A last fling with Tessa

After next week there'll be little opportunity for tax-free saving, writes Sarah Jagger

Time is ticking away for Tessa. If you want to open a tax-exempt special savings account, you'd better hurry. You've only got a week before these accounts are withdrawn to make way for individual savings accounts (ISAs). And the launch of ISAs will mean lower investment limits: you can only invest pounds 7,000 in the cash element of an ISA over five years compared with pounds 9,000 in a Tessa.

"If you've got enough available money you should fill your boots with Tessas and PEPs (personal equity plans) before 5 April," recommends Julie Lord, certified financial planner with Cardiff-based Cavendish Financial Management."And if you're married make sure you use both the husband and the wife's maximum PEP, Tessa and cash ISA allowances.This will give you tax-free interest on pounds 42,000."

Under rules laid down by the taxman, you can pay in up to pounds 3,000 in year one and up to pounds 1,800 in each of years two to five, subject to a total investment limit of pounds 9,000 over five years in a Tessa. And if you have a Tessa that matures between now and 5 April, you may transfer up to pounds 9,000 into a follow-on Tessa or a Tessa-only ISA offered by your current Tessa provider. When your follow-on Tessa matures, you can transfer up to pounds 3,000 (pounds 1,000 after 5 April 2000) into the cash element of a mini or maxi ISA.

Francis Klonowski, certified financial planner with Leeds-based Klonowski & Co, warns: "The majority of people who get an ISA will get a maxi stocks and shares ISA. And if the ISA provider doesn't offer a cash facility then you have no means of saving tax-free cash other than in National Savings products. So you should take advantage of Tessa now."

You cannot withdraw your capital during the five-year term if you want tax-free interest, but some banks and building societies now allow you to withdraw a net amount of interest- the amount you would have received if the account was not tax free - without losing the tax advantages. And even if you do have to dip into your Tessa early, you will not usually be any worse off than if you had a standard taxed savings account, especially now that savings rates are at an all-time low.

Even if you are unsure about putting your money away for five years, it is a good idea. Your Tessa will become taxable if you have to withdraw capital, but an interest rate of 74 per cent gross offered by the top- paying Skipton Building Society, 592 per cent net (to a basic rate taxpayer) is better than most ordinary accounts can offer.

Moneyfacts, the financial statistics firm, found the difference between the best and worst maturing Tessas to be pounds 571 on pounds 9,000 invested over five years to January this year. If you'd invested your maximum allowance in a Norwich & Peterborough Building Society Tessa you'd now have pounds 11,65575 to play with, against the average Tessa return of pounds 11,43915. In contrast, if you'd invested with Yorkshire Bank, you would have only received pounds 11,084.71.

As a rule, building society Tessas tend to do better than banks. Only one of the top 20 Tessas came from a bank: 14 of the bottom 20 maturing accounts were from banks including Barclays, Bank of Scotland and Midland.

"Smaller institutions are able to offer better rates as they've remained mutual and don't have a large branch network to sustain," says Mr Klonowski. You may also profit from windfall shares if the society is taken over.

You can choose a fixed- or variable-rate Tessa depending on how much flexibility you want and how you think interest rates will move. If you expect interest rates to rise over the next five years, a variable-rate Tessa allows you to benefit from these rises, while a fixed-rate Tessa will insulate your money from interest rate falls - which seem likely if Britain prepares for entry into the single European currency. Sun Bank and NatWest are currently offering the best fixed-rate first and follow-on Tessas. However, you will need to have a minimum deposit of pounds 8,575 for a first Sun Bank Tessa account, which pays 575 per cent, and pounds 5,000 for a first NatWest account, paying 561 per cent.

n Sarah Jagger is a staff writer at `Moneywise' magazine.

Sue Dunn, a 34-year-old recruitment consultant from Essex, recently opened a Tessa account with First Direct. "My father gave me pounds 3,000 to invest, so I decided to take full advantage of Tessa's tax-free status before the 5 April deadline." She earns 6 per cent gross interest against the taxable 485 per cent she would have earned if she'd just invested it in her ordinary savings account. She is going to invest the full pounds 9,000 in her Tessa over the next five years. Once her Tessa matures, she plans to reinvest the money for her daughter Sophie's education. PHOTOGRAPH: MAGALI DELPORTE

THE BEST DEALS

First Tessas

Skipton BS 740% 0990 443040

Holmesdale BS 7.05% 01737 245716

Sun Bank 6.75% 01438 744505

Follow-on Tessas

Holmesdale BS 705% 01737 245716 (local area)

Julian Hodge 675% 01222 220800

Sun Bank 675% 01438 744505

Source: Moneyfacts