What are high-yield savings accounts?
As the name suggests, a high-yield savings account is a bank account available through brick-and-mortar or, more commonly, online banks that pays a higher interest rate on deposits than a traditional savings account.
Per Federal Reserve data, the average national annual percentage yield (APY) on traditional savings accounts is 0.09%. Most high-yield savings accounts have APYs around a 1.5% APY — a big difference in return. Prior to economic downturn, many high-yield savings accounts offered APYS of 2.25% or more.
So, are they a good investment?
Comparatively speaking, yes. Using the rates above as a benchmark, $10,000 in a traditional savings account would garner just $9 in interest over a year, while a high-yield savings account with an APY of 2.25% would earn you $225 in that same time frame.
"It makes a big difference," Peter Palion, certified financial planner and president of Master Plan Advisory, says. "Especially if you have a lot of money sitting in a bank that's not earning anything."
Though high-yield savings accounts have similar interest rates to certificates of deposit, they are much more liquid. You aren’t blocked from accessing your money or forced to pay a hefty withdrawal fee if you need to take money out of the account prematurely.
However, as most online banks don’t have brick-and-mortar locations and don’t offer checking accounts, getting ahold of your money may take a few days. As such, it's not always the best idea to dump all your savings into an online account, especially if your income fluctuates frequently or on the chance an emergency arises.
Palion suggests having a fund of two-to-six months of expenses in a traditional savings account, and moving the rest of your liquid assets into an account with a higher APY to build wealth.
Just one piece of the wealth-building puzzle
Though high-yield savings accounts are often a good place to park some cash, consider them only one part of your financial portfolio. Most people aren't best served eshewing longer-term investment vehicles, like an individual retirement account, for higher APYS on liquid assets. While interest rates on savings accounts won’t become negative, you could be leaving money on the table due to inflation.
“If people are concerned about what’s going on in the market, moving your money to an online bank isn’t the long-term solution,” Palion says.
Finding the right high-interest savings account
First, do your research. Make sure the account is insured by the Federal Deposit Insurance Corp. — or a comparable agency — and that there are no annual or signup fees. Some accounts have minimum balance requirements or initial deposit minimums. Interest rates also differ from bank to bank.
Lastly, always be skeptical of deals that seem too good to be true.
“The biggest thing I would say is read the fine print,” Thomas Rindahl, certified financial planner at TruWest Wealth Management, says. “If most banks are offering rates of 2 2.25% and you see an account with rates of 5%, something is not right there.”
Are APYs subject to change?
The Federal Reserve lowered its federal fund rate in response to the economic downturn. (Low borrowing rates can stimulate a struggling economy.) Though the Fed rate isn’t directly tied to interest rates for savings accounts, they are one of several factors that could encourage banks and credit unions to change APYs.
In other words, any changes in the federal funds rate could decrease (or increase) the APY on your online savings account.
Unless you lock in a fixed interest rate, as you typically do when opening a CD, then the rates can be subject to change, Palion explains. A big shift in the markets could drive down interest rates, though frequent changes would be rare.
“It’s not like they are going to be fluctuating daily,” he says. “But I would look into it before you invest.”