High Interest Savings Accounts

We are all familiar with debt. Our credit cards never seem to get paid off, our mortgages are a rock around our necks and we’re always fighting to make sure the car doesn’t get repossessed from the hire purchase company. What we may not understand is why.

Two words lie at the heart of understanding why: Compound interest. Let us first look at examples we understand, before applying the same principal to savings. In order to avoid complicating the figures, we will work with round numbers.

Let’s say we have a credit card on which we have borrowed $1,000. The interest rate of this card is a typical interest rate of 20%. For this example, to avoid complications, we shall assume the period of time is one year, and that no further debt is drawn on the card and only the minimum payment of $30 is met. Interest is added at the end of each month not based on the original $1,000 but based on the original $1,000 plus the previous months interest. So $1,000 will accrue $16.60 interest at the end of the first month, making the debt $1,016.60. Of that we repay $30, making the new total $980.60. The second month, the interest is calculated on that $980.60 – we are paying more than the interest, but not by much. At this rate it will take ten years to pay off both the interest and the original capital sum, during which time we will have paid $990 in interest – a good deal for the bank, It has got back nearly twice what it lent out; not so good for the borrower. Again, these figures are vastly simplified but they do show that compound interest can vastly grow the amount from the original principal to something much bigger.

Naturally, banks don’t give a customer anywhere near the level of interest rates as they charge. On average, for tax free accounts the interest is between 1.7% and 2.2%, for accounts liable to tax this is reduced to between 0.9% and 1.3%. This does not sound much at all, but let’s now apply it in principle.

Let’s take our $1,000 but this time it’s in a 2% high interest account. Assuming we don’t add anything at all to it, after ten years it will have become $1221.20 – so we have made $221.20 for an initial investment without any further costs. Should we have a regular savings plan, let’s say putting away a further $10 a month during that ten year period, the savings now equal over $2,500.

Most financial planners recommend putting away at least 5% of your monthly income a month as savings. Let’s say that a couple has a combined income of $60,000 per annum, and they put away half that – $1500 – a month over ten years, starting with nothing. At a 2% interest rate, this means that at the end of ten years they will have a savings account with $16,600 in it. A huge investment should the unexpected happen.

Now let’s say they are both 30 when they start saving, and both retire at 65. That’s 35 years of savings, which gives them a retirement nest egg of $61,693 of which $16,693 is pure interest. Should they have put away the 5% recommended amount, instead of half of it, their savings would be $123,386 of which $33,386 would have been interest.

While this doesn’t come close to pension plans – companies can, after all, get a better interest rate on their plans than an individual – this amount of over one hundred thousand dollars is a lot of money; with that they could easily settle anything outstanding on a mortgage or live relatively comfortably for many years. Savings accounts are not intended to replace pensions, nor should they be – but a couple paying into a savings account on a regular basis can have a large supplementary “nest egg” for holidays, buying a car or sending children or even grandchildren off to university.

As a final note it’s worth investigating child savings accounts as quickly as possible, since these accounts offer much higher rates of interest – up to 5% – until the child reaches the age of majority, and thus are much better prospects for investment for a growing family than using the parents high interest accounts which may accrue only half as much interest. Not only does it teach the children fiscal responsibility from an early age, as they can be encouraged to pay pocket money into the account to boost the savings, but it guarantees a sum of money the child would not otherwise have, due to them right at the time when they will be considering university. This could be make or break where calculating university fees and consequent student debt are concerned.

There are many financial calculators available on the internet. It’s worth looking at all the options carefully, as many have a much more detailed explanation of how the particular bank calculates and applies interest. Take a look – it will be time well invested.

Savings accounts generally break down into three varieties. One of these are the child savings accounts which often give the highest rates of interest but are only available to those below the age of majority, and must be converted to one of the other two kinds when the age of majority is reached. Conventional savings accounts, often called “Passbook” accounts because of their method of tracking; statements are not normally sent to the account holder for these accounts, instead the account holder is issued with a small booklet that is adjusted each time they visit the bank to deposit or withdraw. The last kind is the newest kind, online savings accounts which typically offer higher interest rates than conventional but lower than child, where all transactions are performed online.

Child savings accounts carry interest rates up to 5% but have the limitation of only being available to children. Their use is teaching children good savings habits and building a fund that can give a boost to the young adult, for finding a partner or for going to university. One of the parents needs to co-sign any transaction the child performs, but the child gets to keep the passbook and see how much their fund is growing.

Conventional savings accounts break down further into a variety of different accounts tailored for different needs. Typical interest rates are between 0.25% and 0.75%, and are often on a tiered basis – the more money is kept in the account, the higher the interest rate offered. Depending on the amount of savings some are also tax exempt which allows the bank to offer a better rate.

Online accounts have rates normally between 1.5% and 2% since the bank does not need to worry about maintaining branches and other overheads to run these accounts. These accounts also normally require a checking account to already be held with a bank, which is linked for transferring money from the checking account on a regular schedule.

It is not a requirement for a savings account that the saver uses the same bank as they use for everyday banking. All banks are now capable of moving money in between each other very quickly and easily. However, if your account is with a different bank, something to remember is that both banks may charge fees to transfer between them; normally these are small, but if for any reason a transaction fails the resulting charges can be substantial. Holding a savings account with the bank that you deal with on a day to day basis for checking or credit cards normally eliminates many if not all of these fees.

A factor someone shopping around for the best account for their purposes should consider is how quickly they can get hold of their money in the event of a crisis that needs it. Many high interest saving accounts require a period of notice of withdrawal, especially for large amounts, but some also make use of clearing houses – this is especially the case with online savings accounts – where the money is in financial limbo for the period of time taken to clear. It does not earn interest, and is not available in either the savings account or the destination account, with some accounts this can be up to ten bank working days; two weeks plus any holidays, as banks do not generally consider Saturday a working day.

It is possible to pay bills direct from savings, but care should be taken when setting this up. There is a regulation in the United States called Regulation D, 12 CFR 204.2(d)(2) which limits the number of pre-authorized transactions that a savings account can make each month. Withdrawals in person or ATM withdrawals are exempt from this limit, but it should be considered as a factor as making more automated withdrawals than is allowed may carry a large penalty or in some cases automatically convert the account to a standard checking account that does not accrue interest at all. Deposits are also entirely exempt from these limits; an account holder may deposit money into their account as often as they wish without government penalty, though some banks may charge for any transactions beyond the first set number in any given month.

Like any other choice to be made in life, the choice of which savings account to use should not be made lightly. This is, after all, the account that an investor will be looking to use for a long period of time, often many decades. With this in mind it is worthwhile getting as much detail from as many banks as possible before making a decision. A good account, tailored well to the needs of the investor, is a worthwhile investment that can last a lifetime, and provide a financial safety net for the future.

The last few years has brought many a crisis and for many the crisis is only just beginning.  As oil threatens eastern shores, floods wreck western lives and the cost of living rises for everyone year upon year the importance of savings cannot be emphasized enough.

In this information technology world we are increasingly used to seeing immediate results to actions we undertake.  The secret to long term savings is not to expect this.  Three golden rules: start putting away a small amount, plan to put away this amount for the foreseeable future and once it’s put away, forget about it.

Most people are already intimately involved in compound interest even if they don’t realize it or don’t understand what it is.  It is applied monthly to their credit card bills, their loan repayments, their mortgages.  Given that, why not have an account where it is also applied – but positively, not negatively – to savings?

The most effective savers don’t save much a month, but they save that small amount consistently, month after month, year after year, decade after decade and that money continually gets interest added to it, and grows sometimes to huge amounts.  $100 initial investment, followed by a dollar a day over 25 years at 1.2% yields nearly $11,000.  At 2%, as a tax free sum, this becomes over $12,000.

Some people even involve themselves in “stoozing” – a practice whereby a person gets a 0% loan, sometimes from a credit card company that is offering 0% as an incentive to switch providers.  They withdraw the maximum allowed, immediately placing this into a high interest account, then withdraw the capital and the interest just before the 0% term expires.  They then repay the capital, cancel the card (thereby owing nothing to the credit card company, since there was no interest on the capital which has now been repaid in full) or balance transfer to another provider who is offering a 0% incentive, and keep the money gained from the interest.  A few even then place this interest away in a savings account before starting the cycle again, leaving each cycles gained interest to then accrue interest of its own.  In this way they have legally used the banks and credit card companies in exactly the same way as banks, credit card companies and investment groups use one another – to accumulate money from each others capital.

Savings are one aspect looked at by lenders in the event that a person needs a mortgage or a credit card.  Banks are much more eager to lend to those who don’t rely heavily on the loans, since these loans are much larger to be paid off.  Credit cards are much more eager to offer better deals (lower interest rates or incentive plans) to solvent borrowers, since these are the ideal borrowers; they can afford to repay their debts, and a sudden emergency or financial crisis is much less likely to impact their ability to continue to settle credit card payments on an ongoing basis.

There is also a much stronger incentive for banks and credit card companies to be open to negotiation by people who have the savings to back up a threat to switch bank or card provider.  Those with savings often find their banks and credit card companies much more willing to listen when their customers want something; there is no better bargaining tool than to be able to afford to take ones business elsewhere in the event that one fails to get satisfaction.

Finally, savings don’t vanish with the death of an individual, whereas debt is subject to write-off because it belongs to the deceased and was their responsibility.  Savings pass to the next of kin, meaning that ultimately there is a point to any savings, since they live on even after an individuals death.  This may seem morbid to consider, but equally it is a comfort to those who are terminally ill or have lived a productive life to know that even if they can nowadays do very little, savings are among the things still left to them that will benefit those they hold near and dear when they themselves are no longer around.

You never know when one of the proverbially rainy days is going to come along.  It is an uncertain world in which we live; anything that grants us stability even if prosperity takes a long time is something that we should all be considering.  There are enough uncertainties already without us allowing savings and future financial security to be among those that we lose sleep over.  A savings account with as high a rate of interest as possible is the most risk-free and sensible way of building a contingency plan against the worst fiscal nightmares the world can throw at us.