Saving Account Basics

A Guide to Saving

• To achieve your financial goals, you will need a plan.

• Saving is putting money aside for future use.

  • The money you save is called your savings.

• Savings plans include regular savings accounts, certificates of deposit, and money market funds.

• Some personal finance experts say people should try to save about 10 percent of their take-home income.

• The opportunity cost of a decision is the same as the benefit of the choice that is given up when one decision is made instead of another.

• People set up and maintain a savings plan for three reasons: to make major purchases, to provide for emergencies, and to have income for retirement.

Earning Interest on Savings

• To earn income on savings, you must store it in a place that will provide you with interest, such as a bank or savings and loan association.

• The money you put into a savings account earns interest.

• If you put money into a bank’s savings account, you are actually lending the bank your money.

• Saving is important to the economy because it generates loan money for people and businesses.

• Earnings on savings can be measured by the rate of return, or yield.

  • The rate of return is the percentage of increase in the value of your savings from earned interest.

• Simple interest is interest earned only on money deposited into a savings account, called the principal.

• When principal and interest are left in an account, it earns compound interest.

  • Compound interest is interest earned on both the principal and any interest earned on the principal.

    • Compounding may take place every year, every quarter, every month, or even every day.

Types of Savings Accounts

Choosing a Savings Account

• Banks, savings and loans, savings banks, credit unions, and brokerage firms all offer several types of savings accounts

• Traditionally called passbook accounts, regular savings accounts allow consumers to deposit or withdraw money at any time and to earn interest on the funds.

• Another type of savings account, called a certificate of deposit (CD), requires you to deposit a specified amount of money in an account for a set period of time.

  • A CD has a maturity date, which is when the money becomes available to you.

• Brokerage firms, which buy and sell stocks and bonds, offer a special type of savings account called a money market fund.

  • A money market fund is a kind of mutual fund, or pool of money, put into a variety of short-term debt (loans of less than one year) by business and government

  • Money market funds usually require high balances.

• Banks, savings and loans, and credit unions have their own form of money market fund called money market deposit accounts.

Advantages and Disadvantages of Savings Accounts

• Banks, savings and loans, and credit unions are all insured.

• The Federal Deposit Insurance Corporation (FDIC), a government agency, insures bank accounts.

• Liquidity means the ability to quickly turn an investment into cash.

  • Savings accounts are highly liquid because cash can easily be withdrawn.

• Since there is very little risk with a savings account, there is usually a low return.

• Inflation is a general increase in the cost of goods and services.

  • Inflation risk is the risk that the rate of inflation will increase more than the rate of interest on savings.

• Savings accounts earn interest, but they can also cost money.

  • Some accounts charge a penalty for early withdrawal or if the account balance falls below a certain minimum during a given period.