"They were always intended as ad hoc savings accounts," says Christine Ross of independent financial advisers Willis National. "You can open [a Tessa] with pounds 100 and add to it when you like."
Even if you do have to withdraw capital during the term, therefore paying tax on the interest, you could still have made a good return. But some Tessas make charges if you withdraw capital early, so check this.
"Tessas are ideal for anyone who can tie up their money for five years with no risk to the capital," says Shona Cumming of Bank of Scotland. A handful of providers offer Tessas which give a return linked to the performance of the stock market. Bristol & West offers its Guaranteed Equity Tessa as a follow-on Tessa. You have to invest the full pounds 9,000, and your capital is guaranteed. Instead of paying interest, on maturity the account pays 80 per cent of the average growth in the FTSE 100, S&P 500 and Nikkei 225, or 15 per cent if this is higher.
Standard Tessa rates are high at the moment, but Bank of England interest rates may have peaked. When a fall comes, this will inevitably feed through to Tessa rates, so a fixed-rate Tessa may provide a better deal. Abbey National offers a fixed-rate Tessa which pays 6.5 per cent interest.
Once invested in a Tessa, keep tabs on the rate your provider pays, and if you see a higher rate elsewhere, switch your funds. According to the Tessa rules, providers have to let investors transfer out. While transferring out is always possible, it can be expensive. Some, like the Co-op Bank and Halifax, just charge a pounds 10 fee, while those transferring out of a Birmingham Midshires Tessa will lose six months' interest. Bank of Scotland will pay higher monthly rates than the top 25 banks and building societies, says Shona Cumming.
Bank of Scotland: 0500 313111; Bristol & West: 0800 202121; Norwich & Peterborough: 01733 371371; Abbey National: 0800 100801; Willis National: 0171 488 8383
YOU CAN invest up to pounds 9,000 in a Tessa and, as long as your capital remains untouched for the full five-year term, interest is tax-free. But the money has to be invested gradually throughout the term, with a maximum of pounds 3,000 in year one, and up to pounds 1,800 in each of the next four years. Some accounts require a "feeder account" which holds the full pounds 9,000 and is taxed.
You can withdraw the equivalent of net interest during the term without affecting the account's tax-free status. If you withdraw any capital, all the interest for the period becomes subject to tax.
After April 1999, Tessas and PEPs will be replaced with Individual Savings Accounts. Tessas can continue until they mature. Then the investment must be transferred to an ISA to attract tax-free interest. Tessas maturing between January and April 1999 can either be rolled over into a follow- on Tessa or into an ISA.