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Chasing the benefit of the Federal Reserve raising rates? It may be time to evaluate your savings vehicle for your emergency fund or other short-term savings goals. Investing in the stock and bond markets is typically thought of as the long-term solution, but how do you invest your money for your short-term financial goals?
Four of the most common short-term solutions are savings accounts, high-yield savings accounts, money market accounts and money market funds. Here we will evaluate the pros and cons of each and let you decide which is the best option for your financial goals.
Savings Accounts
Savings accounts are the most known short-term savings solution. A savings account housed at the same bank as your checking account lets you quickly and easily take a withdrawal from savings in a pinch. Transfers are typically processed the same day, and can be done online, in person or over the phone.
Bank savings accounts make it simple to compartmentalize your money. Most financial institutions let you have multiple savings accounts to track your unique goals, like:
- Saving for a vacation
- Setting money aside for a home remodeling project
- Helping your teenager learn how to save for a goal, like their first car
Overall, a savings account at your bank makes it easy to transfer between your savings account and checking account while providing you a nominal interest rate on your cash investment. Check with your bank for the current yield on your savings account.
Savings Account Pros & Cons
Pros
- Quickly transfer funds between savings and checking accounts
- May open several savings accounts for each of your financial goals
- Protection through the FDIC (At least $250,000 per insured bank)
Cons
- May have restrictions on how much you can withdraw in a month
- May not offer a debit card or checks
- Interest rates are typically fixed and do not adjust with the federal funds
High-Yield Savings Accounts
High-yield savings accounts are typically offered through an online bank. Online banks can typically offer significantly more yield than a brick-and-mortar bank and are held to the same protection standards through the FDIC (Federal Deposit Insurance Corporation). High-yield savings accounts typically offer a variable interest rate that adjusts with the changes in the federal funds rate.
When opening a high-yield savings account online, you will have the option to link your checking account to the new savings account. Electronic transfers should only take a few days to move funds between your checking account and your high-yield savings account.
Another perk of adding an online bank? They may help you make more mindful choices when it comes to tapping into your savings accounts. Transfers between financial institutions typically take a few days to process, so it may cause you to think twice before transferring funds between accounts.
High-Yield Savings Account Pros & Cons
Pros
- Typically offer higher interest rates than traditional savings accounts
- Protection through the FDIC (At least $250,000 per insured bank)
Cons
- Transfers between institutions may take a few days
- May be subject to opening fees, initial deposits and minimum balance requirements
Money Market Accounts
If you are looking for even a higher interest rate on your savings account, it may be time to evaluate a money market account. You can typically find money market accounts at a bank or credit union.
Money market accounts typically pay a higher rate than traditional savings accounts because they invest in short-term, low risk assets. Same as a savings account and high-yield savings account, money market accounts have protection through the FDIC.
When evaluating a money market account, the most important thing to consider is the minimum investment or initial deposit. Some money market accounts also have account minimums, if your account balance falls below a certain level you may be penalized.
While the Federal Reserve used to have a cap on the number of withdrawals you could make in any month, this restriction was lifted in 2020. Some financial institutions can still have their own limits on the number of transactions in any one month.
Money Market Account Pros & Cons
Pros
- Typically offer higher interest rates than traditional savings accounts
- Typically offer check-writing privileges and/or offer a debit card
- Protection through the FDIC (At least $250,000 per insured bank)
Cons
- May be subject to opening fees, initial deposits and minimum balance requirements
- May have restrictions on how much you can withdraw in a month
Money Market Funds
A money market fund is a mutual fund that must be held at a brokerage firm. Money market fund interest rates are closely tied to the interest rates set by the Federal Reserve. Given the recent increase in the Federal Funds rates, these money market funds are becoming more and more appealing.
While a money market fund does not offer protection through the FDIC, your brokerage account is protected under the SIPC (Securities Investor Protection Corporation). The SIPC offers protection if the brokerage firm fails, not if a fund loses money.
Of the options outlined, the money market fund is the slowest option to get you cash in a hurry. Funds can be electronically transferred from a brokerage account to a bank account, but the mutual fund will need to be sold before the cash is available.
Money Market Fund Pros & Cons
Pros
- Interest rates are closely tied to federal funds interest rates
- Typically offer check-writing privileges and/or offer a debit card
- Protection through the SIPC ($500,000 for all accounts / $250,000 limit for cash)
Cons
- Transfers between institutions may take a few days
- May be subject to opening fees, initial deposits and minimum balance requirements
How To Choose The Right Savings Account For Your Financial Goals
In addition to just return on your money, you will need to take into consideration the following before investing in a savings account, high-yield savings account, money market account, or money market fund:
- The dollars you have available for an initial investment
- Balance requirements to maintain the account
- Fees associated with opening and maintaining the account
- How quickly you may need the funds transferred to your checking account
Savings Accounts and Money Market Funds provide a solution for setting money aside for an emergency or a short-term goal. As with all investments, it is best to evaluate the best solution based on your goals and time horizon. Since your financial planner has a complete picture of your financial situation, they can help you decide which of these options are best for you.
Related: What Is a Fiduciary & a Fee-Only Financial Advisor?