What Is A Savings Account And How Does It Work? (2024)

Look to a savings account when you want to set money aside for future needs and goals. Savings accounts allow you to deposit money for safekeeping and earn interest on your balance. You can open these accounts at a bank or credit union.

If you’re interested in opening a savings account, there are a few essential things to know about how they work.

What Is a Savings Account?

A savings account is a deposit account designed to hold money you don’t plan to spend immediately. This is different from a checking account, a transactional account meant for everyday spending, allowing you to write checks or make purchases and ATM withdrawals using a debit card.

Savings accounts help you stash money away for specific purposes and goals. For example, you may open a savings account to hold your emergency fund or a down payment on a home.

When you’re ready to use the money, you can withdraw it from savings, but many banks and credit unions limit the number of withdrawals or transactions you can make from a savings account. Federal Reserve Board Regulation D used to limit you to six withdrawal transactions per month, including:

• Overdraft transfers to a checking account
• Electronic funds transfers (EFTs)
• Automated clearing house (ACH) transfers
• Transfers made by phone, fax, computer or mobile device
• Wire transfers made by phone, fax, computer or mobile device
• Check or debit card transactions

In April 2020, the Fed issued a final interim rule, giving financial institutions the option of lifting the six-per-month withdrawal restriction. However, your bank or credit union can still charge an excess withdrawal fee if you go over the six transaction limit. Some transactions, such as transfers made via ATM or a branch, don’t count against this limit.

How Does a Savings Account Work?

Savings accounts aren’t overly complicated. You can open a savings account at a bank or credit union and deposit money into the account. The bank then pays you interest on your balance.

You can continue adding money to savings, usually through one or more of these methods, depending on the bank:

• Cash or check deposits at the ATM
• Cash or check deposits at a branch
• ACH transfers from a linked bank account
• Wire transfers from another bank account
• Mobile check deposit
• Direct deposit

The interest rate you earn and the corresponding annual percentage yield, or APY, can vary by bank and account. The APY is the rate of interest earned on your savings when compounding interest is factored in.

So, assume you open a savings account with $1,000. You deposit $100 a month into your account and the bank pays an APY of 1.00%. After one year, your balance would be $2,217— $2,200 of your deposits plus $17 of interest. The higher your APY, the more you deposit and the longer you save, the more your money can grow over time. You can use a savings calculator to calculate your potential savings.

Savings account rates matter when choosing an account to open. Some of the best online savings accounts pay several times the national average savings account rate.

Benefits of Opening a Savings Account

There are several good reasons to keep money in a savings account, starting with earning interest. Savings accounts allow you to earn interest on your money without doing anything extra. Although this isn’t quite free money—you still have to pay taxes on savings account interest earnings—it is money you can earn passively, just by saving regularly.

Savings accounts also offer more liquidity and convenience than other ways to save. A certificate of deposit, or CD, for example, is another option for saving for short- and long-term goals. And, compared to some savings accounts, it’s possible to earn a better APY with a CD account.

But there’s a catch: CD accounts are time deposits, meaning that when you open one, you agree to leave your money in the CD for a set time period. While your money is in the CD, it earns interest, but you generally can’t access it without triggering a penalty before it matures. A savings account, on the other hand, typically allows up to six withdrawals per month without a penalty.

Savings accounts also are a safe way to set aside money for the future. While investing money is another way to help it grow, putting money into stocks or mutual funds can carry risk. Savings accounts offer safety and a consistent rate of return.

Unlike investments, savings accounts are generally insured by the Federal Deposit Insurance Corporation (FDIC) at banks and the National Credit Union Administration (NCUA) at credit unions. This insurance means that your savings are protected up to certain limits even if your bank or credit union fails ($250,000 per depositor, per account ownership category).

Types of Savings Accounts

There are different types of savings accounts you can open, depending on where you decide to bank and your needs. Here’s a brief look at how they compare.

Standard or Traditional Savings Accounts

Standard savings accounts are the most commonly offered savings option. You can find these at brick-and-mortar banks and credit unions.

With this type of account, you’re typically not getting the best savings account rates. The national average savings interest rate, as reported by the FDIC, is 0.33% APY as of Jan. 17, 2023. You may also be subject to a monthly or minimum balance fee. These accounts are designed to be a basic savings option.

High-Yield Savings Accounts

High-yield savings accounts are just what they sound like—savings accounts that offer an above-average APY, if you’re looking for the best savings account rate. You’re more likely to find high-yield savings accounts at online banks, although traditional banks and credit unions also can offer them. In addition to providing higher yields, online banks may charge fewer fees for high-yield savings accounts due to their lower overhead.

Money Market Accounts

Money market accounts combine features of a savings account with features of a checking account. This means you can earn interest on your balance and write checks or make withdrawals and purchases using a debit card.

Money market accounts may offer better rates than standard savings accounts, although they may be subject to the six withdrawals per month rule. You might choose a money market account if you want even more convenient access to your savings.

Kids’ and Student Savings Accounts

Kids and students also can get in on the savings action with special children’s savings accounts designed just for them. These accounts usually have an age cutoff for saving; with student accounts, for example, you may not be able to open one if you’re 25 or older.

These accounts are designed to help children, teens and students learn how to get into a savings habit. You’re more likely to find these accounts at traditional banks, versus online banks.

Regarding rates, these accounts typically aren’t designed to compete with high-yield savings accounts. But they can still pay some interest while teaching kids the value of saving.

Specialized Savings Accounts

Some banks offer special savings accounts that are designed for just one purpose. So, for example, you might be able to open a savings account just for Christmas savings or to save money for a down payment on a home. Or, you may want to set up a business savings account if you run a business. Meanwhile, education savings accounts are designed to help you save for college.

These accounts aren’t as common as other savings options and can sometimes come with restrictions. For instance, with a Christmas savings account, you may only be able to make a withdrawal once a year in November ahead of the holiday shopping season. A down payment account may offer a matching savings bonus, but only if you get your mortgage from the bank you opened the account with.

How to Open a Savings Account

If you’re ready to open a savings account, the next step is applying. You can apply to open a savings account online or in person. When filling out a savings account application, you’ll need to give the bank some basic information, including:

• Your name
• Address and phone number
• Date of birth
• Social Security number
• Phone number and email address

If you’re opening a joint account, you’ll need to provide the same information for your joint account holder. From there, you can tell the bank how much you want to deposit into your new savings account. If you’re opening a savings account online, you’ll need to share the bank account number and routing number for the account you’re using to transfer your initial deposit.

The bank may verify your savings account by making two small test deposits, which you’ll have to verify. In general, opening a savings account online is a relatively quick and painless process.

How Much to Keep in Your Savings Account?

The answer depends on your savings goals. If you’re using a savings account to hold your emergency fund, for example, then you might want to have at least three to six months’ worth of expenses. If you want a little extra cushioning, you may bump that up to nine or 12 months of expenses.

For example, say your expenses are $3,000 a month. If you’re using six months’ worth of expenses as your guide, you’d need to have $18,000 in savings. If you’re aiming for 12 months’ worth of expenses, your savings account balance would need to climb to $36,000.

Different savings goals can call for different savings amounts. If your savings account goals are met, but you have money to spare, consider whether you might want to invest it instead. Investing money means putting it into the stock market. This is riskier than saving—you could lose money. But you could earn a potentially higher rate of return compared to the interest rate your bank pays on savings accounts.

Alternatives to Savings Accounts

A savings account isn’t the only place to keep money to fund your financial goals. Depending on your needs, you might consider any of these savings account alternatives:

• Certificate of deposit. CDs let you save money for a set time period while earning interest. Once the CD matures, you can withdraw your initial deposit and the interest earned.
• Cash management account. If you’re investing at an online brokerage, you might have access to a cash management account. These accounts hold money you’re not ready to invest. They can earn interest and some may offer debit or ATM card access.
• High-yield checking. High-yield checking accounts allow you to earn interest on your money while making it easy to spend or pay bills.

Choosing the best savings account or savings account alternative comes down to knowing what you want and need. The best bank for savings accounts or other accounts is the one that offers the ideal combination of features, services, benefits, cost and convenience.

What Is the Difference Between Checking and Savings Accounts?

Checking accounts are for daily money management. These deposit accounts are designed for holding money you may need to use in the near future. For example, some of the ways you can use a checking account include:

• Paying bills
• Making purchases online
• Making debit card purchases in person
• Withdrawing cash at ATMs
• Sending person-to-person payments
• Sending wire transfers
• Depositing paychecks or government benefit payments

Savings accounts are for stashing money you don’t plan to spend immediately.

Bottom Line

A savings account can help you save money toward various financial goals.

When you’re ready to open a savings account, think about which type of account may be most helpful. And consider how much money you have to save—some banks may require a minimum deposit to open a savings account.

Next, consider fees, APY and whether you’d prefer to save with an online bank, traditional brick-and-mortar bank or credit union. Looking at all of your options can help you find the savings account that’s right for you.

Frequently Asked Questions (FAQs)