For most of us, we’ve got a checking account and a savings account at our local bank. Hopefully, your checking account balance will fluctuate throughout the month (from when you get paid and by spending money) and your savings account will slowly grow. One reader was asking me recently to explain the different options available as a safe place to park our money at the bank.
- Traditional savings account: This is the typical savings account that you can open at any bank. Some come with fees, while others allow you to waive the fees by meeting certain requirements (e.g., maintaining a minimum balance or by doing direct deposit). You are often limited to a certain number of withdrawals each month (e.g., 6 at Wells Fargo). Your money is fully insured by the FDIC (Federal Deposit Insurance Corporation) up to $250k, which means that even if your bank is foolish and loses your money or goes out of business, the government steps in to ensure that you’ll get your money. The interest paid is the lowest of these 3 options; depending on your bank, it could likely be anywhere from 0.1 to 0.9%
- Money market account: This is sort of a blend between a checking and a savings account, in the sense that you can actually write checks out of this account. (Do people still write checks all that often?) Also FDIC-insured. It’s very similar to a savings account, so you may have one without even realizing it. It typically pays similar interest rates to a regular savings account, if not even a bit higher than a regular savings account.
- Certificates of deposit (CDs): You open this type of account for a certain period of time, anywhere from 28 days to 10 years. The longer you keep your money there and the more money that you deposit, the higher your interest rate. However, you cannot withdraw your money from a CD until it matures on the preset date. Some CDs are allowed to be broken, but you’ll end up paying a fee to do so. These accounts are also FDIC insured. If you choose to open a CD, consider perhaps opening a few and staggering their maturity dates. This way, you’ll get a higher interest rate as opposed to just keeping your money in a savings account, and you’ll have access to more of your money on a more regular basis. CDs typically pay the highest interest rate of the 3 options.
As I’ve mentioned in a previous post, depending on inflation (currently around 2%), if you’re not making at least 2%, you’re essentially losing part of your money. However, often times in order to get a decent return on your money (i.e., 2% or more), you’ll have to invest your money in something more risky than a savings type account from your local bank. Although the returns are lower, the above products offered by the bank won’t lose value (like stocks could) and carry no risk.
I’d recommend that the average young professional keep a large portion of their “portfolio” in a savings-type account. Being young professionals, we’ll typically have some big ticket items in our near future (weddings, new cars or even a house), for which we’ll need our money. While investing our savings in mutual funds or in stocks could provide us with a larger return, I know that at least for me I’m not willing to risk that money for the time being.
It’s important to sit down and take a look at your financial goals. Are you planning on buying a house in a year or two? Are you looking to replace the old car that got you through college? By understanding your goals, you’ll be able to come up with the right strategy for your money. While offering lower returns, the allure of zero risk is quite attractive to today’s young professionals. Take a look at your bank’s website, and try to figure out what investment options they offer.