What is a savings account?

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What is a savings account?

A savings account is a basic type of financial product that allows you to deposit your money and typically earn a modest amount of interest. These accounts are federally insured up to $250,000 per account owner and offer a safe place to put your money while earning interest.

You can find savings accounts at banks and credit unions. You don’t need a large amount of money to open a savings account, and you also have easy access to your money.

Why you need a savings account

Because of their safety, reliability and liquidity, savings accounts are good places to keep money for a later date, separate from everyday spending cash. These accounts are a great place to build your emergency fund or save for a shorter-term goal, like a vacation or a home repair.

For example, let’s say you want to save $1,200 for a vacation. You could open a savings account and contribute $100 per month to meet your goal within a year. Plus, you would earn a little interest on your balance.

Alternatively, let’s say the air-conditioning unit in your home breaks in the middle of the summer. If you kept your emergency fund in a savings account, you could quickly withdraw some of that money to pay for the repair.

Beyond quick access to your cash when you need it, savings accounts often offer higher interest rates than checking accounts. You might even find some savings accounts with a higher APY than money market accounts. The average APY on savings accounts is just 0.06 percent, but you can find accounts paying up to 0.5 percent or higher.

Finally, there are many opportunities to open a savings account with low fees. You can often find simple options to avoid pesky maintenance fees.

How does a savings account work?

You will open a savings account at a bank or credit union. You can open an account online or in person. Either way, you will provide the institution with personal information to get an account. Then, you will deposit money into the account.

How much money you have to put into the savings accounts varies by financial institution. But your money is always safe and insured at a bank or credit union. Money kept in a savings account at a federally insured bank or credit union is insured up to $250,000 per account owner.

The rate you’ll earn on your savings account also varies and can change at any time. You can move money out of the account whenever you wish, but a law limits the amount of times you can do so to six per month.

How much should you keep in your savings accounts?

The amount of money you should keep in a savings account largely depends on your goal. If you’re using it as an emergency fund, most financial advisors suggest that you keep three to six months’ worth of living expenses in your account.

For example, if you spend an average of $3,000 per month on costs such as your mortgage, car payment and food, you would save anywhere from $9,000 to $18,000 in the account.

If you’re saving for a specific goal — like a vacation, buying a house or purchasing a car — you would keep enough in the account to pay for that expense.

You can use a simple savings calculator to calculate your savings and see how long it might take you to save for a specific goal.

Can you lose money in a savings account?

It is always a good idea to have money tucked away in a savings account. You’ll never lose the money you have saved up to the FDIC insurance limit of $250,000 per account owner at FDIC-insured banks. But the money in your savings account can lose purchasing power over time. For example, if someone earns 0.2 percent APY on their savings account and inflation is at a 2 percent annual rate, they’d face a 1.8 percent decline in their purchasing power over a year.

According to Bankrate data, the national interest rate average for the week of Feb. 24, 2021, is 0.06. Unfortunately, this is a relatively low return on your funds. 

The good news is that you can open a high-yield savings account to earn a higher APY. But you’ll still be missing out on the potential investment returns offered by higher-risk investments, including mutual funds, stocks and bonds.

Find the right balance of cash to store in your savings account. You want to keep enough on hand to deal with any emergencies. But you don’t want to overdo it and miss out on the opportunity to grow your investments over the long term.

Are online savings accounts safe?

Online savings accounts are just as safe as savings accounts at traditional institutions. As long as the institution offering a savings account is insured, your deposits are safe. Look for banks — both traditional brick-and-mortar banks and online banks — that are insured by the FDIC and credit unions insured by the National Credit Union Share Insurance Fund (NCUSIF). Both insure savings accounts up to $250,000 per depositor, per insured bank or credit union and per ownership category.

The biggest benefit of an online bank is that they typically can offer higher yields because their overhead costs are much lower than brick-and-mortar banks.

Savings accounts advantages and disadvantages

Like all financial products, savings accounts come with some pros and cons.

Here are some of the advantages of savings accounts:

  • Safety: Money kept in a savings account at an FDIC-insured bank or an NCUSIF-insured credit union is insured up to $250,000 per account owner, keeping your savings safe.
  • Growth: Savings accounts are generally interest-bearing, meaning you will earn interest on the money you save in the account.
  • Liquidity: Though savings accounts provide a place to stash money that is separate from your daily banking needs, they still let you make up to six withdrawals or transfers per statement cycle.

Here are some of the disadvantages of savings accounts:

  • Higher yields available elsewhere: The main downside is that interest rates on savings accounts may be lower than other savings products. Certificates of deposit and money market accounts, for example, may pay higher rates.
  • Accessibility restrictions: Federal regulations restrict the number of withdrawals or transfers you can make from a savings account to six per statement cycle.
  • Loss of purchasing power over time: If your savings account yield is lower than the inflation rate, you will lose purchasing power over time.

How to maximize earnings from a savings account

The average interest rate on a savings account is low. Fortunately, there are several ways to boost your earnings.

Here are a few proven ways to earn more from a savings account:

  • Check out community and online banks: Big brick-and-mortar banks typically don’t offer the returns of these institutions. Online banks, in particular, tend to offer better yields: They don’t have the costs associated with brick-and-mortar banks and tend to pass those savings on to their customers. Here are the best rates for savings accounts.
  • Get a sign-up bonus: Some banks offer cash bonuses when you sign up for a new savings account. These bonuses can range in the hundreds of dollars. It’s worth keeping an eye on the best bank account bonuses and signing up for an account with a great bonus and a great rate.
  • Shop at credit unions: A credit union may offer you a better yield than you can find elsewhere. These not-for-profit organizations are member owned and tend to offer high rates and low fees.
  • Rely on the power of compound interest: Savings accounts offer liquidity, but your money will grow faster the less you touch your money. You can use a compound interest calculator to see how small deposits into a savings account quickly add up over time.
  • Watch out for fees: Some savings accounts advertise an attractive rate, but they come with fees that can eat into your interest rate. Do what you can to avoid incurring fees on your savings account. Better yet, shop for an account with very few fees.

Overall, it pays to shop around. You can get started by comparing the best high-yield savings accounts.

How to open a savings account

Start by thinking about your goals and why you need a savings account. For example, you may want to build an emergency fund, or maybe you want to save for a vacation. Knowing your goal for the account will help you decide which savings account is best for you.

Next, make sure to comparison shop at more than just big banks. Keep in mind that online banks, credit unions and community banks tend to offer more competitive interest rates than large retail institutions. But make sure to compare more than just the interest rate. Take a look at monthly maintenance fees, minimum balance requirements and transaction fees. Also ensure the account has all of the features you need, like a mobile app.

Finally, check that the savings account you’re considering is insured by the FDIC if it’s a bank or the NCUSIF if it’s a credit union.

After choosing a savings account, the way you set it up will vary by bank or credit union. Some institutions require you to open an account at a branch, while others may require you to set everything up online. Either way, you’ll need to provide some general documents and information, including a driver’s license or state ID, your Social Security number, address, date of birth and other personal info. The institution will provide instructions on how to fund your account. Ready to open a savings account? Here’s a step-by-step guide.

Other types of savings accounts

Savings accounts aren’t your only option when it comes to federally insured places to keep your money. There are other savings products offered by both banks and credit unions that are low-risk, liquid and interest bearing.

  • Money market accounts: MMAs can provide higher rates than savings accounts, but they may have higher minimum balance requirements. Like a savings account, withdrawals and transactions are limited to six per billing cycle. These accounts may come with an ATM card and checks.
  • Certificates of deposit: CDs are time-deposit accounts. They hold your money for a specific period of time. In exchange, they pay a guaranteed yield that’s generally higher than savings or money market accounts. The trade-off for the higher yield is that there is no liquidity (without penalty) for an agreed upon period of time, which can range from a few weeks to years. Unless you have a special type of CD, you’ll have to keep your money locked away for the duration of the term. If you withdraw cash early, you can get hit with a penalty that can eat up all of your interest earned and some of your principal.

Want to compare your options? Explore money market accounts, certificates of deposit, and savings accounts today.

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Written by
Sarah Sharkey
Contributing writer
Sarah Sharkey is a contributing writer for Bankrate. Sarah writes about a range of subjects, including banking, savings tips, homebuying, homeownership and personal finance.
Edited by
Senior editorial director
Reviewed by
Senior wealth manager, LourdMurray