Premium Bonds: Are they worth it?

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Premium Bonds are something that people are surprisingly passionate about.

In every UK forum for the FIRE (financial independence, retire early) movement, it’s the default recommendation for where you should be putting your emergency fund.

This is despite the fact that there’s no interest payment, and therefore no guaranteed return – something that feels counterintuitive to me when FIRE is all about maximising your income over a short period of time.

When interest rates were much lower, you could argue that the opportunity cost was negligible.

But with interest rates now increasing by leaps and bounds, is there still a place for Premium Bonds?

Here are some things to think about.

What are Premium Bonds?

Premium Bonds are a type of tax-free savings product issued by the government-owned National Savings and Investments (NS&I).

By buying a Premium Bond, you’re essentially lending money to the UK government and it’s considered an extremely safe place to put your money.

Unlike other savings products, or even traditional bonds, you don’t get any interest payment back.

Instead, everyone who has a Premium Bond is entered into a prize draw.

Each £1 in your Premium Bond account is equivalent to one entry into the prize draw, but you must have a minimum of £25 in your account and there’s a cap of £50,000.

The prize draw is funded by interest earned across all the bonds held by everyone, which is currently set to 1%.

How much can you win?

There are three tiers of prizes: higher (£1million; £100,000; £50,000; £25,000; £10,000; £5,000), medium (£1,000; £500) and lower (£100; £50; £25).

The higher and medium value tiers are each worth 5% of the total prize fund, while the lower value tier is worth the remaining 90%.

What are the chances of winning?

Officially, NS&I gives the odds of winning as 34,500 to 1 for every £1 bond held – this is the odds of winning anything, rather than the top prize.

In reality, the odds vary slightly every month because the number of bonds and therefore the total prize fund changes.

This is made a bit clearer when you consider how the prize fund is allocated.

Each month, there are two £1million prizes – this number is guaranteed. 

The number of other prizes will depend on the size of the total prize fund, so can fluctuate month on month.

In March 2022 for example, there were 23 prizes worth £25,000 while in April 2022 this had gone up to 24, indicating that the size of the total prize fund had grown significantly.

Like a raffle, the probability of you winning something improves the more bonds you hold, so that’s also worth bearing in mind.

The pros and cons of Premium Bonds

Premium Bonds aren’t without merit. It’s a safe place to keep your money tax free and you could win a life changing amount of money.

For some people, they get the flutter of buying a lottery ticket, but without actually spending any money.

Premium Bonds are also relatively instant access – it can take a couple of days to set up and cash out, but it’s not locked away like investment or certain savings accounts.

Some people actually like this delay, because it means they’re less tempted to transfer the money into their bank account for a splurge.

In terms of cons, obviously it’s the fact that you might not win anything. In fact, the chances of winning are actually less than winning the lottery.

That same amount of money elsewhere could earn a small amount of interest, even if it’s not inflation-beating.

Over time, if you don’t earn anything, your money would actually be worth less than the amount you put in because of inflation.

Are Premium Bonds worth it?

This is a question you need to consider in the context of the alternatives.

Before 2016, ISAs were the only other place where you could save money tax free. On all other accounts, interest payments were made with tax deducted.

So if you had a big chunk of money and you didn’t want to invest it, Premium Bonds were a good option as the prizes were also tax-free.

But rules have since changed. All interest payments are now paid without tax deducted. 

Plus, with a personal interest allowance of up to £1,000 a year (depending on what income tax bracket you’re in), you actually have to save quite a bit of money before you have to pay any tax.

At around the same time, ISA limits also increased significantly, which meant that you could save a lot more money tax-free.

In terms of safety (in case a bank collapses), it’s not really an issue in the UK anymore.

Again, it’s because rules and regulations have changed since Premium Bonds were first established.

Banks are regulated by the Financial Conduct Authority (FCA) and most savings products are protected up to £85,000 by the Financial Services Compensation Scheme (FSCS), so if there are any issues, you should get your money back within a week.

Potential gains is the final sticking point to consider.

Money Saving Expert actually has a handy calculator that helps you work out how much you could win on average based on how much Premium Bonds you hold.

Based on historical data, if you hold the full £50,000, you’ll win on average £450, which is the equivalent of 0.9% interest rate.

For lower amounts (£1,000 or less), you’ll almost always win nothing using the same premise.

At the same time, there are potentially better alternatives whether your Premium Bonds portfolio is large or small.

The Family Building Society’s Windfall Bond for example is another savings product with a prize draw.

It gives you much better odds of winning, albeit for a smaller top prize. 

You’ll need a minimum £10,000 buy in, but it does have the benefit of giving you interest payment on top.

For smaller amounts, even current accounts are now paying more than 1% in interest so it’s a no brainer if you’re looking for guaranteed return.

Personally, based on the above, I’d only go for Premium Bonds once I’ve maxed out everything else – and, well, I’m quite a long way from doing that.

But if FIRE isn’t my objective and winning the lottery is then nothing beats Premium Bonds.

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