How Do Savings Accounts Work?

Updated on March 5, 2024

As common as savings accounts are, not everyone knows what they are, how they’re different from regular accounts – and most importantly, why you should have one as well. Many people use parallel checking accounts to save money, but they do not know that having a savings account can be much more convenient.

So, how do savings accounts work? Who can open them? What are the general benefits of opening such an account? This guide should teach you all you need to know.

What Is a Savings Account?

As the name suggests, a savings account is an account where you save up your money. It’s a bank account where you store your money and earn interest on it. Obviously, the bank won’t be giving you free money for, well… free. They’re giving you interest money simply because the bank will be using that money to offer loans to other people. That being said, even if they are using that money to give it to other people, the bank still makes sure that the funds are accessible to you whenever you need them.

Difference between a Savings Account and a Checking Account

Checking accounts are the standard accounts where you likely send your paycheck or store money. You can link a checking account to a debit card, and you may make purchases by using checking accounts. You may use checking accounts to save money, but the thing with these accounts is that they don’t typically generate interest. You’ll have just as much money as you put there.

On the other hand, checking accounts have the potential to grow more than what you add to them. Unlike 401(k) accounts that penalize you for early withdrawal, a savings account allows you to save that money for later use. You can use it as a down payment for a car or house, or as funding for that honeymoon you’ve been planning. You may even use the money as an emergency fund if your luggage gets lost during the honeymoon flight trip.

The thing with these savings accounts is that the less you meddle with them, the more your interest grows as well. That interest won’t have any chance to grow if you keep withdrawing from there – but as long as you leave it alone, it will keep producing interest money.

How Does a Savings Account Work?

A savings account works by opening and adding funds to a bank account. In return for that, the bank will pay you a certain amount of interest for your money, as they will be using that money to offer loans to other people.

That being said, this doesn’t mean that the bank will be stealing your money and using it for its own needs. Look at it this way: they take money from one person and offer them interest, and then loan it to other people and charge them interest as well. They make money by handling money – and that’s the basis for banking.

The bank will never run out of money – so, if you were to request it, they will always have the funds necessary to give it back to you. Think of it as a loan; the more you leave that money there, and the more the bank manages said money, the more interest you will receive for it. Plus, in the unlikely event of a bank failure, your savings account is protected by the bank. The U.S. banking system made sure you will still get your money back upon request.

What Is a High-Yield Savings Account?

A high-yield savings account is a great way to give your emergency account a jumpstart, as it comes with higher interest rates in comparison to the standard savings account. In fact, many of those accounts have rates that are 25 times higher compared to the national average.

While you can find this type of account at a traditional brick-and-mortar bank, these are mostly offered by the online ones. Since they no longer have to deal with problems such as overhead costs, they can offer more competitive rates. Plus, this means that there will be fewer drawbacks for the account holder – such as the absence of a maintenance fee for the account.

Reasons to Have a Savings Account?

We know, you are likely scratching your head and starting to wonder why you should open a savings account. Wouldn’t it be better if you just started investing? Well, that depends. Here are a few reasons why a savings account might be better.

  • It is a fund for emergencies. Ideally, your savings account should have money that should cover your living expenses for about 3-6 months.
  • You get “free money.” By simply keeping that money into an account, you earn by not doing anything – except for the fact that you are not taking that money out.
  • It acts as a big-purchase fund. If you are planning to buy a car, a house, or something that would typically need a loan, this type of account can help you cover those expenses in time.
  • It keeps the money safe. Stock-markets, investments – even cupboards under the bed can be rather risky to keep your money. However, savings accounts are as safe as they can get.
  • It helps you control your spending. When you have that money tucked into a savings account, you’ll be less tempted to dive into it and spend it on petty things.
  • It gives you a sense of accomplishment and pride: you built that account, you began to save (and earn) money. You did a great job – one that you need to be immensely proud of.

Investing is good – but saving is safer, as you can see. Even if you put little money in there every month, it will still add up to your overall savings efforts. And unlike the stock market investments, in the event of a crash, you won’t be risking your money.

How to Open a Savings Account

Opening a savings account is quite easy to do. All you need is the money (obviously), identification, and also a couple of minutes to fill in some forms. There are no extra requirements, you won’t need a co-signer, and you won’t have to search for birth certificates of your brother’s niece’s dog or the names of your last 15 employment places.

You will only need to provide the following things:

  1. A valid ID. If you are opening a joint account, for example with your spouse, then you will both have to provide an identification card.
  2. Other identification forms may be required, such as your social security number.
  3. The initial funds. Many banks will require that you have a minimum deposit amount going around $100. However, some banks won’t have that minimum, and you may open your account with as little as $1.

Depending on where you open your account, it may take different amounts of time. Typically, for online banks, you may get things going in just a couple of minutes. However, brick-and-mortar banks may take a bit longer – paper-filing and standing in line considered.

Final Thoughts

Opening a savings account is not that difficult, as long as you put your mind to it. You just need the determination not to touch those funds for the time being, so that you can make money. Once you are down that road, you are on your way to earning more savings.

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Frank Gogol

I’m a firm believer that information is the key to financial freedom. On the Stilt Blog, I write about the complex topics — like finance, immigration, and technology — to help immigrants make the most of their lives in the U.S. Our content and brand have been featured in Forbes, TechCrunch, VentureBeat, and more.

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