What type of savings account should you open?
Around 95% of U.S. households have at least one member with a checking or savings account, according to a 2019 Federal Deposit Insurance Corporation (FDIC) report.
While a checking account is essential for everyday transactions, a traditional savings account is ideal for emergency savings or other purposes. It's important to consider several savings options to optimize your returns and put your cash savings to the best use.
If you don't have an account or want one with better-earned interest, there are options you should explore.
It's important to first understand why savings accounts are so important and how you can benefit from opening one (or multiple accounts).
Why is a savings account important?
Savings accounts are critical because they provide a safe place to stash money you intend to use for specific purposes or goals. For example, you may use your savings account to keep your emergency fund or to set aside money for a down payment on your first home. Your savings account safeguards your money until you need to access it.
When should you open a savings account? You should open a savings account as soon as you reach the age of 18, the minimum age required by banks. The earlier you can establish the habit of saving money, the better. Saving money allows you to enjoy greater security in your life and cover unexpected financial emergencies.
How does a savings account work?
You can open a savings account through a bank, credit union or online lender. You must complete an application, and once accepted, you'll deposit money into your account.
The money in your savings account earns interest based on the account's annual percentage yield (APY). The higher the APY, the more money your money will earn. Banks may compound interest daily, monthly, quarterly or yearly. Your earnings will also depend on the amount of money you deposit and how long your money remains in your account.
Let's say you open a traditional savings account and deposit $10,000 with a bank that compounds interest annually. According to the FDIC data from June 2022, the average interest rate on savings accounts stands at 0.13% APY, which means you'd earn approximately $13 in interest for the year. After a year, your new balance ($10,013) would start to earn interest. Your money will grow faster if your bank offers a shorter compounding period. Keep in mind that projecting your earnings isn't an exact science, as your APY is variable and could change at any time.
You can access your money when you want, but some banks place restrictions on withdrawals. Although federal regulation limiting withdrawals to six times per month was lifted in 2020, some banks still charge a fee if you exceed their stated limit.
What are the different types of savings accounts?
As you review different savings account options, pay attention to each type's various features, advantages and disadvantages to determine which savings account best meets your financial needs and goals.
Here are six savings accounts to help you determine which type you should open.
Traditional savings account
Traditional savings accounts are standard accounts offered at brick-and-mortar banks and credit unions. Most savings accounts at national banks are covered with FDIC insurance up to $250,000 per account. Similarly, the National Credit Union Administration (NCUA) insures credit union savings accounts up to the same amount.
A traditional savings account might be best if you need a safe place to store money for a long time and don't care about the interest rates. Unfortunately, this type of savings account typically doesn't offer the best interest rate, although recent federal interest rate hikes have triggered a slightly higher rate of 0.13% APY. Your bank may also require you to pay a monthly fee or a minimum balance fee.
High-yield savings account
Like traditional savings accounts, high-yield savings accounts are federally insured options to stow your money and earn interest. Unlike regular savings accounts, though, high-yield savings accounts generally offer above-average APYs. The safety and earnings potential of high-yield savings accounts may make them a suitable option for your emergency fund or any other purpose where you may need to access your funds quickly.
If you want to grow your savings, you can easily get started by opening a high-yield savings account right now.
Although traditional banks and credit unions may offer high-yield savings accounts, you're more likely to find them at online banks, with higher yields and fewer fees. A savings account offering a high yield may seem attractive, but remember, these rates are variable and can change at any time.
Money market account
Money market accounts (MMAs) are ideal if you want more options to access your money but still want to earn interest on your savings. In that case, a money market account fits the bill by combining the features of a traditional savings account with the features of a checking account. You may earn more interest on your balance than you would with a regular savings account. You'll also have the option to write checks or use a debit card to withdraw funds or make purchases.
Note: you may need to deposit a minimum amount to open a money market account. On top of that, interest rates may be tiered, so you may have to deposit a higher amount to take advantage of the best rates.
CD Account
Certificates of deposit (CDs) are savings accounts with a time component, meaning you must lock your money in the CD account for a specific period of time. CD accounts usually provide higher interest rates than savings or money market accounts. As of August 2022, the APY for a 12-month CD is 0.46%, exceeding the earnings of both money market accounts (0.14% APY) and regular savings accounts (0.13% APY).
You'll likely have to pay an early withdrawal penalty if you take money out of the account before its maturity date. Once the CD matures, you can usually withdraw your savings without penalty or roll it into a new CD.
Specialty savings account
Until this point, the savings account options have been aimed at saving money you don't need to access for a while. Specialty savings accounts are different because they typically have a specific savings purpose, such as saving for retirement or health-related costs.
Similarly, specialty savings accounts may focus on a person, such as your child or a college student.
Here are some common types of specialty savings accounts
- Health Savings Account (HSA)
- Individual Retirement Account (IRA)
- Flexible Spending Account (FSA)
- Kids savings account
- Student savings account
- 529 college savings account
- Christmas Club account
You'll earn interest on your savings in a specialty savings account, and you may pay low or no monthly maintenance fees in some cases. On the downside, your interest rates may be less than ideal with child savings accounts, student accounts and Christmas Club accounts. Also, bear in mind that some specialty accounts follow strict tax rules on withdrawals.
Cash Management Account
Generally, banks do not offer cash management accounts (CMAs). Rather, they are available through online brokerages and robo-advisor platforms. Cash management accounts earn interest, but their primary aim is to keep the money you're not ready to invest but eventually will place in your brokerage or retirement account.
Since many investors are dealing with large balances, cash management accounts often offer FDIC insurance on balances of $1 million or more once funds arrive at a program bank.
One disadvantage of cash management accounts is that their interest rates may be lower than you'd find with a high-yield savings account or CD.
What are the best ways to grow your savings account?
Once you choose the best savings account for your needs, you can grow the money in your account in countless ways. Here are a few best practices to save or make money that you can deposit into your savings account.
- Set a budget, so you have a plan to pay all your bills on time.
- Pay off as much debt as possible to minimize or eliminate interest charges.
- Automate your savings by setting up recurring deposits from your checking account.
- Set a spending limit on your credit or debit cards to help you avoid overspending.
- Automate your bills, so you never miss a due date and incur late fees.
- Cut back on nonessential spending and deposit the savings into your account.
- Earn more money by working overtime, asking for a raise or taking up a side hustle.
What type of savings account is best?
The best savings account is typically one that offers high interest rates without charging excessive fees while providing access to your money. Nevertheless, the best savings account will likely depend on what you want to achieve financially. Ultimately, one account may not be enough to address your goals, so you might consider opening several types of savings accounts as needed to accomplish your objectives.
Ready to get started? You can open an account now and start earning interest on your savings.
