As the pandemic continues wreaking havoc on the economy, many banks have steadily reduced interest rates for savings accounts. With rates at historical lows, you may be wondering if it’s still worth it to keep cash in a savings account. After all, there may be better investment opportunities available to grow your money.
While putting your money in a savings account may not yield the highest returns today, it can still fit into your financial plan. We’ll go over the advantages and disadvantages of having a savings account and explain how they can help your personal finance strategy.
- There are many advantages and disadvantages to savings accounts. Savings accounts are easily accessible and safe but come at the expense of low interest rates and withdrawal limits.
- Despite its drawbacks, savings accounts should be a key pillar of your finances due to their intended purpose and liquidity.
- Alternatives to savings accounts include certificate of deposits (CDs) and Series I Savings Bonds.
What is a Savings Account?
A savings account is a bank account that allows you to deposit money and earn interest on the funds. Savings accounts are typically offered by banks, but may also get offered by credit unions or other financial institutions.
Most banks offer several different types of savings accounts, so shop around and find one that best meets your needs. Note that some banks require minimum deposits to open an account, while others do not. It’s also important to read the terms and conditions carefully before opening an account. That way, you know what fees (if any) are associated with the account and how often interest gets paid out.
6 Benefits of a Savings Account
There are many benefits to having a savings account.
1. Easy to Open
Opening a savings account is relatively straightforward compared to other financial vehicles such as stock investment accounts or crypto wallets. If you already have a checking account with a specific bank, you can simply go to a local branch and ask them to open a savings account under your name.
When I opened my current savings account with Bank of America, all I had to do was set up an appointment at a local branch and let the representative know that I wanted to open a new savings account. She was able to do so within the session, and I immediately added fund by transferring money from my checking to my savings account.
2. Liquidity and Accessibility
A savings account is a great way to ensure you always have money for emergencies. The liquidity and accessibility of the account are crucial for times when you need cash as soon as possible. Liquidity refers to how quickly you can access your funds, while accessibility refers to how easily you can access your funds.
Unlike brokerage accounts where you need to sell your investments to access your capital, savings accounts allow you to keep your money in cash and seamlessly transfer funds into your checking account anytime. If you transfer the funds between accounts within the same bank, the transaction is virtually instantaneously.
3. Protect Your Money
If you don’t use a savings account, your alternative may be to stash your money under your mattress. If you hold physical cash, you could lose everything if your money gets destroyed by a natural disaster or someone steals your money. And yes, the latter has happened to me before (and probably lots of other people)! Back when I was in elementary school, I would often hide money under my pillows or sheets only to find money missing every time I checked my stash (the culprit was my brother).
Alternatively, you could put your funds in something slightly riskier, like the stock or crypto markets. While you may earn returns in the long run, you risk having to sell your investments at a loss when the market dips and you need money right away.
With savings accounts, you can relax knowing that your money will be there when you need it as it’s FDIC insured (or NCUSIF-insured for credit unions), up to $250,000. That means the federal government insures your funds from loss and things like identity theft, fraudulent activity, and bank errors. Additionally, some banks may offer supplemental insurance for up to $1 million or more, making the savings account the ideal vehicle for protecting your money.
4. Earn Some Interest
With inflation on the rise, savings accounts haven’t been able to keep up. But, most checking accounts don’t pay anything at all. So, if you are leaving all your money in a checking account, you’re actually losing money over time. In other words, if your money is earning less than the inflation rate, you end up with a negative real return. While savings accounts may not fully offset inflation, you will still be better off than the alternative, which is earning nothing.
5. Curb Your Spending
When you separate the money you are saving from the rest of your money, you create a barrier around your savings, thus making it harder to spend money. That separation can help eliminate the temptation to spend money and help you stick to your budget and avoid high-interest debt.
For most of my purchases, all I need to do is swipe my card, and that’s it. Sometimes I may not even consider the cost until I see it on my bank statement. On the other hand, because my savings account is separate from my checking account, I’m less inclined to withdraw funds from my savings because I would need to transfer the money into my checking account first to use it. This extra step makes me more aware of the costs and how they will affect my overall finances.
6. Track Goals Easier
You can use a savings account to track your financial goals and organize your finances. Even if you are already making plans for your future, accurately tracking your progress can be difficult if you put all your money in a checking account. To better organize your funds and minimize fees, look for online savings accounts with the option to set “subaccounts.”
I currently use my savings account to hold my emergency fund and earmark that money as “off-limits.” If you do not already have emergency savings, it’s a good idea to start saving a sizable amount of cash for emergencies, such as a lost job, car repairs, or an unexpected medical bill. Experts recommend putting aside at least 3-6 months of your living expenses, though I currently have ~6-8 months of expenses saved.
You can even set up multiple savings accounts dedicated to tracking other financial goals, such as saving for a vacation, buying a new car, or building up a home down payment. The goal is to make it easier to track your goals and ensure you make progress on them as planned.
4 Disadvantages of a Savings Account
Now that we’ve covered all the advantages of having a savings account, let’s look at some drawbacks.
1. Low Interest Rates
One of the main disadvantages of savings accounts is the relatively low interest rates. But, this is by design. The point of a savings account is not to get rich but rather to protect your money against inflation. While you can earn high rates of returns through investment vehicles, they also carry greater risk. If something happens to your investments when you need money quickly, you could get put in a tough situation without that cash cushion.
2. Limited Withdrawals
Federal Regulation D limits the number of withdrawals you can make from savings accounts to six transactions per month, including electronic funds transfers (EFTs), wire transfers, and automated clearinghouse transfers (ACH). While the regulation has relaxed during the Covid-19 pandemic, many banks continue to hold this restriction. Because of this, you cannot make as many transactions on a savings account compared to your checking account.
If you exceed this limit, your bank or credit union may charge you a fee or could even close your account. So, keep tabs on how many withdrawals you make in a month to present yoursel from exceeding this limit. This step is especially crucial if you use online banking and don’t have any ATM networks nearby.
Some banks charge a monthly maintenance fee or have minimum balance requirements for their savings accounts. We recommend avoiding these types of accounts if possible and shopping around for free savings accounts with no minimum balance requirements.
4. Losing Out On Higher Rewards
When you keep too much money in a savings account, you risk losing out on higher-risk but higher reward financial vehicles, such as investing in the stock market. But, as mentioned earlier, with these types of assets, there is a higher likelihood of serious loss during market downturns. If you want to have cash on hand for emergencies or know that you will need cash for an upcoming expense in the near term, keeping your funds in a savings account will be much less risky.
So is a Savings Account Worth It?
If we look at yield potential, having a savings account may seem like it’s not worth it, especially if you have other debts from credit cards or student loans. However, the benefits you derive from a savings account are not so much about its earning potential but the purpose of the account and having liquidity, access, and protection.
While I invest aggressively and do not keep large cash reserves, for the most part, I have a savings account open to store my emergency fund to balance out the risks from my investments. When I moved into a new apartment earlier this year, I paid for the security deposit and the first month’s rent without any issues because I already had this money set aside in my savings account. The cash reserves on hand allowed me to continue my regular investment schedule without derailing my financial situation.
Remember that you can also set up automatic transfers to move money into your savings account without any additional effort. Alternatively, you can split your direct deposits between accounts to ensure you pay yourself first every month.
Banks to Consider
A good way to ensure that your savings account has high liquidity and accessibility is to open a high yield savings account with online banks like Ally Bank or HM Bradley. Both offer several different types of savings accounts, each with unique features and competitive rates. The best part is that there are no minimum balance requirements or monthly fees, so you can easily access your money whenever you need it.
Alternatives to a Savings Account
Depending on how you want to manage your finances, there are a couple of alternatives to savings accounts to consider.
Certificate of Deposit (CDs)
A certificate of deposit (CD) is a type of savings account that offers a higher interest rate than a regular savings account. A CD usually has a fixed interest rate and can be held for a set period, such as six months or one year.
CDs are perfect for people who want to save money but don’t want to worry about losing it if the stock market goes down. The interest rates on CDs tend to be higher than those on regular savings accounts, so you can earn more money by investing in one.
Another advantage of CDs is that you can choose how long you want to keep your money invested. If you need access to your funds before the end of the CD’s term, you may have to pay a penalty fee. But if you know you won’t need the money until after the CD matures, this could be an ideal investment option for you.
Series I Savings Bond
Series I Savings Bonds is another great option. They offer a fixed interest rate plus a variable rate (in line with inflation) that is guaranteed by the United States government. So, you know your money is safe, and your spending power will never decrease. Additionally, you can defer paying federal income taxes on the interest earned until the bond matures or you redeem it. That means that your savings will grow at a faster rate than if you invested in a regular bank account. Finally, Series I Savings Bonds can be easily redeemed online or over the phone, making them convenient and easy to use.
But, note that the Series I Bond has its limitations. For example, you cannot invest more than $10,000 a year and cannot withdraw your money for a year. If you redeem the bond before holding it for five years, you will need to pay an interest penalty.
The Bottom Line
A savings account can be a great way to save money for short-term goals, like a vacation or home repairs. It can also help you build up your emergency fund in case of unexpected expenses. The interest rates offered by banks are typically lower than those on other types of investments, but the money in a savings account is still safe and accessible if you need it.
If you can commit to saving regularly, a savings account can be an effective way to grow your nest egg over time. And unlike some other investment options, the principal amount in a savings account is always guaranteed by the bank. So even if the stock market nosedives, you’ll still have access to your funds without losing any money.