What is a High Yield Savings Account (And Why You Need One)

 

I haven’t always been good at saving. I’ve always kept a savings account at my regular bank, but admittedly, I didn’t put much money into it.

I always said I’d transfer whatever money I had left at the end of each month. But whenever the end of the month rolled around, there was nothing left.

When I finally decided to turn my finances around, one of the first things I did was build a small emergency fund.

But then the problem was that I had a large sum of money sitting in the bank, earning next to nothing in interest. So I finally got around to opening a high-yield savings account, meaning my money is making even more money.

 

What is a High-Yield Savings Account (and Why You Need One)

 

What is a high-yield savings account?

 

A high-yield savings account (HYSA) is just like any other type of savings account, except it pays a much higher return.

The savings account at your regular bank pays you interest each month. But in most cases, it’s a few cents per month. Not really anything to get excited about. But the rates on high-yield savings accounts can be significantly larger.

Consider this: the rate on a typical savings account is about 0.05%. The rate on a high-yield savings account is usually at least 0.50%. And when interest rates are higher, it can be 2.0% or higher. So the rate on a high-yield savings account is 20x to 40x the rate on a traditional savings account.

 

How do high-yield savings accounts work?

 

High-yield savings accounts use compound interest, meaning you earn interest each month, and then that money gets added to your principal. 

Your interest rate is known as your APY (annual percentage yield). But most of these accounts pay monthly.

Imagine that you have your $10,000 emergency fund in your savings account with an interest rate of 1.0%. 

In the first month, you’d earn $8.30 in interest. The next month, you’d earn interest on the full $10,008.30. It doesn’t sound like it makes a big difference, and it’s definitely not enough to get rich. But after one year, you’d earn about $100.46 in interest. 

And when interest rates are higher and your savings account has a return of 2.0% or more, you would have earned $201.84 in your first year.

 

What should you use a high-yield savings account for?

 

A high-yield savings account is not an investment. If you’re looking for an investment opportunity to grow your wealth, a savings account isn’t a replacement for a brokerage account.

It’s also not the best place for money that you expect to need soon. It can take a few days to transfer money from your high-yield savings account to your checking account. For money you use regularly, it might be better kept in a savings account at your normal bank or in your checking account.

Here are some good uses for your high-yield savings account:

  • Your emergency fund. This is my favorite. It’s just a big chunk of money sitting in the bank not getting touched. By putting it in a high-yield savings account, I can earn a little money on it each month. And here’s a tip for you: Every month when my emergency fund earns interest, I put that money toward one of my other financial goals. 
  • Financial goals less than 3-5 years out. The stock market can be a great way to save for financial goals, but not short-term financial goals. The market can be volatile, and the last thing you want is to have your brokerage account take a nosedive right before you plan to use that house downpayment fund. As a result, use a savings account for goals less than 3-5 years out. Brandon and I want to buy a house in the next couple of years, so we’re using our Ally savings account to save.

 

Is my money safe in a high-yield savings account?

 

As I mentioned earlier, a high-yield savings account is not an investment account. And it doesn’t come with the same risks as investing.

As long as the bank you choose is federally insured (it should say if it is on the website), your money is insured by the FDIC up to $250,000 per person across all of your accounts.

 

What to look for in a high-yield savings account

 

Interest rate

The interest rate should be one of the biggest factors you consider when choosing the right savings account. After all, that’s the whole point, right?

The interest rate you can get is going to vary by bank. Right now (November 2020) the good ones are anywhere from 0.50% to 1.0%.

Keep in mind that they can change. When I signed up for my Ally account, the interest rate was 2.0%. Right now, it’s 0.60%.

When the Fed lowers interest rates, rates go down across the board — including in high-yield savings accounts. When interest rates increase again, you can bet that the rates on these savings accounts will also increase.

And if you sign up for an account and the rate suddenly goes down, don’t panic. If one bank is lowering its rate, chances are the rest are too.

 

Extra features

Before signing up for a high-yield savings account, read up on what special features the bank offers. For example, Ally Bank offers a bucket feature. You can create individual buckets within your savings account for different things you’re saving for. I have one bucket for my emergency fund and one for my future house downpayment. 

 

Access to your money

Obviously, you want to be able to get ahold of your money when you need it. And I’ve seen many people who prefer to keep their money in a savings account at the same bank as their checking account so they can do instant transfers.

While I agree that you should make sure you can easily transfer money from your savings account, I actually like the idea of having it at a different bank.

I use my high-yield savings account for my emergency fund. If I need to transfer money, it takes 2-4 days to hit my checking account. This means that I can’t impulsively spend that money. But 2-4 days is still short enough that if I lose my income and need to live off my emergency fund, I’ll have it in my checking account in time.

 

Fees

Anytime you’re going to sign up for a financial product, you should find out what fees come attached to it. None of the best high-yield savings accounts I’ve seen have fees. So if the one you’re looking at does, run the other way.

 

Which is the best high-yield savings account?

 

There are so many high-yield savings accounts to choose from, and there really isn’t one that’s better than all the rest. It’s all about finding one that feels good to you.

My favorite savings account is Ally (<< that’s not an affiliate link, I just really love their product). I really love the buckets features. I can visually break up my financial goals without having to open multiple savings accounts.

I also use a Capital One high-yield savings account for my business — it’s where I keep my tax money until it’s time to send it to the IRS.

A few other popular options are:

  • Marcus by Goldman Sachs
  • Citibank
  • Chime

 

Final Thoughts

 

A high-yield savings account is a great way to earn a little extra cash on the money you’d be putting into savings anyway. It’s the perfect place to store your emergency fund or the money you’re saving for a big financial goal.

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