Everything You Need to Know About Saving for Beginners
Whether you’re building an emergency fund or working toward a goal, let’s look at the different types of savings options and how they work.
If you had a piggy bank as a kid or keep a coin jar now to collect your spare change, you’re already familiar with the concept of saving. Saving is typically defined as regularly putting money away, but exactly how and where you put that money aside is up to you.
For example, you can save your money in:
- A savings account at a bank or credit union
- A money market account
- A certificate of deposit (CD).
When you save your money in a savings account, money market account, or CD, your money is protected by the FDIC at a traditional bank or the NCUA at a credit union. This means you’re not at risk of losing what you’ve saved. It’s a way to save with more peace of mind than, say, your old piggy bank or coin jar.
Additionally, when you put your money in a savings account, you’re paid interest on your money. Your bank or credit union puts your money to work by financing loans or investing. In exchange for using your money, you receive an interest rate depending on the type of account you’ve opened. With time and compound interest, your money grows faster when you start getting paid interest on the interest you’ve already received. With the interest paid to your account, your money will grow over time, and more than if you didn’t have a savings account at all.
How much should you save? To start, a good rule of thumb is to have at least three months’ worth of expenses put away, preferably in a high-interest savings account, in case of emergencies or unexpected expenses. Once you have this amount set aside, you can then start thinking of other ways to save your money.
For example, beyond an emergency fund, many look at saving as a shorter-term strategy, compared to investing, and often have a particular goal in mind, like saving for a car or saving for a house.
So, whether you’re building an emergency fund or working toward a goal, let’s look at the different types of savings options and how they work.
Savings accounts are available at banks, credit unions, and even online-only banks. Because traditional savings accounts are designed for easy access at any time, you can typically get to your money quickly, without a lot of red tape or paperwork.
Once your savings account is up and running, your balance will earn interest. According to Bankrate, the average savings account pays 0.10% interest. But if you’re open to a savings account that limits withdrawals or you can meet a minimum balance requirement, you may find several high-interest savings accounts are available to you. As of December 2018, a high-interest rate for a savings account came in between 2.16% and 2.5%, Bankrate reports. Minimum balances span a very broad range, from as little as $0.01 deposited to as much as $25,000, depending on the bank.
So, before you open a traditional savings account, be sure to compare offerings across a few banks to see their specific interest rates, minimum balance requirements, and fees. Fees could apply for falling under the minimum balance requirement, making too many withdrawals, or to cover administrative charges. Ideally, you’ll want to select a savings account that offers a high interest rate and low or no fees.
What’s the Difference Between a Savings Account and a Checking Account?
While savings accounts focus on putting your money aside, checking accounts are designed for frequent access, and are typically used to cover payments toward your everyday expenses. Many people have both a savings and checking account, often at the same bank, for just these purposes. In fact, many banks enable you to link your savings and checking accounts, so if you get paid into your checking account, you can then immediately transfer some of your paycheck directly into your savings or vice versa.
Because checking accounts are designed for accessibility and frequent withdrawals, their interest rates tend to be low. According to ValuePenguin.com, a consumer financial website, the average checking account at a brick-and-mortar bank has just a 0.04% interest rate.
Additionally, many people open a checking account but treat it like a savings account. While there’s nothing wrong with this practice per se, you won’t be taking advantage of the higher interest available with a traditional savings account and are essentially leaving money on the table.
Money Market Accounts
Also available from banks and credit unions, money market accounts are savings accounts that offer higher interest rates compared to regular savings accounts. During December 2018, for frame of reference, NerdWallet listed top money market accounts with interest rates ranging from 1.80% to 2.25%, quite a jump compared to everyday savings accounts. Most money market accounts require a minimum deposit and limit withdrawals to six per month. Money market accounts may also offer checks associated with the account, which count toward your withdrawal limit.
Before signing up for a money market account, make sure the minimums and withdrawal limits align with your budget and the frequency of how often you’d need to access your money. You wouldn’t want to pay unnecessary penalties because of the account’s constraints.
CDs are a type of savings account where you have a fixed interest rate over a specific time period. You can open one at a bank and the FDIC will insure up to $250,000 of your money.
Like money market accounts, interest rates on CDs are also typically higher than for a regular savings account. For example, if you put your money into a five-year CD with a 3% annual percentage yield (APY), you’re agreeing to not touch that account for five years in order to get that 3% interest. For the most part, CDs don’t impose monthly fees.
Like everyday savings accounts, you’ll want to shop around to ensure the CD you choose makes sense for your goals. Look at the time period (aka term) required, the interest rate, and whether fees apply. You want to choose a CD that has the best interest rate and accessibility for your time horizon. So, if you’re thinking you’d like to buy a new car in the next two years and want to use a CD to save up the down payment, make sure you’re only considering one- and two-year CD options.
Which Savings Type is Right for Me?
To safeguard your money and grow it over time, it’s a good idea for everyone to have a traditional savings account. Your savings account can be versatile, tailored to your needs and used for whatever purpose you see fit. Again, we want to encourage setting up a savings account as an emergency fund first to be prepared for the unexpected. You’ll get peace of mind and won’t have to rely on credit cards should your car break down or your roof starts to leak. Then, you can treat your additional savings plans as places to save for specific goals, like a vacation. When you do relax on the beach with a frosty umbrella drink, you’ll feel doubly pleased that your proactive savings approach enabled you to reach your goal without taking on debt.
Check out how you can start saving for a specific goal with Twine.
If you’re not sure which savings option makes sense for you, here are a few questions to mull over:
- How much money do I have to start saving? Remember, three months’ worth of expenses is a great place to start.
- What do I want to save for? Once you have three months saved, now it’s time to dream!
- Will I need to access this money from time to time, or can I let this money sit and grow?
- Based on my previous answers, what’s the range of interest rates that’s available to me, and which one is best for the amount I’m ready to save?
- Based on my needs, which savings type has the fewest fees and/or penalties? In particular, keep an eye out for fees that may penalize your behaviors. If you need to make regular withdrawals, for example, make sure the account you choose doesn’t have a time-specific withdrawal limit.
A Sum-Up for Beginner Savers
As you start planning how and where you want to save, always keep your goals top of mind. Compare offers and thoroughly read the fine print. When you’re well-informed, you’ll be able to select the best way to save and grow your money.