Everything You Need To Know About High-Yield Savings Accounts

What Is a High-Yield Savings Account?

A high-yield savings account is a type of savings account that offers a much higher interest rate than the national average for traditional savings accounts.

Like traditional savings accounts, high-yield options offer an interest rate and then compound the interest you earn, usually on a daily basis, and pay out the interest monthly. Due to the compounding effect, banks and credit unions calculate an annual percentage yield to give you a more accurate view of what you’ll earn in a year.

What Is the Difference Between a High-Yield Savings Account and a Traditional Savings Account?

The primary difference between traditional and high-yield savings accounts is the rate of interest you’ll earn on your deposits. There are also other notable contrasts to consider when choosing an option.

Interest Rates

As of August 2023, the national average savings account rate is 0.43%, according to the Federal Deposit Insurance Corp. (FDIC). In contrast, you can find high-yield savings accounts offering APYs exceeding 5.00%.

Fees and Minimums

In many cases, high-yield savings accounts don’t require a minimum opening deposit or balance. There’s often no monthly service fee, and you don’t need a checking account with the same bank to get approved for a savings account.

On the flip side, some traditional savings accounts require a linked checking account, a minimum balance or regular transfers to savings to avoid a monthly fee.

Availability

High-yield savings accounts are generally offered by online banks, which can afford to provide higher rates because they don’t have the overhead costs associated with a physical branch network.

However, you can find many credit unions and even some traditional banks that offer above-average yields. Traditional savings accounts are more common among traditional banks and even some credit unions.

Access to Funds

Because many high-yield savings accounts are online-only, it can be challenging to access your cash quickly. If you have a linked checking account with the same bank, you can easily transfer the money. But some online banks don’t offer checking accounts, and external account transfers can take a few days.

You may also not have access to a branch network or even ATMs. With traditional savings accounts, on the other hand, you may be able to withdraw funds at a local bank branch or ATM. You’re also more likely to be able to get a checking account with the same bank or credit union, making transfers to checking easier.

Pros and Cons of High-Yield Savings Accounts

As with any financial product, there are both benefits and drawbacks to consider for high-yield savings accounts. Before you open an account, consider these pros and cons.

Advantages of High-Yield Savings Accounts

Here are just a handful of the benefits that come with a high-yield savings account:

• Higher earnings: With a traditional savings account, you’ll earn next to nothing on your balance, even if you make sizable deposits. A high-yield savings account can often offer a much higher yield, which can be particularly beneficial in times of high inflation.
• Safe for short-term needs: There’s no risk of losing money in a high-yield savings account as you would with an investment account. What’s more, the vast majority of banks are FDIC-insured, so you’re even protected (up to $250,000 per account holder for deposit accounts) in the event that the bank fails. If you’re building an emergency fund or anticipate needing access to the money within the next year or two, a high-yield savings account is an excellent choice.
• Your balance is liquid: While some high-yield savings accounts offer limited access to your money, you don’t have to sell off investments or incur an early withdrawal penalty to access your money as you would with a brokerage account or a certificate of deposit (CD).
• You can separate money for different goals: In some cases, online banks allow you to open multiple savings accounts, giving you the option to create a separate account for each financial goal you’re working toward. This can make it easier to track your progress toward important objectives.

Disadvantages of High-Yield Savings Accounts

• Interest rates are variable: While a variable rate on a high-yield savings account can mean more earnings if interest rates increase, the opposite is also true. Without the ability to lock in a rate, you may lose your earnings potential as market rates go down.
• Less flexible access to funds: Some high-yield savings accounts come with more flexibility when it comes to getting your money. But in many cases, you may have a hard time making withdrawals if the bank has no ATM or branch network, and you may even be limited to external bank transfers, which can be an inconvenience in an emergency.
• Limited withdrawals: The Federal Reserve no longer requires banks to limit savings customers to six withdrawals per month. But at many financial institutions that limit still stands, and you may be charged a fee if you exceed it.
• You could miss out on higher returns: If you have money that isn’t earmarked for emergencies or short-term financial needs and goals, you may be able to generate more earnings with the cash by putting it in a CD or investing it instead of leaving it in a high-yield savings account.

Can You Lose Money in a High-Yield Savings Account?

In general, it’s not possible to lose money in a savings account. While the financial institution you’re banking with uses your deposits to make loans to other customers, there is no investment risk.

What’s more, most banks and credit unions offer insurance coverage through the FDIC or the National Credit Union Administration (NCUA). FDIC insurance and NCUA insurance both provide up to $250,000 in coverage per financial institution, per account owner and per ownership category.

The only way to really lose money in a high-yield savings account is if your balance exceeds that $250,000 limit.

Keep in mind, though, that high-yield savings accounts don’t necessarily protect you against inflation. So while your balance won’t go down, your spending power might.

How to Choose the Best High-Yield Savings Account

While high-yield savings accounts can offer a lot more value than traditional savings options, they’re not all created equal. Take your time to research and compare accounts from multiple financial institutions to determine which one is the best for you.

Because your primary goal with a high-yield savings account is to maximize your interest earnings, it’s important to compare APYs. Keep in mind, though, that just because an account offers the highest rate right now doesn’t mean it always will. Savings rates are variable and can fluctuate regularly.

That said, there are several other features to watch out for, including:

• APY tiers: Some banks may offer different APYs depending on your balance. For example, you may only earn a high APY up to a certain balance, or you may need to have a large balance to qualify for a higher rate. Consider focusing on accounts that offer the same APY regardless of how much money you have saved.
• Fees: In most cases, you don’t have to worry about a monthly fee, but it’s important to confirm that. In some cases, you may need to read the fine print at the bottom of a webpage to get the full details on fees and how to get them waived.
• Minimums: Many high-yield savings accounts also don’t require a minimum opening deposit or ongoing balance, but if you’re starting out small, make sure that’s the case.
• Access to funds: Depending on how you plan to use the savings account, you may not need ready access to your money. But if it’s an emergency fund, it might make sense to choose a bank or credit union that offers ATM or branch access, or at least a linked checking account.
• Other financial products and services: If you want to limit how many financial institutions you’re dealing with, consider opening an account with one that also offers a checking account and other products and services you need. If you just want the best rate available, it may not matter if it’s an online bank that only offers high-yield savings.

How to Open a High-Yield Savings Account

The process for opening a high-yield savings account will vary by bank. But in general, the process takes only a few minutes.

After you’ve spent time comparing several options and determining the right account for you, head to the bank’s website to get started. Start by reviewing all of the account terms, then begin the application process.

If you’re already a customer of the financial institution, you may be able to log in and pre-populate the application with information it already has on file for you. If not, you’ll typically need to provide the following details:

• Full name
• Date of birth
• Social Security number
• Address
• Phone number
• Email address

You’ll also typically need to provide a copy of your government-issued photo ID to verify your identity. In some cases, employment and other financial questions may come up.

If you plan to fund your account with another bank account, you’ll need your account information or online login credentials for your existing account to link it to the new one. After you submit everything, you’ll typically get a response within a few seconds.

Best Ways to Use a High-Yield Savings Account

A high-yield savings account can serve many different purposes, primarily for short-term needs and goals. Here are some of the more popular ways to use a high-yield savings account:

• Emergency fund
• Vacation
• Wedding
• Moving expenses
• Down payment for a car or house
• Large purchase
• Home renovations
• Holiday spending

If you’re nearing retirement or have already left the workforce, you may also consider putting some of your retirement funds in a high-yield savings individual retirement account (IRA), which pairs the tax advantages of an IRA and the safe return and FDIC insurance coverage of a bank account.

Common High-Yield Savings Account Terms to Know

As you research high-yield savings accounts, you may come across several unfamiliar terms. Here are some of the most common ones:

• APY: The annual percentage yield is the annualized rate of return on your savings account, including the effect of compounding. The APY is typically higher than the interest rate.
• ACH transfer: ACH is short for Automated Clearing House, which is the primary system financial institutions use to perform electronic money transfers. This includes direct deposit, bill payments and transfers to and from external bank accounts.
• ATM access: Some high-yield savings accounts may come with an ATM card, allowing you to access your funds from the bank’s ATM network. Note, however, that out-of-network withdrawals may incur a fee from your bank and the ATM owner.
• Minimum balance: Some banks may require that you deposit a minimum amount to open the account or maintain a minimum balance to keep the account open to avoid a fee.
• Monthly maintenance fee: While rare among high-yield savings accounts, a monthly maintenance fee is a service charge to maintain your account. You may be able to get the fee waived if you meet certain balance or deposit requirements.
• Excessive withdrawals: Banks typically limit customers to six withdrawals from a savings account each monthly cycle. If you exceed that limit, you may be subject to an excessive withdrawal penalty.
• Liquidity: Liquidity is a term used to measure how easily you can access your cash. The easier it is to withdraw and spend your money, the more liquid it is. High-yield savings accounts have very high liquidity.

How Often Can You Withdraw Money From a High-Yield Savings Account?

Prior to the coronavirus pandemic, Regulation D, a provision of the Securities Act, required that bank accounts classified as “savings deposits” not allow more than six withdrawals per month. That included both traditional and high-yield savings accounts and money market accounts held with banks and credit unions.

While customers were still technically able to withdraw once they reached the limit, they may have been charged a fee for each excessive withdrawal. Regular violations of the limit may result in having your account converted to a checking account or even have the account closed.

In response to the pandemic, however, the Federal Reserve Board suspended the six-withdrawal limit, allowing financial institutions to suspend the limit to provide customers with easier access to their cash.

However, many banks still maintain a six-withdrawal limit for high-yield savings accounts and other affected accounts. In some cases, institutions have dropped the excessive withdrawal fee, but other potential consequences of excessive withdrawals remain.

Do You Pay Taxes on a High-Yield Savings Account?

The interest you earn from a high-yield savings account is considered income by the IRS, so you can expect to pay taxes on what you earn each year.

If you earned $10 or more in interest during a tax year, your bank or credit union will send you a 1099-INT form, which you can use to determine how much to include on your tax return. If you earned less than $10, you won’t get a tax form, but you’ll still need to report it.

In this instance, you’ll log in to your online account and tally up the amount you earned in interest each month. Then, add it to your tax return as interest income. You’ll be taxed at the ordinary income tax rate.

Keep in mind, too, that if you receive a bank account bonus for opening a savings account or another type of bank account, that money is also considered income and is taxable.

Consider All Your Options to Make the Most of Your Savings

As you consider where to put your money, a high-yield savings account can be a good starting point. Depending on your situation, it may also be worth considering a money market account or a certificate of deposit.

A money market account may provide better access to your funds via a debit card, ATM card or paper checks, but it’s also more likely to charge you a monthly fee. With a CD, you can lock in a fixed APY in exchange for leaving your money alone until the account matures, but you generally can’t withdraw money before then without paying a hefty penalty.

If you’ve decided that a high-yield savings account is the best option, take your time to research and compare several options to determine which one is the best fit for you.