What you earn depends on the bank's rate, how much you deposit, and how long the money sits there

The amount of interest you earn is calculated by multiplying your account balance by the annual percentage yield (APY) the bank offers, then dividing by the number of days in a year. If you keep $10,000 in an account paying 4.5% APY for a full year without adding or withdrawing money, you earn $450. If you keep it for six months, you earn roughly $225. The actual dollar amount changes every day as your balance changes.

Most savings accounts compound interest daily or monthly, meaning the interest you earn gets added to your balance, and then you earn interest on that interest too. The difference between simple interest (interest only on your original deposit) and compound interest is small in savings accounts but adds up over years. A $10,000 deposit at 4.5% APY compounded daily earns about $461 over a year instead of exactly $450.

The rate itself varies wildly by bank and by the moment you open the account. Online banks typically offer higher rates than brick-and-mortar banks because they have lower overhead costs. Rates also move up and down with the Federal Reserve's decisions—when the Fed raises its benchmark rate, banks usually raise savings rates within weeks. When the Fed cuts rates, banks cut savings rates too, sometimes faster than they raised them.

Key Takeaways

  • Your interest earnings equal your balance multiplied by the APY, divided by 365 days, then multiplied by the number of days your money sits in the account.
  • Online banks currently offer higher APY rates (often 4% to 5.35%) than traditional banks (often 0.01% to 0.5%), so the same $10,000 earns $400+ more per year at an online bank.
  • Interest compounds daily or monthly at most banks, meaning you earn interest on your interest, though the effect is modest in savings accounts.
  • Your bank will send you a 1099-INT form at tax time if you earned $10 or more in interest during the year, and you must report that income on your tax return.

How banks calculate your daily interest

Banks use a formula: (Balance × APY) ÷ 365 = Daily Interest Earned. If your balance is $5,000 and the APY is 4.5%, you earn ($5,000 × 0.045) ÷ 365 = $0.62 per day. That $0.62 gets added to your account, usually at the end of each month or quarter, depending on the bank's compounding schedule.

If your balance changes during the month—you deposit $2,000 or withdraw $1,500—the bank recalculates the daily interest on the new balance going forward. Some banks use the average daily balance method instead, which adds up your balance for each day of the month and divides by the number of days. The result is usually similar, but average daily balance can work in your favor if you deposit money early in the month.

You can find your bank's exact compounding method in the account disclosure document, usually called the Truth in Savings Act disclosure or account agreement. It will state whether interest compounds daily, monthly, quarterly, or annually, and when it posts to your account.

Why rates differ so much between banks

Online banks pay more because they don't operate physical branches. They have no tellers, no rent for storefronts, no security costs. That savings gets passed to depositors as higher APY. A bank like Ally or Marcus might offer 4.85% APY while your local credit union offers 0.15%. On a $50,000 deposit, that difference is $2,350 per year in your pocket instead of theirs.

Banks also set rates based on how much money they need to borrow from customers. When banks have plenty of deposits, they lower rates because they don't need to attract more money. When deposits are scarce, they raise rates to compete. During 2023 and 2024, when the Federal Reserve held rates high, online banks raised savings rates aggressively to pull in deposits. As rates eventually fall, expect those high rates to drop too.

Credit unions sometimes offer competitive rates because they're member-owned and return profits to members rather than shareholders. However, credit unions often have lower rate ceilings than online banks, and you must be a member to open an account, which may require living in a certain area or working for a specific employer.

How to compare rates across banks

Check the APY, not just the interest rate. APY includes the effect of compounding, so it's the true number you'll earn. A bank advertising "4.5% interest" might actually pay 4.49% APY if it compounds monthly instead of daily. The difference is small, but APY lets you compare apples to apples.

Look at the minimum balance requirement. Some banks pay their advertised rate only if you maintain a certain balance—often $2,500 or $25,000. If your balance drops below that, the rate falls to a much lower tier. Read the fine print before opening an account. Also check whether the rate is promotional (temporary) or permanent. A bank might offer 5.35% for the first three months, then drop to 4.5%. That's legal, but you need to know it's coming.

Use a rate comparison site like Bankrate, DepositAccounts, or NerdWallet to see current rates across multiple banks. Rates change frequently, so check again before you move money. Also verify that the bank is FDIC-insured (or NCUA-insured if it's a credit union). FDIC insurance protects your deposits up to $250,000 per account owner per bank if the bank fails.

When interest gets taxed

Interest income is taxable. If you earn $10 or more in interest during a calendar year, your bank will send you a 1099-INT form by January 31 of the following year. You must report that interest as income on your federal tax return (Form 1040), even if the bank doesn't send you a 1099-INT because you earned less than $10.

The interest is taxed at your ordinary income tax rate, which varies based on your total income and filing status. If you're in the 22% tax bracket and earn $500 in interest, you'll owe roughly $110 in federal income tax on that interest (plus any state income tax, depending on where you live). Some states don't tax interest income, so check your state's rules.

You can't avoid this tax by moving money between accounts or banks. The IRS tracks interest by your Social Security number, not by account. If you want to reduce taxable interest, you could move money into a Roth IRA or 401(k), where interest compounds tax-free, but those accounts have contribution limits and withdrawal rules. For most people, the tax on savings account interest is small enough that it doesn't make sense to complicate your finances to avoid it.

How much you need to deposit to make interest worthwhile

There's no minimum amount that makes interest "worthwhile"—every dollar earns something. But the math shows why people with larger balances care more about rate differences. On $1,000 at 4.5% APY, you earn $45 per year. On $100,000 at 4.5% APY, you earn $4,500 per year. The rate is the same, but the dollar amount is vastly different.

If you have $5,000 to $10,000, the difference between a 0.5% APY account and a 4.5% APY account is $200 to $400 per year. That's real money—enough to cover a car insurance payment or a month of groceries. If you have $50,000 or more, that difference is $2,000 to $4,000 per year, which is worth the five minutes it takes to open an online account.

For very small balances (under $1,000), interest earnings are modest no matter which bank you choose. A $500 deposit at 4.5% APY earns $22.50 per year, or about $1.88 per month. That's not nothing, but it's not going to change your life. Still, if you're keeping the money in a savings account anyway, you might as well put it somewhere that pays more.

What happens to your interest if you withdraw money early

Savings accounts have no penalty for withdrawals, so you can take your money out anytime and keep all the interest you've earned up to that point. If you deposit $10,000 on January 1, earn $112.50 in interest by March 31, and withdraw everything on April 1, you keep the $112.50. The bank doesn't claw it back.

This is different from certificates of deposit (CDs), which do penalize early withdrawal. A CD might pay 5.0% APY but charge you three months of interest if you withdraw before the term ends. Savings accounts offer lower rates partly because you can access your money anytime without penalty.

If you're saving for a goal that's more than a year away and you want a higher rate without penalty, look at high-yield savings accounts (which are regular savings accounts with higher APY) or a CD ladder, where you split your money across multiple CDs with different maturity dates so some money becomes available every few months.

Frequently Asked Questions

Do I earn interest on interest in a savings account?

Yes, if your bank compounds interest daily or monthly. The interest gets added to your balance, and then you earn interest on that new balance. Over a year, compound interest adds roughly 0.5% to 1% more earnings compared to simple interest, depending on the rate and compounding frequency. It's not huge, but it's assistance programs.

What's the difference between APY and APR?

APY (annual percentage yield) includes compounding, so it shows what you actually earn. APR (annual percentage rate) does not include compounding and is used mainly for loans and credit cards. For savings accounts, always compare APY to APY, never APR to APY.

Can I move my money to a higher-rate bank without losing interest?

Yes. Interest is calculated daily, so you earn interest up to the day you withdraw. You keep all interest earned. When you deposit at the new bank, you start earning their rate immediately. There's no gap or penalty. The only cost is the time it takes to transfer (usually one to three business days).

Will my savings account interest keep up with inflation?

Sometimes, but not always. When inflation is high and the Federal Reserve raises rates, savings rates often rise too, and you might earn close to the inflation rate. When inflation is low and rates are low, your savings account interest will likely lag behind inflation, meaning your money loses purchasing power over time. This is why some people use CDs or other investments for long-term savings.

Do I have to report interest under $10 on my taxes?

The bank doesn't send you a 1099-INT if you earn under $10, but you still must report it if you file a tax return. The IRS expects you to track and report all interest income, regardless of amount. In practice, interest under $10 is rarely audited, but technically it's required.