Continuing our path to financial literacy, this week’s topic is about bank accounts. However, banks are not the only institutions that offer these types of accounts; you can also get them at credit unions and other financial institutions. There are four different types of accounts: checking, savings, money markets, and certificates of deposit.
Checking is the most basic type of account and the one you will use the most. You use this account to write checks and make purchases with a debit card that’s tied to the account. You also have the ability to make an unlimited amount of withdrawals and deposits, as long as you have funds in the account. Your ability to transact as you please comes with a trade off. The interest rate on this account, if any, is very low, much lower than a savings account.
Savings is the second most common account. With the savings account, your amount of withdrawals can be limited, and if you go over that limit, you will incur a fee. Some savings accounts also have a minimum balance requirement. If you don’t maintain the minimum, for example, $1,000, you could be also charged a fee. The interest rate on a savings account is better than the checking account, but it is still lower than a money market account.
Money Market Account
A money market combines the benefits of savings and checking accounts by giving you the ability to write checks, but also give you a higher interest rate. With the higher interest rate, though, comes a higher minimum balance. Similar to the savings account, the money market also has a limit to how often funds can be withdrawn.
Certificate of Deposit (CD)
A CD is used when you want to save money for a determined future date. For example, if you want to buy a house in 5 years, you can invest your money into a CD with a maturity of 5 years and redeem the certificate at maturity. For example, you deposit $10,000 into a CD that pays 2% interest that matures in 5 years. At maturity, the CD will give you back what you put into it, plus the interest you have accrued along the way. In the example, you will receive $11,040.81.
Different types of accounts can (and should) be used for different things. A checking account can be used for daily expenses, like food, rent, and other bills. Savings and money markets can be used to save for emergencies or short term goals like saving for a car. A CD, like in the example above, should be used to save for a known future date. Using these accounts together gives you the advantage to manage your money properly.