In a world where consumers are encouraged to spend more and more, finding a way to motivate yourself to build a nest egg is of utmost importance. That’s where a high-yield savings account can help.
This type of bank account typically comes with much higher rates than options offered by traditional savings account providers. To top it off, some of the best high-yield savings accounts on the market don’t charge monthly maintenance fees or impose minimum balance requirements while providing easy access to your funds with an ATM card.
But what exactly is a high-yield savings account, and how can it help you improve your overall financial situation? Keep reading to find out.
What is a High-Yield Savings Account?
Typically offered by Internet-only banks, a high-yield savings account is a special type of financial vehicle that earns interest up to 20 times faster than a traditional savings account.
To put this into perspective, let’s say you have $5,000 you want to put toward building your emergency fund. If you were to deposit this amount into a traditional savings account, you could earn an annual percentage yield as low as 0.1% and receive only $5 over the course of a year. On the other hand, if you put the same amount of money in an online savings account offering a 2% APY, you could earn $100. To sum it up: The higher the APY, the quicker your savings will grow.
How Do High-Yield Savings Accounts Work?
At this point, you are probably wondering whether high-yield savings accounts are too good to be true. Truth be told, there are some disadvantages associated with this account type. However, before we move on to discussing the downsides, let’s take a closer look at how these financial vehicles accrue interest.
With simple interest, the amount of money you deposited into the account – your principal balance – is the only thing affecting interest calculations. To put it simply, the total interest earnings you receive will be determined by a preset percentage of the sum you have invested, not taking into account any additional amount earned through previously acquired interest.
In contrast, compound interest regards both your principal and the interest it has accrued up to that point. In this way, interest can be compounded yearly, monthly, weekly, or even daily. The more frequently this process takes place, the quicker your earnings will increase.
Are High-Yield Savings Accounts Safe?
In a pandemic-stricken economy, it comes as no surprise that consumers are questioning whether they should put their life savings in a potentially volatile Internet-based account.
Let us break the good news – there’s no reason to be suspicious about the legitimacy of a savings account provided by a digital bank. As a high-yield savings account holder, you’ll enjoy the same type and level of protection you’d get if you decided to open a traditional savings account in a brick-and-mortar bank.
In the United States, for example, if you get an account from a bank of any type, you’ll receive insurance for up to $250,000 provided by the Federal Deposit Insurance Corporation. Choose a credit union for an account provider, and you’ll receive the same type of insurance, except in this case, the coverage will be offered by the National Credit Union Administration.
As for the lack of physical branches, this is as much of an advantage as it is a disadvantage from a prospective account holder’s point of view. On the plus side, the lack of brick-and-mortar locations means digital banks can cut costs. Therefore, it’s much easier for them to offer higher APY and lower fees than for banks with physical branches.
On the downside, however, fully online banks make it inconvenient or completely impossible to make cash deposits unless they arrange this service with a third-party provider. Even then, depositing cash can be complicated or expensive for account holders. Furthermore, high-yield savings accounts rarely come with check-writing privileges.
Improving Your Finances With a High-Yield Savings Account
Let’s say you enjoy going to Michelin-starred restaurants, playing slots at online casinos, or buying designer clothes but aren’t sure how much money you can actually allocate each month for these expensive hobbies. This is where budget planning and distributing your money among various financial vehicles can come in handy. Once you figure out how much money you need for living expenses and long-term goals, it’ll be much easier for you to determine how much you can comfortably spend on, let’s say, fine dining.
Note that a high-yield savings account should only make up a part of your overall financial portfolio. Before you start shopping for a new account, think about how that can reflect on your existing savings and investment strategies. You can keep your emergency fund in a high-yield savings solution or use this account type to save up for a large purchase such as a home, a car, or an exotic vacation. Some people also open online savings accounts without a specific purpose other than to keep surplus cash they sweep out of their checking accounts instead of making unnecessary purchases.