Traditional savings account: What it is and how it works
You probably know that saving money is important. But where to stash those savings might be less obvious.
If you’re just starting out on your savings journey, a traditional savings account may be the answer. Whether you want to grow an emergency fund or save up for your dream vacation, a traditional savings account could help you get there. But before you open one, it’s important to understand how this type of account works and how it compares to other options.
What is a traditional savings account?
A traditional savings account is a type of deposit account offered by banks and credit unions that allows customers to deposit money, earn interest, and withdraw funds when needed.
“These accounts are advantageous for consumers looking to separate their cash from their everyday spending and save for short-term goals like vacations or home renovations,” says Matt Steenson, head of consumer banking at PNC Bank.
There typically aren’t a lot of bells and whistles associated with traditional savings accounts. That said, there are certain features you should be aware of if you’re looking for a place to stash your cash.
How does a traditional savings account work?
Traditional savings accounts are offered at banks and credit unions and are insured by the Federal Deposit Insurance Corporation (FDIC). The FDIC protects these accounts up to $250,000 per depositor, per bank, per ownership category. If your money is held at a credit union, it’s backed by the National Credit Union Association (NCUA) up to the same limits.
Traditional savings accounts can also earn interest, helping your savings grow even faster. However, you may have to meet certain requirements to get the best interest rate.
Traditional savings account: typical interest rates
Interest rates in general have been on the rise. However, traditional savings accounts usually offer lower rates than money market accounts or certificates of deposit, according to Steenson. For example, the national average savings account rate currently stands at 0.43%, according to the FDIC, compared to 0.62% and 1.76% for money markets and 1-year CDs, respectively.
Savings account interest is presented as an annual percentage yield (APY). The APY represents the effective annual rate of return, taking into account the effect of compounding interest. This refers to interest that you not only earn on the initial amount deposited (the principal) but also on the accumulated interest from previous periods. Banks usually compound interest on savings accounts monthly or daily.
Traditional savings account: typical minimum balance
Many savings accounts have a minimum balance requirement in order to open an account. That minimum might also be required to earn the highest advertised interest rate and/or avoid fees. Some accounts may even be tiered, with higher rates awarded to higher balances.
Minimum balance requirements vary quite a bit between different banks and accounts. However, traditional savings accounts tend to have low or no minimum balance requirements. The trade-off is that they also come with fewer perks and features.
Traditional savings account: withdrawal limits
Unlike a checking account, frequent withdrawals from a savings account are often discouraged by banks. “The goal of savings accounts is to move money less frequently—that is, park the money and allow it to grow,” says Jennifer White, senior director of banking and payments intelligence at J.D. Power.
Historically, under Regulation D, financial institutions were required to limit certain types of withdrawals and transfers from savings and money market accounts to a maximum combined total of six per month. These limited transactions included preauthorized or automatic transfers (like setting up an automatic bill payment from a savings account), online and mobile transactions, overdraft protection transfers, and more.
But in April 2020, because of the economic concerns surrounding the COVID-19 pandemic, the Federal Reserve Board announced an interim final rule to amend Regulation D, effectively removing the six-per-month limit. It’s important to note that while the Fed no longer mandates these restrictions, individual banks and credit unions can still choose to set withdrawal limits or charge fees for excessive withdrawals from savings accounts.
Other types of savings accounts
A traditional savings account isn’t the only option you have when it comes to storing your money. There are a number of other savings vehicles that come with different features:
- High-yield savings account: If you’re looking to maximize your interest earnings, a high-yield savings account is your best bet. These accounts work pretty much like a traditional savings account, except they offer much higher APYs—as much as 5.00% or more. Keep in mind that you might need to maintain a larger balance to earn the highest rate, depending on the account.
- Money market account: Not to be confused with money market funds, money market accounts are another type of interest-bearing deposit account. “Money market accounts offer a blend of both checking and savings features,” Steenson says. They typically have higher interest rates than a traditional savings account, and provide check-writing and debit card capabilities, he explains. However, they may also require a higher minimum balance in order to avoid fees.
- Cash management account: This is a financial product that combines the features of several account types into one. It typically merges the services of a checking account, a savings account, and sometimes even an investment account. They’re often offered by brokerage firms and fintech companies rather than traditional banks and credit unions.
- Certificate of deposit (CD): A CD is a type of time deposit account, meaning you keep a set sum of money on deposit for a specified period (anywhere from a few months to several years), known as the term. You earn interest on the balance, and get your principal and interest earnings back when the CD matures. CDs typically offer higher interest rates than standard savings accounts due to the time commitment. They may also come with a minimum opening deposit, which can range from a modest amount to tens of thousands of dollars, depending on the bank and the type of CD.
- Specialty savings account: These savings accounts are tailored to meet specific financial goals or needs. For example, there are special savings accounts designed to help people save for holidays or vacations. The bank automatically transfers funds from a checking account to the savings account at regular intervals, and then the funds are released right before the holiday shopping season or before summer vacation.
Pros and cons of a traditional savings account
There are several benefits to having a traditional savings account—fewer fees, lower minimum balance requirements, and interest on your savings, to name a few. That said, there are some drawbacks to consider, too.
- Safe and secure
- Funds are liquid
- Earns interest
- Low or no minimum balance requirements
- Returns are low compared to other accounts and securities
- Monthly transactions may be capped
- Accounts don’t offer many features or perks
- Safety and security: Money kept in a traditional savings account at a bank or credit union that is insured by the federal government is protected up to $250,000. Plus, unlike stock market investments, you can’t lose any of your principal balance.
- Liquidity: Savings accounts allow you to withdraw or transfer your funds relatively easily, so you always have access to your money when you need it.
- Interest: Though the interest rate might be modest, your money will still typically earn more than if it were kept under a mattress or in a non-interest-bearing checking account.
- Low or no minimum balance: Traditional savings accounts typically don’t require a large minimum balance, making them accessible for most people.
- Lower earnings: Traditional savings accounts, especially at larger brick-and-mortar banks, often offer lower interest rates compared to other investment options or even high-yield savings accounts at online banks. They’re not great tools for growing your wealth and achieving long-term savings goals. “Traditional savings accounts are perfect for short-term goals, whereas investments and retirement accounts offer more potential for higher returns and some tax advantages down the road,” says Kristen Beckstead, CFP, ChFC, vice president and financial planner at First Horizon Advisors.
- Limited transactions: Some banks limit the number of withdrawals or transfers you can make from a savings account each month. If you exceed the limit, you may have to pay a fee.
- Lack of features: Unlike more sophisticated accounts or financial products, traditional savings accounts might not come with additional features, benefits, or rewards.
How to open a traditional savings account
J.D. Power customer data finds that roughly 7 in 10 existing bank customers have savings accounts of some kind today, according to White. If you’d like to join their ranks by opening a traditional savings account, it’s fairly easy.
“If you prefer in-person interactions, bank branches are often found around almost every corner…make an appointment or simply walk in to ask for help opening your account,” White says. “If you prefer to do this process online, banks offer new account opening on their websites or even often in a mobile app.”
Whether you choose to open an account in person or online, there are just a few steps to follow:
- Research account options: Start by comparing savings accounts offered by different banks or credit unions to find one that matches your needs. Compare features such as interest rates, fees, minimum balance requirements, and customer service.
- Gather documentation: To make the process go a bit smoother, make sure you have a few key documents and details on hand ahead of time. “You will need your primary identification like a driver’s license or passport, and your Social Security number or tax identification number to start the process of opening an account,” Beckstead advises. The bank might also require proof of address in the form of a utility bill, lease agreement, or other official mail.
- Fill out the application: This can be done in person at a branch, online, or sometimes over the phone. Make sure that all the information you provide is complete and accurate, otherwise there could be delays getting your new account approved.
- Fund your account: Many banks will require an initial deposit to open the savings account. You can usually fund the account via a cash deposit (if in-person), a transfer from another account, or by mailing a check.
A traditional savings account can be a great way for novice savers to get their feet wet, since they don’t require large balances or charge a lot of fees.
That said, a traditional savings account may not always be the best choice, depending on your goals. For instance, if you’re hoping to grow your savings as quickly as possible, you may prefer a high-yield savings account. Or if you have a large amount of savings set aside for a future goal, it may make sense to deposit it in a CD.
In other words, the best type of account for your savings depends on your larger financial needs. “Evaluate how easily you want access to your savings and the level of risk you want to take around growing your money—this will help you decide which savings account type is best for you,” White says.