Team Clark is adamant that we will never write content influenced by or paid for by an advertiser. To support our work, we do make money from some links to companies and deals on our site. Learn more about our guarantee here.
A savings account gives you a safe, accessible place to put money that you don’t need for daily expenses. It also pays you interest, so you can earn a little money on top of what you have put in your account.
In this article, I’ll help you understand what savings accounts are, why they exist and how you can make them part of your financial life.
A savings account is a product that banks and credit unions offer to customers and members who want to store money safely and earn interest.
If you’re new to banking, that may sound too good to be true. But keep reading. I’ll explain how banks can keep your money safe at no cost to you and instead, allow you easy access to your funds and pay you for the privilege of doing so.
Other financial tools can earn you more money, but they’re often riskier and less liquid than savings accounts. For example, you could invest in the stock market, but the price of the stock you buy could go up or down, and you could face tax penalties depending on when you sell.
A savings account isn’t the most accessible place to keep your cash, but you’ll earn interest on your money, and it’s still pretty easy to get to. Because of inflation, which causes the purchasing power of the dollar to decline over time, leaving all your money in your wallet or under your mattress actually costs you.
It’s important to note that the interest rates your money earns in savings accounts tend to be variable rather than fixed. They can go up or down.
Putting your extra money in a savings account is a great way to keep it separate from what you use for your daily spending. For that, you could use a checking account.
A savings account tends to function best as a tool to help you meet monetary goals, like paying for your honeymoon or making a down payment on a car. You can also use them to sock away cash for short-term needs or emergencies.
If you want to open a savings account, you’ll apply at a bank or credit union, and at some point, you’ll put money into your account.
The bank will take the money you gave it and loan it to other customers.
You may be thinking, ‘How is that legal? Isn’t the point of savings accounts to, you know, save?’ But banks need your money to operate. They take money from you and pay you interest. Then they lend it to someone else and charge them more interest than they pay you. That’s how banks work.
If in the unlikely event that your bank vanishes into thin air, or every customer asks to take out their money at the same time, or a family of large sewer rats gets into the vault and chews up all the cash, your money is still safe.
The Federal Deposit Insurance Corporation (FDIC) protects individual accounts up to $250,000. The FDIC was created by the United States government to protect consumers in case a bank fails.
Almost all banks and credit unions offer at least one kind of savings account, and many offer more than one. So do some brokerage firms, which are better known for giving you access to the stock market.
Like most everything in life, there are pros and cons to savings accounts.
Savings accounts offer you:
Savings accounts:
When I was a kid, I loved buying baseball cards. I knew how much they cost, and I knew I couldn’t get any new baseball cards unless I had enough money.
My parents paid me a weekly allowance if I did all my chores. I’d keep all the money they gave me in a Velcro wallet (I know, a piggybank would sound cooler). When I had saved enough money, I’d go to the baseball card store.
Unfortunately, once you get older, you’ll start facing expenses that are not as fun as your childhood hobby — and sometimes much less predictable.
You may need to pay for vehicle repairs, medical costs or college tuition. Things break, people get sick and jobs don’t last forever. It’s a good idea to have some money saved to pay for things you can’t anticipate. But some expenses are fun, even if the price tag may not be. Think of things like family vacations, car down payments and Christmas presents.
Money expert Clark Howard thinks savings should begin with setting specific goals and then figuring out how much money to put toward those goals from every paycheck.
“If somebody has a target they’re trying to reach, they’re much more likely to get it than if it’s just a wishy-washy thing of, ‘Well, I need to save some money right now, because everybody says you should have some money saved,'” Clark said.
I go into detail in my story on the 7 best savings accounts, but in my opinion, the most important attributes of a good savings account are strong interest rates and a lack of fees. Here’s more about the qualities you should look for:
If you’ve ever read about savings accounts on bank websites, you’ve probably noticed that interest rates are expressed by APY, or Annual Percentage Yield.
Banks pay interest at different intervals. Some pay daily, some pay monthly and some pay quarterly. APY normalizes each bank’s interest rate for a 12-month period. So, even though banks pay interest at different times, APY allows for an apples-to-apples comparison.
To calculate how much interest you’ll earn in one year, multiply the amount of money in your savings account by the APY. You can use our savings calculator to see how much interest you can earn over time.
Yes. The Internal Revenue Service (IRS) considers money that you earn in the form of interest to be taxable income.
Savings account interest gets taxed at the marginal tax rate, which is a fancy way of saying that whatever income tax bracket you fit into applies to the money you make on interest.
Your bank or financial institution will send you tax form 1099-INT if you earn more than $10 in interest in a year. But the IRS requires you to report all of your interest income, even if it’s less than a dollar.
A high-yield savings account simply pays interest at a rate many times higher than the national average for traditional savings accounts.
High-yield accounts also typically come with no fees and few requirements.
Because these accounts offer more competitive interest rates, they tend to change their rates more frequently.
Several factors influence how often banks change their interest rates, including whether they’re running promotions to attract more deposits, whether the Federal Reserve is raising or lowering rates and how much demand there is for bank loans and U.S. Treasury notes.
Savings accounts are not the only financial products that pay interest. Some checking accounts pay interest.
And there are others. The following financial tools also pay you to hold your money but usually don’t have the combination of accessibility and competitive interest rates of the best savings accounts.
Money Market Accounts: They come with checkbooks and debit cards, but also pay you interest — sometimes at a higher rate than savings accounts. But they typically require you to keep a minimum balance.
Certificates of Deposit (CDs): You agree to leave your money in the account for a set period of time in exchange for a fixed interest rate that may be higher than what your money would earn in a savings account. There are penalties if you take your money out early.
Cash Management Accounts: They take features of brokerage, checking and savings accounts and roll them into one product. Unlike other interest-earning accounts, they can facilitate investment in the stock market. They usually offer interest rates that are better than traditional banks, and they often let you write checks and make mobile deposits.
Federal Reserve Board Regulation D used to limit you to a maximum of six transactions during a single statement cycle (one month), excluding ATM and in-person withdrawals.
The Federal Reserve changed the rule in April 2020. Banks are now allowed to decide their own transaction limits. Some banks have not lifted the six-transaction monthly limit, while some now allow unlimited transactions.
Savings accounts can be a helpful part of your financial life.
It’s important to set aside money for emergencies and irregular expenses if you can. It’s also nice to earn some money while you keep your funds in a safe, insured place.
Whether you are opening your first account or you already have one, Clark says it’s a good idea to comparison shop occasionally for the best interest rates. Our list of best high yield savings accounts will allow you to browse the savings accounts with the highest rates.
Savings accounts are not the best possible way to make money. They shouldn’t be the only place you put the money you don’t need for everyday expenses. But they’re ideal for some specific goals.
This post was last modified on May 13, 2023 4:52 pm
Are you planning a travel excursion or family vacation? You're not alone. Leisure travel plans…
What factors should you prioritize when considering a vehicle for your teenager? Price, perhaps. Safety…
It is no secret that money expert Clark Howard loves all things Costco. It is easy to…
If you're like me, you get used to denying upsells and add-ons at checkout. No,…
You walk into a Costco browsing for treasures and hoping to find some delicious free…
If you've been considering signing up for one of the Chase Sapphire credit cards, now…