What is a high-yield savings account & do you need one?

A high-yield savings account is a special type of savings account that offers a higher interest rate or annual percentage yield (APY) than a traditional savings account, helping your money grow faster. Here, we cover what is a high-yield savings account, how it works, as well as some of the benefits and drawbacks to consider.

What is a high-yield savings account & how do they work?

What it is:

A high-yield savings account is a special type of savings account that offers a higher APY than a traditional savings account—potentially paying up to 20 to 25 times the national average of a regular savings account.

It used to be that most people would hold their savings and checking accounts at the same bank, making it easy to quickly transfer between the two. However, with rising interest rates and the blossoming of online-only banks, as well as traditional brick-and-mortar banks that support online account opening, competition for depositors has skyrocketed, creating a new category of “high-yield” savings accounts.

How they work:

Generally, high-yield savings accounts work like regular savings accounts, except they can also offer a relatively higher interest rate. As with a regular savings account, the APY on a high interest savings account is variable and fluctuates, up or down, depending on market conditions. This means the rate promoted today may not be the same rate offered tomorrow, just as the rate you obtain upon opening your account is also subject to change as you own the account.

One factor affecting APY is how frequently interest compounds. Interest compounding occurs when interest accrues both on your principal balance and on your previously accumulated interest. Depending on the type of savings account you choose, interest on a high-yield account may be compounded daily, monthly, quarterly or annually.

Below are other features of high-interest savings accounts:

• Availability: High-yield savings accounts are offered by some brick-and-mortar banks and credit unions but are most commonly available at online-only banks

• Fees: High-interest savings accounts may or may not have monthly maintenance fees like other bank accounts. In some cases, the fee may be waived if you maintain a certain account balance or meet certain conditions, such as signing up for electronic statements.

• Opening deposit requirements: It’s possible to open a high-yield savings account with $0 at some online banks, however, some financial institutions may require an initial deposit of $100 or more.

• Minimum balance requirements: Generally, you can find online high-yield savings accounts that don’t require you to maintain a certain balance. However, some financial institutions gear their high-yield savings products toward customers who can maintain very high balances, like $50,000 or more. Interest rates on these types of high-yield savings accounts may be offered on balance tiers, with higher balances earning incrementally higher APYs.

• Protections: High-yield savings accounts at banks backed by the Federal Deposit Insurance Corporation (FDIC) and credit unions insured by the National Credit Union Administration (NCUA) guarantee your deposits up to $250,000 per account owner, per account type. This means if the bank or credit union closes its doors because it can’t meet its financial obligations, you could get up to $250,000 of your money returned for each account ownership type.

Benefits of a high-yield savings account

Here are some of the advantages of opening a high-interest savings account:

1. Earn more on your savings.

Earning a higher-than-average APY means your money works harder for you. For example, let’s say you put $10,000 in a traditional savings account earning a 0.30% interest rate compounded daily. After 12 months, your savings would have earned $30.04 in interest.

Now let’s say you found a high-yield savings account offering a much higher 3.5% interest rate compounded daily. If you made no other deposits, that $10,000 could grow by $356.18 after 12 months. This amount of money could be enough to cover a few bills or a couple of trips to the grocery store.

2. Open your account easily, online.

Generally, high-yield savings accounts can be opened online in just a few minutes, and you can connect an external account for easy money transfers. When opening an account, financial institutions typically ask for basic information like your name, address, Social Security number or tax identification number.

3. Access your money quickly.

Saving in a high-yield savings account compared to a brokerage (investment) account means you can access your money quickly. Maybe your tire goes flat on your car, and you need $500 fast to make for the repair. While there may be limitations on the number or amount of withdrawals you can make per month, you can reasonably expect to be able to quickly access your money by transferring cash from your savings into a connected checking account to make the withdrawal.

Disadvantages of high-yield savings accounts

Here are a few of the minor drawbacks of a high-interest savings account.

Availability is limited.

High-yield savings accounts aren’t offered by all traditional banks. So, if your current brick-and-mortar bank or credit union doesn’t have this type of account, you’d have to go through the process of opening an account and transferring funds to a new financial institution. Also, many high-yield options are often online-only accounts without in-person customer service. If you prefer banking face-to-face with a teller, online-only banking might not be right for you.

Accounts may have minimum balance requirements.

High-yield savings accounts may require that you maintain a certain balance to avoid fees or to earn the highest APY. If the account charges fees, that cost can eat into the interest you earn from the account.

APYs are variable.

APYs on savings accounts are variable, not fixed, so the return you’ll see over a year isn’t guaranteed.

In a climate where savings rates are projected to increase, this can actually benefit you because your rate will rise as market rates rise.

However, in an environment where rates are projected to fall, APYs on savings accounts can also trend downward. In this scenario, certificates of deposit (CDs) are a way to lock in a high yield. CD accounts put your money into an account for a preset term during which you receive a fixed amount of interest.

How do high-yield savings accounts compare to regular savings accounts?

Traditional savings accounts and high-yield savings accounts are generally similar aside from the APY offered. However, one other differentiator is high-yield savings accounts may be online-only accounts where you don’t have access to branches for in-person customer service.

Larger brick-and-mortar banks with locations nationwide that do offer high-yield savings accounts may require a higher balance to earn a higher APY.

What to look for in a high-interest savings account

When shopping for a new savings account, the first factor to consider is APY followed by the monthly maintenance fee or any other fees that may be charged.

Next, compare opening deposit requirements across different accounts at different financial institutions to see what meets your needs.

Then, review account features (such as its smartphone app, budgeting, or automated savings tools) to see if the account has the financial tools you’re looking for.

Finally, check customer reviews to determine what other customers have to say.

The bottom line

Comparing high-yield savings accounts is the best way to find one with fees and balance requirements that meet your needs. And keep in mind that high-yield savings accounts are just one of several places you can hold your savings. For money you don’t need access to right away, Certificates of Deposit accounts may provide a higher interest rate when you lock into a term.

Depending on when you need the money, it’s prudent to have a mix of investments for different savings goals. Savings for everyday expenses and “rainy day” emergencies are better off left in liquid savings accounts, such as high-yield savings accounts, while money you won’t need to tap into for years or decades could be considered for other types of accounts.