When you’re trying to save money it’s important to know that you have many options to choose from. Most of us know about the traditional savings accounts offered by our local bank or credit union, but are there others?
There are just a few types of savings accounts, and the one that is right for you depends on what you want to do with the money you save.
a. Traditional Savings Accounts
These accounts are typically linked to your checking account. They’re very easy to open and maintain, and they are designed for the money you want to keep separate from your spending account. A traditional savings account that is linked to your checking account is a wonderful place to keep your mini-emergency fund. Should an unexpected expense arise, you will have the money you need right there. These accounts have very low interest rates and will not earn you much (if any) interest.
b. Money Market Accounts
These are very much like regular savings accounts, except they tend to require higher deposits. While your money is parked in the account you may earn more interest, but you are limited to how frequently you can access it. Money market accounts are a perfect choice for your emergency fund. You can still get to your money when you need it and take advantage of the higher interest rate.
c. Certificates of Deposit
Also called CDs, certificates of deposit work a lot like the other savings accounts, but offer higher interest rates for a set period of time. The longer you commit to parking your money in the CD, the more interest you’ll earn. If you take your money out early you will pay a penalty and risk canceling out any of the interest you’ve earned. These accounts are best for the money you know you won’t touch for years.
It’s important to note that the amount of interest changes over time, based on the current federal interest rate. Banks pay interest to savers because they use the money you’ve deposited as their fund to lend to others.
Example:
You deposit $1,000 into a savings account and the bank pays you 1% interest.
In one year, you earn $10.
That same bank lends $1,000 and charges 5% interest.
In one year, the bank earns $500.
The bank keeps the difference and takes in a profit of $490.
This is, of course, a very simplified example – but it’s also a peek into how banks work and make money.
Are Banks a Safe Place to Store Your Money?
With so many banks merging and going under and being bailed out by the government, it’s fair to wonder if they’re safe at all. All money deposited into nearly all banks in the US is insured – up to $250,000.
The Federal Deposit Insurance Corporation (FDIC) exists, in part, because of the Great Depression. Before the FDIC insurance, customers were extremely suspicious of the banking system and would withdraw money for fear of losing it. Many people reacted to rumors of bank failure by making mass withdrawals and as a result, banks folded. The FDIC insurance created peace of mind for customers.
How Much Should You Save?
The short answer is as much as you can. However, it is easier to do so when you are saving for specific goals, such as having an emergency fund, setting aside funds for retirement, or saving toward a home purchase or other major expense. Work out a budget and see what, if any, surplus you have at the end of the month. Make a plan for it and find a place to put it aside. If you don’t have any money left at the end of the month, find ways to earn extra or reduce expenses so you can create savings for the future. Any one of these savings accounts is a great way to get started building your nest egg.
