The Pros and Cons of Opening and Using Savings Accounts

When you were younger, you probably had a piggy bank that stored loose change. While you had to be patient waiting for that piggy bank to fill up, eventually cashing in that change was a rewarding experience that allowed you to pay for something special later on. The same can be true of a savings account, which allows you to salt away money for a rainy day, future goal, or emergency.

Opening a savings account is relatively easy. But first, it’s important to do your homework and better understand how savings accounts work and what is required. Take the time to learn more about the advantages and disadvantages of savings accounts, applicable rules, ways to maximize your account, and alternative options you might want to consider.

Savings accounts explained

A savings account is simply an account with a bank, credit union, or other financial institution in which you deposit funds that accrue interest over time. Keeping your money in a savings account is much safer than storing dollars under your mattress or hiding them away in a jar at home.

“Although these accounts frequently offer low interest rates, the security and dependability they provide make them a fantastic choice to keep cash on hand for urgent needs,” says Lyle Solomon, a financial expert and principal attorney at Oak View Law Group. “They offer tremendous flexibility that is perfect for creating an emergency fund or for a short- or long-term purpose.” Savings accounts have evolved over the years. For example, many opt to salt their cash away in online savings accounts today versus a traditional brick-and-mortar bank. But the basic principle remains the same: safely and responsibly setting aside cash for future needs.

The pros of savings accounts

Having a savings account offers several benefits. The first is financial security: Your dollars will be safer in a savings account than they would be nearly anywhere else thanks to the security precautions taken by the bank as well as built-in insurance provided by the Federal Deposit Insurance Corporation against bank failures. In fact, the funds in your savings account are protected up to $250,000.

Secondly, savings account pay interest on your deposited funds. This interest can compound daily, monthly, or quarterly. The average interest rate nationally is only 0.19%, per Bankrate, at the time of this writing. But every financial institution that offers savings accounts sets its own rate, with some offering an APY (annual percentage yield) over 4%, for example. While this interest rate range sounds small, savings accounts usually offer a higher rate than checking accounts (which average only around 0.03% nowadays).

Let’s say you deposit $10,000 into a savings account that offers 2.4% APY. If you make monthly contributions of $200 over 10 years to this account, you will earn about $5,735 in interest over that decade, and you will have an account balance of $39,735. That’s no small chunk of change.

Another advantage? The access to your money in a savings account is liquid. That means you can usually withdraw your money when you want without penalty, unlike with a certificate of deposit. Depending on what your bank allows, you should be able to easily access your funds via brick-and-mortar, mobile, and/or online banking.

“Also, saving money drives home the concept of being financially independent,” Gary Golden, CEO of BHCU Delaware County Credit Union, says. “When you are financially independent, you are conscious of a budget and will prioritize saving money versus spending.”

The cons of savings accounts

Nevertheless, savings accounts can have drawbacks.

“They offer convenient access and dependable security but at the expense of lower returns than other types of savings vehicles. If your time horizon is sufficiently extended, you could, for instance, make a greater return by investing in Treasury bills, certificates of deposit, stocks, or bonds,” Solomon adds. “You may actually lose money if you hoard cash and allow your savings account to become too large. Over time, if you deposit your money in a savings account, even one with a high rate, you won’t be able to grow it as much as you could if you put that money into higher-yielding investments.”

Additionally, depending on the bank’s rules, your savings account may require a high minimum balance, charge costly fees, impose restrictions, and pay a lower interest rate than desirable.

And while the liquidity of a savings account is a perk, it can also be a disadvantage. This convenient access to your funds may tempt you to spend money instead of saving it.

Lastly, remember that your savings account funds are only protected up to $250,000; in the unlikely event that your bank fails, any funds above this threshold could be at risk.

What’s required to open and keep a savings account

Dennis Shirshikov, a strategist with Awning.com and a professor of economics and finance at City University of New York, explains that every financial institution has requirements for setting up a savings account.

“In general, you will need to provide personal identification, proof of address, and possibly a minimum deposit to open a savings account,” he says, noting that the personal identification may include your driver’s license and Social Security number. “You may also need to maintain a minimum balance in your account to avoid fees, and there could be limits on the number of transactions you are allowed to make each month.”

Some banks will permit you to open your account first and add money later. You can choose to make your initial deposit via an external transfer, snail mail check, deposit using a mobile device, transfer from an account held at that institution, or deposit made in person at a physical branch.

“You might need to maintain a minimum balance in your savings account on a daily or monthly basis to avoid fees,” continues Solomon. “Traditional savings accounts often have a minimum balance requirement of $300 to $500, although quantities can vary in some institutions don’t require a minimum at all.”

When it comes to fees you may be charged, here are the common ones:

• Account maintenance fee, which may be waived if you maintain a sufficient balance, link your savings account with a checking account, or fulfill other requirements.
• Overdraft fee in the event you lack enough funds in your account.
• Insufficient funds fee if you don’t participate in an overdraft program and you make a purchase or other transaction that exceeds the balance in your savings account.
• ATM fee, which may be assessed if you use an ATM outside of your bank’s network.
• Wire transfer fee.
• Access transaction fee, which could be charged if you exceed the maximum allowed number of transactions or withdrawals per month/quarter/year.
• Account closing fee, which some banks charge if you close your savings account before a period stipulated in your terms.

Good candidates for having a savings account

Virtually anyone is a good prospect for opening and using a savings account – from kids to seniors – the experts agree.

“This includes individuals and families who want to save money for short-term or long-term goals, such as a home down payment, a car, or retirement,” says Shirshikov. “Savings accounts can also be a good option for people who want a safe and convenient place to store their money and earn a modest return.”

If you have a checking account, your financial toolbelt is incomplete without a savings account, Solomon insists.

“It’s far too simple for the funds in your checking account to turn into an all-purpose fund that you use for reasons other than what you intended. But if the money is kept in a safe place like your savings account, you might think twice before postponing other financial plans,” he explains.

Brick-and-mortar vs. online savings accounts

Savings accounts today are offered by physical banks as well as online financial institutions.

The advantage of having a savings account online is that these accounts commonly offer higher interest rates. That’s because they have less overhead, being that there are no brick-and-mortar facilities to pay for and fewer employees.

However, check with the online bank to learn if its APY for a high-yield account is tiered based on the account balance; the online bank may require a particular amount to be kept in high-yield savings account for a minimum amount of time until the higher interest rate begins to apply.

“Online banks also provide an additional benefit in the shape of lower fees. An online bank might not charge any monthly fees, in contrast to the traditional banks, which could assess a $5 or $10 maintenance fee for a savings account. But keep an eye out for other charges, such as a fee for excessive wire transfers or online savings account withdrawals,” Solomon suggests.

Furthermore, online banks provide convenience. You don’t have to drive to a brick-and-mortar location and wait in line to make a funds transfer; you can quickly and easily conduct online banking via your smartphone, tablet, or PC. But if you have actual cash dollars you need to deposit or withdraw, you’ll need to do so at a physical location, such as an ATM.

The disadvantages of online banking include possible technology failure (the website may be down for maintenance, for example), possibly higher ATM fees charged, or limitations on deposits or withdrawals, and lack of human connection.

“You may not have access to the same level of in-person customer service as you would with a brick-and-mortar bank,” cautions Shirshikov. “Also you may have some security concerns with storing your money online.”

Best practices when using a savings account

Want to grow your savings responsibly and more quickly and maintain a robust emergency fund? Follow these tips provided by the pros.

• Try to salt away at least six months’ worth of living expenses in your savings account as a safety in case of an emergency, such as losing your job or requiring expensive surgery.
• Link your savings account to a separate checking account with the same bank. “This enables easier movement of funds between accounts, facilitating money transfers, dividing direct payments, and automating savings,” says Solomon. What’s more, you can avoid having to pay an overdraft fee if you link these two accounts.
• Set up direct deposit. Consider having your paycheck deposited directly into your savings account.
• Don’t touch your funds unless absolutely necessary. “Savings withdrawals should only be made as a last resort, such as an emergency,” Solomon adds. “Write down your savings goals and what you intend to use the money for, and try to stick to those goals.”

Savings account alternatives

As mentioned, other accounts and financial vehicles could be better options, especially if you want to earn a higher rate of return on your dollars. Ponder these alternative options:

• A high-yield money market account. While these accounts offer fewer amenities than a checking account, they pay greater a higher rate of interest than typical savings accounts. Plus, they are also covered by FDIC insurance.
• A certificate of deposit. If you don’t need access to your funds for at least a year or longer, a CD is a worthy option because it pays a higher fixed rate of interest, offering a guaranteed return. But you will incur stiff fines and penalties if you touch your money prematurely. “CDs can be beneficial if you think rates are going to decrease or you know you don’t need access to those funds,” recommends Golden.
• A high-yield checking account. Some checking accounts offer APYs up to 2%. Learn what’s required, including the minimum balance in fees involved.