Interest-bearing savings accounts pay you money on the balance you keep in them
A savings account with interest is a bank or credit union account that adds money to your balance based on how much you have stored there and how long you keep it. The bank pays you a percentage of your balance each month or each day, depending on the account. The percentage is called the annual percentage yield, or APY.
The amount you earn depends on three things: how much money sits in the account, what APY the bank offers, and how often the bank adds the interest to your balance. A $1,000 balance at 4.5% APY earns roughly $45 per year if interest compounds daily. The same $1,000 at 0.01% APY earns about 10 cents per year. The difference between banks can be enormous.
You do not need a minimum balance to open most accounts, though some banks require $100 to $500 to start earning interest. You can add money whenever you want and withdraw it whenever you want, though some accounts limit how many withdrawals you can make per month without a fee.
Key Takeaways
- Online banks and credit unions typically offer higher interest rates than brick-and-mortar banks because they have lower overhead costs.
- The APY you see advertised changes frequently, so compare rates across at least three banks before opening an account.
- High-yield savings accounts currently offer rates between 4% and 5.3%, while traditional bank savings accounts often pay less than 0.1%.
- You can open an account online in minutes with just an email address, Social Security number, and a way to deposit money.
- Interest compounds daily at most banks, meaning you earn money on the interest you already earned.
Online banks pay more interest than traditional banks
Online banks — banks with no physical branches — offer higher APY than banks with buildings you can walk into. An online bank has no tellers, no rent, no branch staff, so it passes those savings to you in the form of higher interest rates. A traditional bank might pay 0.01% APY on a savings account. An online bank might pay 4.5% APY on the same type of account.
Credit unions, which are member-owned financial institutions, also tend to offer higher rates than traditional banks. You must be a member to open an account, but membership is often free or costs a small one-time fee. Some credit unions have no minimum balance requirement and no monthly fees.
The tradeoff is access. You cannot walk into an online bank and speak to someone in person. You manage everything by phone, email, or their website. If you need to deposit cash, you will have to transfer it from another bank account or use an ATM that the online bank partners with. Most online banks reimburse ATM fees charged by other banks, so this is usually not a problem.
Compare APY across banks before you choose
Interest rates change constantly. A bank offering 5% today might offer 4.2% next month. Before you open an account, visit the websites of at least three banks and write down the APY each one shows for a savings account. Check the fine print to see whether that rate applies to all balances or only balances above a certain amount.
Some banks offer a promotional rate for the first few months, then drop the rate lower. Read the terms carefully. A bank that advertises 5.25% APY for three months, then 0.5% after that, is not the same as a bank offering 5.25% APY indefinitely.
Use a rate comparison site like Bankrate, DepositAccounts, or NerdWallet to see what multiple banks are offering at once. These sites update daily and show you the APY, minimum balance requirements, and whether the bank charges monthly fees. You can also visit each bank's website directly — the rates on the bank's own site are always current.
Opening an account takes minutes and requires basic information
Most online banks let you open an account on their website without leaving home. You will need your Social Security number, a government-issued ID, your current address, and a way to fund the account. Some banks let you link a checking account from another bank and transfer money that way. Others let you mail in a check or set up a direct deposit from your employer.
The bank will ask you to verify your identity, usually by answering questions about your credit history or by uploading a photo of your ID. This takes a few minutes. Once the bank approves you, you can start depositing money and earning interest immediately, though the first deposit may take one to three business days to clear.
If you want to open an account at a credit union, you will also need to become a member. Some credit unions let you join online. Others require you to visit a branch or mail in a membership form. Membership is usually free or costs $5 to $25 as a one-time fee.
Interest compounds daily at most banks, so you earn money on your earnings
Compounding means the bank adds interest to your balance, and then adds interest to that interest. If you have $1,000 at 4.5% APY and the bank compounds daily, the bank adds roughly $0.12 to your account each day. The next day, it adds interest on $1,000.12, not just $1,000. Over a year, daily compounding means you earn slightly more than you would if the bank added all the interest at once.
Most online banks compound daily. Some traditional banks compound monthly or quarterly. The difference is small on small balances but adds up on larger ones. A $10,000 balance at 4.5% APY earns about $450 per year with daily compounding, versus about $449 with monthly compounding. On a $100,000 balance, the difference is roughly $10 per year.
Watch for fees that eat into your interest earnings
Many online banks charge no monthly maintenance fee. Some charge $5 to $10 per month if your balance drops below a certain amount, or if you do not set up direct deposit. Read the fee schedule before you open an account. A bank paying 4.5% APY with a $10 monthly fee is worse than a bank paying 4.0% APY with no fees, if your balance is small.
Some banks charge a fee if you make more than a certain number of withdrawals per month — often six. If you plan to withdraw money frequently, check the withdrawal limits. Most online banks have removed these limits in recent years, but some still enforce them.
Look for banks that reimburse ATM fees. If you use an ATM that is not part of the bank's network, the ATM owner might charge you $2 to $3. Banks that reimburse these fees will credit the money back to your account within a few days.
Move your money if a better rate appears elsewhere
You are not locked into any bank. If you find a bank offering a higher rate, you can open a new account there and transfer your money over. The transfer usually takes three to five business days. You can keep your old account open or close it — there is no penalty either way.
Some people keep accounts at multiple banks to take advantage of promotional rates. When one bank's promotional period ends and the rate drops, they move their money to another bank with a new promotional offer. This requires more work but can earn you an extra percentage point or two in interest.
Before you move money, check whether the new bank has a minimum balance requirement. If you have $500 and the new bank requires $1,000 to earn the advertised rate, you will not earn that rate until your balance grows.
Frequently Asked Questions
Is my money safe in an online bank?
Yes, if the bank is FDIC-insured. The FDIC is a government agency that protects deposits up to $250,000 per account holder per bank. Most online banks are FDIC-insured. Check the bank's website or call them to confirm. Credit unions are insured by the NCUA, which offers the same protection.
Can I withdraw money whenever I want?
Yes, though some banks limit how many times per month you can withdraw without a fee. Most online banks have removed these limits. Check the account terms before you open. Even if there is a limit, you can usually withdraw as much as you want — you just pay a fee for withdrawals beyond the limit.
How much interest will I actually earn?
It depends on your balance and the APY. A $5,000 balance at 4.5% APY earns roughly $225 per year. A $50,000 balance earns roughly $2,250 per year. Use the bank's interest calculator on their website to see what you would earn with your specific balance.
What if the bank lowers the interest rate after I open an account?
Banks can lower rates anytime, and they do not have to ask your permission. You will not lose money — your balance stays the same — but you will earn less interest going forward. If the rate drops too low, you can move your money to a bank offering a higher rate.
Do I have to pay taxes on the interest I earn?
Yes. Interest is considered income. At the end of the year, the bank will send you a form called a 1099-INT showing how much interest you earned. You report this on your tax return. The amount is usually small, but it counts as taxable income.