can win tax-free prizes between £25 and £1 million. The prizes are funded from the interest NS&I earns on investing your deposits.
No guarantees
Savings accounts will advertise a guaranteed interest rate, such as 1% AER variable. So you know exactly how much interest you’ll earn. Premium bonds offer no guarantees over prizes, so your winnings could be higher or lower each month. The estimated prize fund rate is currently 1.40%.
Government-backed
Both premium bonds and FSCS-protected bank accounts are safe. But premium bonds have the advantage of being directly backed by the government rather than just the savings protection scheme. So premium bonds arguably provide even greater security.
Flexibility
With most savings accounts you need to deposit and withdraw in branch or wait for funds to clear electronically. Premium bonds allow holders to withdraw funds online instantly without notice, giving greater flexibility.
Premium bonds prize fund rates
To understand the return from premium bonds, it’s important to look at the monthly prize fund rate. This is the estimated interest rate equivalent reflected in the value of prizes paid out. NS&I adjust this rate occasionally to ensure the total prize fund remains profitable. Here are the historical rates since 2000:
Premium bonds prize fund rates
Year | Prize fund rate |
---|---|
2000 | 3.15% |
2001 | 3.15% |
2002 | 3.05% |
2003 | 3.05% |
2004 | 3.05% |
2005 | 3.00% |
2006 | 3.00% |
2007 | 3.00% |
2008 | 3.00% |
2009 | 1.50% |
2010 | 1.50% |
2011 | 1.50% |
2012 | 1.50% |
2013 | 1.30% |
2014 | 1.30% |
2015 | 1.20% |
2016 | 1.10% |
2017 | 1.15% |
2018 | 1.40% |
2019 | 1.40% |
2020 | 1.00% |
2021 | 1.00% |
2022 | 1.40% |
This shows prize rates have gradually declined over the long term as savings rates have fallen generally across the UK. However, the prize fund is still currently quite competitive compared to savings accounts. NS&I reviews the rate every 3 months based on the interest it earns and the level of funds invested in premium bonds.
How are prize funds calculated?
NS&I calculates the value of the monthly prize funds from the interest it earns on investing the money savers deposit into premium bonds. Here is a simplified example:
Example monthly prize fund calculation
Total premium bonds value | £50 billion |
---|---|
Average interest rate earned by NS&I | 2% AER |
Monthly interest earned | £50bn x 2% / 12 = £83 million |
Prize fund rate | 1.4% |
Monthly prize fund | £50bn x 1.4% / 12 = £58 million |
So in this example with a 2% interest rate, the monthly prize fund would be £58 million. After deducting operating costs, the remaining interest NS&I earns is returned to the Treasury. This demonstrates how the prize money each month is directly funded from the interest premium bond holders’ deposits earn.
Are prizes taxable?
One of the big advantages of premium bonds is all prizes are completely tax-free. This compares favorably to savings accounts where any interest earned is subject to tax:
Personal Savings Allowance
– Basic rate taxpayers: first £1,000 interest tax-free
– Higher rate taxpayers: first £500 interest tax-free
– Additional rate taxpayers: no allowance
So premium bond prizes avoid tax leakage that reduces effective returns on savings accounts. The tax-free prize draws help boost net returns for savers.
Odds of winning prizes
Given premium bonds work by prize draws, an obvious question is what are your chances of actually winning any money? Currently the odds of winning a prize each month are:
Premium bonds prize odds
Prize amount | Odds of winning |
---|---|
£1 million | 1 in 107 billion |
£100,000 | 1 in 42 billion |
£50,000 | 1 in 55 million |
£25,000 | 1 in 22 million |
£10,000 or more | 1 in 2.2 million |
£5,000 or more | 1 in 56,000 |
£100 or more | 1 in 29,000 |
Any prize | 1 in 24,500 |
So while the biggest £1 million jackpot is very unlikely, the overall odds of winning some prize each month are reasonably good at around 1 in 24,500. The more premium bonds you hold, the greater your chances of winning.
How are prizes paid out?
Each month, ERNIE the Electronic Random Number Indicator Equipment randomly selects bond numbers for the different prize values. If one of your bond numbers is picked, NS&I will contact you to receive your prize payout. Prizes are paid into your nominated bank account or can be used to buy more premium bonds. Unclaimed prize funds will remain in the prize fund to be won by other holders.
Pros of premium bonds
Here are some of the key benefits of investing in premium bonds for UK savers:
Tax-free prizes
All premium bond prize money is completely tax-free. This provides a significant boost to returns compared to taxable savings interest.
Government-backed
Premium bonds carry virtually zero capital risk given they are backed by HM Treasury. This makes them one of the safest savings options available.
FCA protection
Eligible premium bond holdings are also protected by the FSCS up to £85,000 per person for added safety.
Easy access
Funds can be withdrawn online instantly without loss of accrued prizes. This gives savers complete flexibility over their money.
Convenience
Premium bonds can be managed online or by phone. New bonds can be purchased easily without needing to transfer funds from other accounts.
Cons of premium bonds
There are also some limitations and disadvantages to be aware of with premium bonds:
No guarantees
Unlike savings accounts, premium bonds provide no certainty over returns. The prize fund rate can vary and individual prize success is entirely random.
Low return risk
Despite the theoretical 1.40% prize fund rate, there is a risk your actual returns could be lower based on prize luck. The real return is likely between 0.9% and 1.4%.
Inflation risk
If inflation rises significantly, the real returns on premium bonds will be eroded just like any fixed rate savings. The nominal return doesn’t increase with inflation.
Lock-out periods
There are restrictions on buying too many premium bonds in a short period. This prevents traders rapidly churning bonds. But it limits your ability to make large or additional deposits.
Alternative prizes
The tax-free element of premium bonds make them highly appealing. But fixed term savings accounts can often offer higher guaranteed returns for savers willing to sacrifice liquidity.
Who are premium bonds suitable for?
While premium bonds carry some disadvantages to weigh up, they can be a good savings option in various situations:
Emergency funds
The flexibility and security of premium bonds make them ideal for holding emergency cash savings. Instant access with no penalties allows you to withdraw funds if needed.
Retirement savings
For retirement funds you won’t access in the short-term, premium bonds can benefit from tax-free compounding over the long run.
Children’s savings
Premium bonds can engage kids with the fun of the monthly prize draws. They also avoid eating into returns with income tax.
Regular savers
For people able to save monthly, premium bonds provide a way to steadily build up savings in a risk-free way. Small regular investments can add up over time.
Higher rate taxpayers
The tax-free nature of prizes provides an extra advantage if you normally pay 40% or 45% tax on savings interest exceeding your Personal Savings Allowance.
Frequently asked questions
Here are answers to some common premium bond queries:
Are premium bonds safe for large amounts?
Premium bonds are arguably one of the safest places to store large savings above the FSCS protection limits. Given the UK government backs all bonds regardless of amount, they are extremely secure.
Can I transfer existing bonds between people?
Unfortunately, premium bonds are not transferable between people as they are registered to specific holders. But bonds can be cash on deceased persons’ accounts subject to some conditions.
Do I need to re-invest prizes to remain eligible?
No, you can withdraw your prize money and it won’t impact your eligibility for future prize draws provided you maintain the minimum £25 bond holding. Prizes don’t count towards the max limit.
Is there a maximum number of premium bonds I can buy?
Yes, the current limit is £50,000 worth of premium bonds per person. Joint accounts for couples allow holding up to £100,000 worth combined.
How long do I have to wait before I can buy more bonds?
If you reach the maximum, you normally need to wait a month before buying more. This limit prevents traders rapidly churning bonds to gain an advantage.
Conclusion
Premium bonds remain one of the most secure savings options for UK residents looking to protect their capital. While prizes are not guaranteed, historical returns have generally beaten cash savings rates after factoring in tax benefits. The backing of the UK government and FSCS scheme also make premium bonds one of the lowest risk investments. For savers who value flexibility, convenience and security, premium bonds are likely to remain popular. However, it is still sensible to hold some guaranteed interest savings as part of a balanced portfolio.