Premium Bonds vs Stocks and Shares ISAs

With so many financial products available, choosing how to save or invest can feel overwhelming. For UK savers Premium Bonds and Stocks and Shares ISAs are two popular ways to grow their money in a tax-efficient way, but they work in very different ways. 

Understanding how each product works, the risks involved, and the potential returns can help you decide which option might be better suited to your financial goals. Here's a closer look at how both options work.

What is a Stocks and Shares ISA?

A Stocks and Shares ISA* is a type of Individual Savings Account that allows you to invest up to £20,000 per tax-year with the aim of medium to long-term growth, while benefiting from tax-free gains. Rather than earning interest like a Cash ISA, the money is invested in assets such as shares, bonds, and investment funds, which has the potential for higher returns (capital at risk).

One of the key benefits is that any returns within a Stocks and Shares ISA are free from UK Income Tax and Capital Gains Tax. This could make it an appealing option for people who want to invest for the future in a tax-efficient way.

However, because the money is invested in the stock market, its value can rise and fall, and there is a risk you could receive less than you originally invested. For this reason, a Stocks and Shares ISA may be more suited to those who are comfortable with some level of risk and are able to keep their money invested for the medium to long-term to smooth out any market ups and downs.

What are Premium Bonds?

Premium Bonds are a UK savings product that provides a tax-efficient way to hold money without the risk of losing capital. Instead of earning interest, your savings are entered into a monthly prize draw, giving you the chance to win tax-free prizes ranging from £25 to £1 million.

One of the advantages of Premium Bonds is that any prize money won is free from UK Income Tax and Capital Gains Tax, and the investment is fully backed by the UK Treasury. Unlike other saving products which are managed by a financial firm, being a government-backed product gives it greater security. This can make them a popular choice for people who value security while still having the opportunity to earn returns.

It's important to be aware that because prizes are awarded by chance, there is no guarantee you will receive any return at all, many Premium Bond holders earn nothing, and you could end up earning less than you would with a traditional savings account.

As a result, Premium Bonds may be more suited to those who prioritise capital safety, enjoy the appeal of a prize draw and are comfortable with uncertain returns, rather than those looking for guaranteed interest.

Stocks and Shares ISA vs Premium Bonds: the main differences

Whilst Stocks and Shares ISAs and Premium Bonds are both tax-efficient ways to save or invest money in the UK, they work in very different ways.

The table below highlights the key differences between them, including how returns are gained, the level of risk involved, and who each option may be suited to.

*Withdrawals themselves do not affect your ISA allowance, however, if you wish to replace the funds, this will likely count towards your annual ISA allowance unless you hold a flexible ISA.

Key considerations when comparing Stocks and Shares ISAs and Premium Bonds

Your attitude to risk

The UK government backs Premium Bonds, so there is no risk to your capital. However, there’s no guarantee of a return, and you could earn nothing.

Stocks and Shares ISAs can rise and fall in value, which means your capital is at risk. However, they can offer the potential for higher returns over time compared with cash savings accounts or Premium Bonds.

Investment returns vs chance-based rewards

With Premium Bonds, returns depend entirely on monthly prize draws which means you may not win anything. Some people enjoy the excitement, while others may find the lack of certainty frustrating - particularly when compared to the potential for investment growth.

Stocks and Shares ISAs do not offer guaranteed growth on investment, and the value can go down as well as up, but the returns are based on market performance rather than luck. You have the option to choose the type of funds you invest in, tailoring your portfolio to your risk appetite and financial values, which some may find more appealing than chance-based rewards.

How long you invest for

For those wanting easy access to their money, Premium Bonds may be a better fit as you can withdraw them freely and there is no risk of them reducing in value.

For medium to long-term goals, a Stocks and Shares ISA might be more suitable, as it gives investments time to ride out market ups and downs.

Tax efficiency

Premium Bonds allow contributions from £25, with each £1 being a unique bond, up to a maximum of £50,000, and any prizes won are completely tax-free. No matter if you win £25 or £1 million, there won’t be any tax.

Stocks and Shares ISAs are also highly tax-efficient, you are able to invest up to £20,000 each tax year completely tax-free. You don’t pay income tax or capital gains tax on any dividends, interest, or investment growth within the ISA.

Simplicity and peace of mind

Premium Bonds are simple and low-maintenance, making them appealing to savers who don’t want to think about markets or investment decisions.

Stocks and Shares ISAs can require more involvement and research to find the right investment provider. For those who feel comfortable with investing, there is the option to use an investment platform to choose your own investments, but this involves more management. An alternate option is a managed portfolio, where the provider invests for you. This is a more hands-off option, but there is less control as the risk is managed on your behalf.

Which offers stronger potential returns: Premium Bonds or Stocks and Shares ISAs?

Whether Premium Bonds or a Stocks and Shares ISA get better returns depends on luck, market performance, how you choose to invest, and how long you’re investing for.

Premium Bonds do not pay interest. Instead, returns come from monthly prize draws. While some people can win large prizes, many bondholders earn less than the headline “prize rate,” and some earn nothing at all. If you don't win anything, your savings could lose value over time with inflation, compared to if you chose a standard savings account.

Stocks and Shares ISAs aim to grow your money through investing, returns are not guaranteed, and the value of your investments can go down as well as up. However, investing over the long term has the potential to deliver higher average returns than cash-based savings products, although it isn’t guaranteed.

For savers who want zero risk to their capital, Premium Bonds can feel more comfortable as they are backed by the UK Government. Whereas Stocks and Shares ISA may go down as well as up, but could potentially deliver stronger growth, provided you are comfortable with market fluctuations and your capital being at risk.

Can you have Premium Bonds and a Stocks and Shares ISA?

Yes, you are able to hold both Premium Bonds and a Stocks and Shares ISA at the same time. In fact, some UK savers do this to balance safety and potential growth.

Separate products, separate rules

Premium Bonds bought through the NS&I do not count toward your ISA allowance. You can hold them alongside a Stocks and Shares ISA without reducing your annual £20,000 allowance.

Benefits of combining them

Premium Bonds provide capital security and the chance to win tax-free prizes.

Stocks and Shares ISAs offer long-term growth potential and tax-free investment returns.

Together, they let you keep some money safe from investment risk, while another portion can potentially grow over time.

Access and flexibility

Premium Bonds can be withdrawn at any time (though it may take a few days to process).

Stocks and Shares ISAs may require selling investments first, so access can be impacted by current market conditions and the provider's product terms and processes.

Which is potentially the safer place for your money: Premium Bonds or Stocks and Shares ISAs?

When it comes to safety, Premium Bonds and Stocks and Shares ISAs offer different risk profiles.

Premium Bonds:

The UK government backs Premium Bonds, so the money you contribute is safe from the risk of the provider going under, unlike other accounts and ISAs. You can’t lose your capital, and there is the chance to win tax-free prizes each month. The trade-off is that returns aren’t guaranteed; you could earn nothing, making growth unpredictable and inflation can reduce the value of the funds held.

Stocks and Shares ISAs:

Stocks and Shares ISAs invest your money in shares, funds, or ETFs. The value of your investments can rise and fall, meaning your capital is at risk. Fluctuations are possible, and you can get back less than you put in. Over the long term, they have the potential to grow more than cash products or Premium Bonds, offering higher returns but there is always the risk of getting back less.

The takeaway:

• If your main goal is to protect your capital, Premium Bonds may be safer, but any growth may be eroded by inflation.
• If you are looking for long-term growth, a Stocks and Shares ISA may offer more potential, but your growth isn’t guaranteed.

Some UK savers use both together: keeping some money in Premium Bonds for security, while investing in a Stocks and Shares ISA for growth over time.

Let your money grow with Unity Mutual

Unity Mutual offers a Stocks and Shares Flexible ISA*, any contributions to your ISA are invested in the Unity Mutual Equity Fund, which tracks the performance of over 600 UK companies, helping to spread risk.

You can call us on 0161 214 4650 to talk to our friendly team. We can’t advise whether a Stocks and Shares ISA is the right choice for you, but we’re happy to talk you through the options with clear, factual information.

*Invested in stocks and shares. Capital at risk. Terms and conditions apply.