AER vs gross interest rate: which number should I compare on a savings account?

Compare AER with AER — never AER against a gross rate. AER (Annual Equivalent Rate) shows what you would earn over a full year once the effect of compounding is taken into account, so it puts an account paying interest monthly and an account paying it annually on the same footing. The gross rate is the basic annual rate before tax and before that compounding effect. When the two differ on the same account, it is because interest is paid more than once a year.

What is the difference, precisely?

The gross rate is the contractual annual rate of interest the account pays, before any tax is deducted. It says nothing about when the interest lands.

The AER takes that same account and asks a different question: if you deposited a sum, left it alone for twelve months, and every interest payment stayed in the account earning interest of its own, what single annual rate would produce the same result?

	Gross rate	AER
Before tax	Yes	Yes
Reflects how often interest is paid	No	Yes
Includes interest earning interest	No	Yes
Comparable across different providers	Not reliably	Yes
Assumes you leave the money for 12 months	—	Yes

MoneyHelper's guide to interest rates makes the same distinction, and every major UK bank publishes its own version — see, for example, HSBC UK, NatWest and Lloyds Bank.

Why would AER be higher than the gross rate?

Because of compounding. If interest is credited monthly and you leave it in the account, January's interest is part of the balance that earns interest in February. Over a year, those small additions compound.

The mechanism produces a simple rule:

• Interest paid once a year → AER and gross are effectively the same.
• Interest paid monthly, quarterly or on any more frequent schedule → AER is slightly higher than gross.
• The more often interest is paid, the wider the gap — though on a normal savings account the difference is fractions of a percentage point, not whole points.

This is also why the comparison trap is so easy to fall into. An account advertising a gross rate can look better than one advertising a slightly lower AER, while actually paying less. You are comparing two different measurements.

When does AER not tell you what you will earn?

AER is a standardised comparison figure, and standardisation requires assumptions. It assumes you deposit once, leave the balance untouched for a full year, and the rate does not change. Real accounts often break at least one of those:

• Variable-rate accounts. The rate can be changed by the provider, so the AER quoted today describes today's rate continuing for a year — not a guarantee.
• Regular savers. If you pay in monthly, your later deposits sit for only a few months. The interest you actually receive over the year will be well below the headline AER applied to your total contributions, even though the advertised rate is honest.
• Bonus rates. Some accounts include an introductory bonus for a fixed period. Check whether the quoted AER includes it and what the rate reverts to afterwards.
• Interest paid away. If interest is paid into a different account rather than left to compound, you do not get the compounding that the AER assumes.

Does tax change the comparison?

Not the comparison itself, but the outcome. UK banks pay savings interest gross — no tax is deducted at source. Whether you owe anything depends on your Personal Savings Allowance and the rest of your income, and HMRC collects it separately, usually through PAYE or self assessment.

The practical consequence: AER is a pre-tax figure for everyone, so it stays a fair basis for comparing two ordinary savings accounts. It stops being a fair basis when you compare a taxable account with a cash ISA, where the interest is tax-free. There, you need to work out your own after-tax position before the headline rates mean anything.

In short

Use AER, and compare it only with another AER. If you see a gross rate quoted on its own, find the AER before drawing any conclusion. Then check the three things AER hides: whether the rate is variable, whether a bonus is baked into it, and whether the account actually suits how you save — because a headline rate on money you cannot leave alone for a year is not the rate you will get.

Once you have chosen where to put the money, it is worth checking how much of it is covered if the provider fails — see How much of my money is FSCS protected?