Author: Heather Vale
April 04, 2024
A high-yield savings account could be a great tool for growing your money. Here’s how it works to help you earn a better return.
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Looking for somewhere to put your money and earn a higher interest rate than a traditional savings account? Or perhaps you’re between investments and want a secure place to keep your funds while plotting your next investment move. Or maybe you’re nearing retirement and want to move your money out of higher-risk investments into a safer, more liquid account.
Well, if any of these apply to you, a high-yield savings account may be something you want to consider.
The name pretty much says it — a high-yield savings account is a savings account that yields a higher rate of return than a standard savings account. In fact, a high-yield savings account may yield an annual percentage yield (APY) anywhere from 10 to 12 times higher than a traditional savings account, and sometimes even more. The higher the APY, the bigger the return.
However, your stated APY is never set in stone. Interest rates go up and down based on the Federal Reserve’s Federal funds rate, which sets the benchmark that financial institutions use to determine their own rates.
Often you can get higher APYs from online-only banks because they don’t have the overhead that brick-and-mortar financial institutions do. But every bank, physical or virtual, offers rates that make sense to their operation and profitability. So it’s always best to shop around.
Most high-yield savings accounts pay compound interest, which earns you interest on the interest as well as the principal deposit. The more often the interest is compounded — known as the compounding frequency — the faster your money grows. Some accounts compound daily, while others might compound monthly or yearly.
You deposit an initial amount when you open a high-yield savings account. Some have minimum deposits required and others don’t. Then you leave your money there to grow, adding to it as you can.
There are generally no penalties if you wish to withdraw your funds, like for purchasing something or making an investment. But you’ll net the highest return if you can leave your money and keep regularly depositing more. In fact, many people use a high-yield savings account to build an emergency fund that they can access when needed.
A great strategy is to have a portion of your paycheck automatically transferred to your high-yield savings account so it can grow without thinking about it.
A high-yield savings account works in a similar way to a traditional savings account. You deposit your money and earn compound interest on your balance. But a high-yield savings account offers a greater rate of return than a traditional savings account. And some high-yield savings accounts require a larger minimum deposit or ongoing minimum balance.
If you don’t keep that minimum balance from month to month, some savings accounts charge a maintenance fee. But typically that requirement on a high-yield savings account, and the fee if you don’t hit the target, will be higher than with a traditional account. And a jumbo high-yield savings account requires an even higher minimum deposit, often $25,000 to $100,000.
When it comes to the specifics of a high-yield savings account, look at the key factors that can help you make a decision.
The advertised APY is one of the first specs you’ll see, and one of the most important. Interest rates vary a lot, so look for the highest you can get among your top options. If it’s a limited-time promotional rate, keep that in mind as well.
The initial requirement to open an account can be anywhere from a few dollars (or “no minimum”) to hundreds, thousands, or even tens of thousands of dollars. Make sure you can easily and comfortably make this minimum deposit before opening an account.
Besides the initial deposit, some accounts require you to keep a minimum balance in the account. If you don’t, you might not get the full APY, or you could face penalty fees. Ensure the minimum balance requirement is an amount that works for you.
You can expect various fees with any bank account, like maintenance fees, overdraft fees and ATM fees. But some accounts let you avoid certain fees by keeping your balance above a minimum threshold, making automated transfers, or setting up direct deposits. Understand the fee structure and how you can minimize them before signing up.
If you want to withdraw cash from ATMs, make sure your high-yield savings account allows that. Ditto if you want to make transfers directly to other bank accounts, brokerage accounts, or payment platforms.
Opening a new account is usually pretty straightforward. If you already have an account with that financial institution, you might not need to provide anything more than your current bank card. Otherwise, you’ll probably have to supply your social security number and at least one piece of government-issued ID, along with filling out an application form.
If you want to calculate your interest, and the resulting total, you’ll need to know a few things:
You’re calculating the accrued amount (A) from these factors, or principal plus interest. The basic formula is A = P(1 + r/n)nt
Let’s say you’ve got $1,000 at 5% APR compounded monthly over the course of a year. P = $1,000, r = .05, n = 12, and t = 1.
A = P(1 + r/n)nt
A = 1,000(1 + .05/12)(12)(1)
A = 1,000(1 + .004)12
A = 1,000(1.004)12
A = 1,000(1.049)
A = $1,049
So over the course of the year, you earned $49 in compound interest on your initial $1,000 deposit.
Yes, the IRS treats your earned interest as income, and therefore the interest is taxed at your regular tax bracket. To make preparing your taxes easier, your bank should issue you a 1099-INT form with your interest earnings pre-calculated for you.
A high-yield savings account is federally insured, so your money is protected. If you open the account with a bank, the account will be insured by the Federal Deposit Insurance Corporation (FDIC); if the account is opened with a credit union, it is insured by the National Credit Union Share Insurance Fund (NCUSIF).
But be aware that there are protection limits. High-yield savings accounts are insured for up to $250,000 per account owner, per insured bank or credit union.
Savings accounts are made for saving, and checking accounts are meant for writing checks. So you can’t write checks on a traditional or high-yield savings account.
However, a popular option is to pair a checking and savings account from the same bank, and set them up to make manual or automatic transfers between the two. So if you transfer money from your savings to a checking account and then write a check, it’s almost like writing it from your savings account.
If you want the ability to write checks on a federally insured account that typically pays higher interest rates than a traditional savings account, you may want to consider a money market account. Money market accounts typically come with a checkbook and debit card, but they also limit the number of transactions you can make each month.
There are a lot of great uses for a high-yield savings account, including:
In fact, you can use a high-yield savings account to reach your goals, regardless of where you are in life. They’re some of the most liquid and flexible financial products available, with the ability to grow your money passively while still having access to it when needed.
Any time you can make a return on your money without taking it out of commission, it’s likely worth it. But we have to consider all the parameters.
If you don’t have enough cash to meet a high-yield savings account’s minimum deposit, then it’s not really an option. If you do have the cash, but it will be difficult to manage the required minimum balance, then maintenance fees could eat into the interest you’re earning — and the bank or credit union may have the option to close the account for failure to meet minimum balance requirements.
You might be able to earn a higher rate of return somewhere else, like investing in stocks or bonds, but that can be risky and there are no guarantees. If you prefer the security of an investment insured by the federal government, a certificate of deposit (CD) may pay a higher interest rate — but you usually have to leave your money untouched for a specified period.
A high-yield savings account is really the best of both worlds. So if you’re looking for a safe, secure place to deposit your money — where you’ll typically earn a higher rate of return than a traditional savings account and still have easy access to your cash — then a high-yield savings account could be just the ticket for you.
A high-yield savings account can be a great tool for safely growing your money over time without worrying about the risk that comes with some investments. Like anything, it has pros and cons, but many people find the benefits to be substantial.
If you’re looking for a jumbo high-yield savings account that pays an industry-leading APY, take a look at the offering from Credit One Bank.
About the author:
Heather ValeFor over a quarter of a century, Heather has been working as a journalist in all media: TV, radio, print, and online. After establishing her career in Toronto, she has been living, working, and playing in Las Vegas for the past decade. She loves pulling apart complicated topics to make them simple, fun, and easy to understand, especially in the business and financial niches. But she also enjoys writing about the personal side of life, including success, relationships, families, and pets. She approaches everything from a yin-yang perspective, so her passion for wordplay and entertaining metaphors is always balanced with an intense (and some would say annoying) focus on facts and accuracy.
This material is for informational purposes only and is not intended to replace the advice of a qualified tax advisor, attorney or financial advisor. Readers should consult with their own tax advisor, attorney or financial advisor with regard to their personal situations.