The pros and cons of premium bonds

NS&I Premium Bonds offer a way of saving for the future without the risk of losing your initial investment. That’s because NS&I (National Savings and Investments) are part of the Government, backed by HM Treasury. Premium Bonds have been around since 1957 and remain incredibly popular, with somewhere in the region of 21 million people investing a whopping £72 billion.

You don’t earn interest, as such, but you’re entered into a random monthly prize draw. Simply, one pound buys one bond, so the more you invest the more opportunities you have of winning something. And it is legitimately random; the system that generates the winning bonds, ERNIE (Electronic Random Number Indicator Equipment… catchy) is independently checked each month before winners are published.

You have to be at least 16 years old to buy bonds, but you can purchase them on behalf of your children, grandchildren, etc. In fact, many parents, guardians, and grandparents especially, buy Premium Bonds as a potentially significant gift come the child’s 16th birthday.

The minimum purchase is;

  • £100 for online or cash investments
  • £50 for a regular standing order for existing customers
  • Up to a maximum of £50,000

What could you win?

Prizes range from £25 to £1 million. There are two £1 million prizes per month, meaning that with around 72 billion bonds, the odds of winning the jackpot are over one in 31 billion! The lower the prize value, the higher number of that prize are available each month. For example, there are 1,677 £1,000 prizes and 2,879,959 £25 prizes.

You must remember that winning a prize and receiving a return on your investment is in no way guaranteed. NS&I quote the average payout ‘Annual prize fund interest rate’ to be 1.40%, but with average luck, you might struggle to achieve that. As the minimum prize is £25, winning £1.40 for every £100 is impossible.

There are quite complex calculations involved in working out your exact chances of receiving a prize, but we estimate you need to have about £20,000 worth of bonds to achieve close to the rate quoted. MoneySavingExpert has built a handy calculator if you’d like to estimate your potential returns.

Are they worth it? That’s entirely up to you! But, before you do potentially purchase Premium Bonds, let’s explore the pros and cons:

The pros

  • You could be a millionaire! Everyone likes the idea of a big win; with the opportunity to win up to £1 million, the chance alone is enough to attract some people to invest.
  • There’s no investment risk: Because Premium Bonds are government-backed there is no chance of losing your money. This used to be more of a selling point, but the Financial Services Compensation Scheme (FSCS) currently protect all UK savings accounts up to £85,000 per person, per institution the savings are held with.
  • They’re tax-free: Premium Bonds are exempt from Income Tax and Capital Gains Tax, which is great news for higher rate taxpayers who might exceed the Personal Savings Allowance (PSA). The PSA limits a higher or top-rate Income Tax payer to just £500 interest tax-free from most other types of savings. That said, we would typically suggest you look to maximise your £20,000 2018/19 personal ISA allowance as a priority, which is completely tax-free.
  • Instantly accessible: Premium Bonds are provided under a government guarantee to buy them back at the price you purchased them; i.e. £1 each. That means that you can withdraw your investment at will and know that you will not face any charges for doing so.
  • The option to auto-invest: Immediately investing any winnings is the same principle as compound interest with traditional cash investments, where past gains attract their own gains. You can only auto-invest up to the £50,000 limit, after this you will receive payment directly to your nominated bank account or by cheque.

The cons

  • There’s no interest: If your Bonds are not randomly chosen in the monthly prize draw, you will not see any returns on your investments at all.
  • The odds aren’t great: The chance of winning anything (i.e. the £25 minimum) is 1 in 24,500. As larger prizes as less plentiful, the odds of winning anything more than £25 are significantly longer.
  • Inflation: The rising cost of living means that a level investment value, will actually lose purchasing power over time. Currently, the ONS state the inflation rate to be 2.2%, some 0.8% below the likely return quoted by NS&I. This means that in real terms, over time your money will be worth less.
  • All investments are now tax-free: Premium bonds used to be unique in their tax-free status, but since the introduction of the PSA in 2016, the vast majority of savers do not see any tax liability on their returns. That means that you are able to use other investment options that potentially offer better returns.
  • There’s a slight delay: Bonds purchased are entered into their first draw after they have been held for a full prize cycle. This means that any investment during December will be held back until the January prize draw, missing out on a potential win.

There you have it; they could make you a millionaire or your savings could be eroded by the effects of inflation. In recent years, their attractive features of being tax-free and the odds of winning have been undermined a little.

But, if you are still trying to decide whether Premium Bonds are an option as part of your wider financial plan, we’re here to help. Don’t hesitate to contact us to discuss your financial planning needs.