Interest not compounded 1 year fixed ISA

Storyteller

I am thinking of saving with a company offereing 4.71% fixed for one year. What do they mean the interest is not compounded. I have never seen this before

eskbanker

They'll probably mean that the interest must be paid out of the account (presumably monthly?), rather than being left in it, but if you clarify which provider and account then we can look more closely…

Ayr_Rage

If the interest is only paid at the end of the fix then it cannot be compounded, the product ends.

If monthly, then it must be paid away to a linked account.

As always, you need to read the Ts and Cs.

wiseonesomeofthetime

Gatehouse was like that, on a multi year fixed. The profit was paid out each year, not retained.

Tandem likewise, interest paid to nominated account on anniversary.

As other poster says, if one year fixed and annual interest, nothing to compound.

cc123mm456

I'm guessing this is the UBL 1 year Fixed Rate ISA. https://www.ubluk.com/personal-banking/personal-savings-accounts/fixed-rate-cash-isa/

The product summary section for interest rates includes this sentence:

Please note that UBL UK does not compound interest. Please refer to the Interest Rate Sheet for the Gross Rates on different interest payment options.

However the interest rates table (above this text) only quotes the AER, not gross rate.

While it makes no difference for a 1 year account, that wording could be clearer for the longer term accounts.

I think what this is trying to describe is that, in the case of choosing interest payment at maturity (for an account with longer than 1 year period), the interest will not be credited to the account annually (as some savings providers would), and instead it will all be added at the end of term. The rate quoted is an AER, so the interest to be paid must be based on annually compounding at that rate.

It can be confirmed that the interest will actually be annually compounded by checking the section "What would the estimated balance be at the end of the term?".

masonic

https://forums.moneysavingexpert.com/discussion/comment/82115815#Comment_82115815

If interest is paid at the end of the term, then it won't be compounded. The AER is an artificial rate showing what the equivalent rate would need to be if interest were compounded annually.

For a multi-year fix, the actual interest rate (the gross rate) will be higher than the AER when interest is not compounded. For example, for the 5 year fix, the gross rate will be 5.1871%, which is an AER of 4.72%. This means that you get the same outcome without the compounding.

Note that the penalty for withdrawing early is based on the gross rate and not the AER, so might be more than you think!

nottsphil

https://forums.moneysavingexpert.com/discussion/comment/82115987#Comment_82115987

How can the AER be less than the gross rate? Surely if interest is paid away then it will be the same.

masonic

https://forums.moneysavingexpert.com/discussion/comment/82132026#Comment_82132026

AER is less than the gross rate when interest is paid and compounded less frequently than annually. Because you don't get the compound interest that annual interest gives you. For the same reason gross rate is lower than AER when interest is paid and compounded monthly.

If you have a 5 year fix with all interest credited at maturity, then it doesn't matter if interest is paid away or credited to the account ahead of conversion to a maturity account.

In the above situation an account paying interest annually in line with AER would have a lower gross rate. If you choose to pay annual interest away, then you are not making a like-for-like comparison and would not be acting rationally unless you needed access to the interest early or could find a home for it at a higher rate.

All that to say the UBL published gross rates that are higher than AER are not wrong.