Putting your money into a savings account with compound interest will allow you to grow your money more quickly than you could if you opted for an account with simple interest. However, not every compound interest savings account is the same.
At Addition Financial, we work closely with our members to ensure they choose the right compound interest accounts to allow them to pursue and reach their financial goals. Here are seven of the best features of compound interest savings accounts to help you find the account that’s right for you.
The first thing you should consider when you’re in the market for a compound interest savings account is the annual percentage yield, or APY. The APY is the effective rate of return on an investment taking compound interest into consideration. You want to check the APY because it’s the number that tells you how much you will earn on your initial deposit and on the interest you earn, as well as on any additional deposits you make.
Ideally, you want an account with a high APY. Traditional savings accounts typically have low interest rates but accounts that offer compound interest typically offer a higher APY. When we asked our financial experts about APY, most of them indicated that consumers shouldn’t settle for an APY that’s less than 1%.
When you compare interest rates, make sure you’re comparing apples to apples. You don’t want to compare the interest rate to the APY. If you’re not sure which number you’re getting, ask for clarification before choosing an account.
The next essential feature of a compound interest savings account is the compounding period. The general rule of thumb is that the more frequently that interest is compounded, the more money you will earn.
Interest may be compounded daily, weekly, monthly, quarterly or annually. The best (and most advantageous) compound interest accounts compound interest daily.
It’s important to note that daily compounding will result in tiny increases at first. However, each day that your money is in the account, the balance will increase slightly and so will the amount of interest you earn with each compounding. Over time, daily compounding can result in significantly more money for you to use to buy a house, pay for your kids’ college education or fund your retirement.
When you’re shopping for a savings account with compound interest, make sure to ask how frequently interest is compounded. Your goal should be to get an account with both a high APY and the highest possible compounding frequency because this combination will yield the biggest rewards.
Some financial institutions require account holders to maintain a minimum balance to earn compound interest. These can vary from institution to institution and you should make sure that you understand the requirements before you fund your account.
There are many credit unions that don’t have a minimum requirement to earn an APY on a compound interest account. Some institutions require a minimum balance of $1,000 while others may have higher limits.
A minimum balance requirement may impact your ability to withdraw your money when you need to, and you should be able to open a compound interest savings account with a minimum of fuss.
While a compound interest savings account can help your savings grow far more quickly than they would with simple interest, monthly or hidden fees can eat into your earnings and make your account less profitable than it should be.
When you are comparing financial institutions and accounts, we recommend reading the fine print before you open an account. Make sure that you understand what fees are attached to the account you’re considering. Then, take some time to crunch the numbers to make sure you understand what you’ll be getting in interest – and how much of that interest will go toward fees that put money into the bank’s pocket instead of into yours.
We also recommend asking your financial institution about fees. They should be transparent and if they’re not, that’s a sign that they’re not interested in helping you to achieve your financial goals. When you open an account at Addition Financial, you’re a member and not a customer. Our members enjoy higher interest rates and lower fees than you can find at most traditional banks.
Wherever you decide to keep your money, you want to make sure that it’s protected. That means you should choose a financial institution that’s backed by insurance to minimize the risk that you’ll lose your money.
In the United States, bank accounts are backed by the Federal Deposit Insurance Corporation or FDIC. There is similar protection in place for credit unions through the National Credit Union Association or NCUA.
Any financial institution you consider should be insured by one or the other. It’s unlikely you’ll find a compound interest savings account anywhere that isn’t insured, but you should be aware of this requirement, nevertheless.
It should go without saying that you should avoid any financial institution that isn’t backed by the FDIC or NCUA. Deposits are insured up to $250,000 per account.
Another key feature of compound interest savings accounts to keep in mind is your ability to access the money you deposit when you need it. With a traditional savings account, your money is accessible whenever you need it. There are no restrictions on how and when you can access the funds in your account.
A common option for people who want to reap the benefits of compound interest is a money market account. A money market account combines some of the best features of savings and checking accounts. They allow account holders to:
Addition Financial offers an Insured Money Market Account (IMMA) with unlimited deposits and in-person withdrawals and up to six electronic transfers per month.
Another popular choice for compound interest is a Certificate of Deposit or CD. With a CD, you cannot access the money in your account until the end of the CD term. There are CDs with short terms and long terms and you’ll need to keep that in mind when choosing an account. You should also be aware that you’ll have only a 10-day window to withdraw money from your CD at the end of the term before it renews automatically.
If liquidity is important to you, then a money market account might be your best option. You’ll be able to earn compound interest while also having the peace of mind of knowing you can use the money in your account if you need to.
The final feature to consider has less to do with the account you choose and more to do with the financial institution where you open the account. Some banks change interest rates frequently and the interest rates on compound interest savings accounts are not locked. That means that, at least in theory, they could change at any time.
The APY of your account could change in your favor or to your detriment. For example, a bank that wants to attract new clients might run a temporary offer with a so-called “teaser rate” to draw in new depositors. You may benefit temporarily from such an offer, but you should be wary of any institution that does this too often. You don’t want to get caught in a “bait and switch” situation where you think you’re getting a favorable interest rate and it turns out to be not so favorable.
This is another area where asking questions is a good idea. A transparent financial institution will be happy to tell you how often they change their rates. Some rate changes may be unavoidable. For example, the Federal Reserve instituted two emergency rate cuts in 2020 to manage the financial crisis caused by the COVID-19 pandemic.
One way to protect yourself is to ask if it’s possible to guarantee your APY for six months or a year. Some financial institutions offer this option and it’s a good way to avoid any surprises in the early days of your investment. You may also want to consider a CD if you know you won’t need immediate access to your money.
Compound interest savings accounts offer an easy and convenient way to maximize your savings while still keeping them accessible. Some of the best uses for compound interest accounts include saving for a down payment on a house, creating an emergency fund, saving for college or saving for a big event such as a wedding.
At Addition Financial, we offer an Insured Money Market Account that you can use to save money for life’s big moments. With a $1,000 minimum deposit and competitive APY, it’s one of the best ways to make sure you have the money you need, when you need it. Click here to open your account now.