To get the most value out of your money, it’s natural to want the lowest rates on the loans you take out and competitive savings account rates to grow your liquidity.
And which one of these two goals is easier to achieve depends upon current economic conditions—because savings and loan rates rise and fall in tandem. Right now, the bigger challenge may be to earn enough interest on a savings account—and we’re ready to tackle that challenge, sharing strategies to help you get the most for your money.
We’ll first share why savings account rates are so low, and how, in general, financial institutions set their savings and lending rates. We’ll also provide a four-part strategy to get the most from your money, ways to get savings rates, and how SoFi can be part of your strategy.
In fact, this post is one way we’re sharing a debuting product that will help you with your money in a new and highly practical way.
Why Are Savings Rates So Low?
Although, in theory, financial institutions have a significant amount of freedom to offer whatever rates they want on their savings products, it doesn’t really work that way. Here’s why: Financial institutions take in money as people deposit their funds in checking accounts, savings accounts, certificates of deposit, and so forth.
In return, the depositors often get interest on their money, while the financial institutions use funds from the deposits to lend out dollars to people who are approved for loans. The interest rates charged on the loans are higher than what is being paid out in interest for the various types of savings products.
Then, the difference in interest being charged and being paid out is used to help support the financial institution—paying salaries, building costs, equipment costs, and so forth. Financial institutions are also required to maintain a cushion of funds to ensure that people can have access to their money when needed.
This is a highly simplified overview of how money is managed at financial institutions, but it does illustrate the main point we’re making— that, while in theory, financial institutions can just increase savings rates, they actually some have pretty tight parameters to follow.
Federal Discount Rate and Federal Funds Rate
Rates, whether set for savings products or loans, aren’t randomly chosen. They depend significantly upon the rate that the Federal Reserve Bank charges when lending money to financial institutions. This rate is known as the Federal Discount Rate.
The Federal Reserve Bank also controls the rate at which banks can loan money to one another, and this is known as the Federal Funds Rate. This latter rate is usually a little bit lower than the Federal Discount Rate, which encourages banks to help one another out. When, however, some banks need more money, but other banks aren’t in a position to lend them the funds, the Federal Reserve then needs to make more funds available to the banks.
When the national economy is sluggish, the Federal Reserve usually lowers interest rates. That way, the lending of money among banks is further facilitated. If the economy is booming, the Federal Reserve typically raises the rates to control inflation.
Making the Most of Your Money
Armed with that knowledge, here is a high-level, four-part strategy that we recommend:
1. Reduce the interest rates you’re paying on your debts.
2. Pay off debts, both revolving (such as credit cards) and installment (such as personal loans, student loans and car loans, as three examples).
3. Build up an emergency savings account, about three to six months’ worth of living expenses, in an account with the best rate you can get. The goal is to keep this money in an account that offers easy liquidity, so you can access it when you need it.
4. Focus on growing your worth and wealth. Once you’ve got solid savings in place for emergencies and unanticipated expenses, then you can focus on boosting your wealth in investment vehicles that aren’t as liquid as a savings account. (That’s why we created SoFi Invest®.)
The rest of the post focuses on the first three parts of the strategy (since the goal is to help you build up your savings as a precursor to greater wealth building).
In the summer of 2018, the average credit card had an APR of 16.83% . So before trying to nudge your savings account interest rate up, create a plan to pay off these cards. To make that happen, including consolidating your credit card debt into a lower-interest personal loan. The third prong of this three-part foundation strategy, then, is to build up savings for emergencies. As you pay down debt, next increase the amount you’re saving.
But, now, how exactly do you get the best interest rate for your savings?
Finding the Best Savings Interest Rates
The internet makes it very easy to compare rates, so shop around. Note that, many times, financial institutions that offer the best rates are online only. That’s because their lower overhead costs allow them to pass some savings onto their customers.
When you find a high-interest savings account (or checking account, for that matter), take a look at the fine print. What conditions are attached for you to get that rate? The financial institution may require you to have a certain amount of money deposited into that account each month, maintain a certain balance or have your bills automatically deducted from it. You may need to use your debit card a predetermined number of times, as yet another example—or be limited in the number of transactions that can take place each month.
What About Certificates of Deposits?
Some people put part of their savings dollars into a certificate of deposit, also called a CD. This is a type of investment and savings product that typically offers a higher interest rate than the average savings account, but it isn’t as liquid as an actual savings account. With a CD, you agree to leave your money in the account for a certain term, and the interest rate you’re given is tied to that term.
The longer the term, the better the rate; but in today’s economy, you’ll probably need to tie up the money for a long period of time to get much of an increase in the interest rate. Plus, you wouldn’t be able to access money in a CD for an emergency unless you pay a penalty.
Once you have three to six months’ worth of living expenses in your emergency savings account, it does make sense to look for other ways to grow your money. But, you may want to choose short-term investments like bond ETFs instead, funds that invest in bonds that are due in three years or less.
Finally, here’s another strategy to consider.
Open a SoFi Money™ Account
SoFi Money is tailored to simplify your money. It is a cash management account that doesn’t have any account fees. With SoFi Money, you can save, spend, and earn all in one place.
Here are more benefits of SoFi Money:
• No account fees (subject to change). We believe your money should earn you money, not cost you money.
• You can also benefit from complementary career coaching, SoFi community resources and more, including some cool swag.
• You’ll also receive a debit card, have the ability to make mobile transfers and photo check deposits, along with customer service.
• Plus, you can count on secure SSL encryption, fraud protection, and FDIC insurance up to $1.5 million.
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SoFi Money is a cash management account, which is a brokerage product, offered by SoFi Securities LLC, member FINRA / SIPC . Neither SoFi nor its affiliates is a bank.