Editor's Note: This article is a guest post from Richard Barrington, personal finance expert at MoneyRates.com. It is the second in a four-part series on financial literacy.
Whether you've had a bank account for years or are looking to start your first account, understanding how bank deposit products work can help protect you from potential problems and earn you extra money in interest.
Here are six basics to keep in mind when choosing a bank account:
- Fitting the account type to your needs. Most people readily understand what a savings account or a checking account does. But what about certificates of deposit (CDs), savings accounts, and money market accounts--why choose those? These are all deposit products you would use for money that you don't need to access frequently. In exchange for keeping money relatively undisturbed at the bank, you can earn more interest than you would, say, in an ordinary checking account.
This idea generally applies to the relationship between bank rates and access to your money. Savings accounts pose relatively few restrictions but offer the lowest interest rates on average. Money market accounts may have more restrictions, but money market rates are generally higher than savings account rates. CDs require you to lock up your money for a specified period of time, but CD rates can be much higher than savings or money market rates, especially for longer time commitments.
- Shopping for rates. Once you've decided which type of bank account suits your needs, you can start comparing bank rates within that category (i.e., savings account rates, money market rates, or CD rates). Don't make the mistake of assuming that one bank's rates are pretty much the same as another's--in fact, rates can vary widely within each category.
- What to make of "teaser" rates. Sometimes you will see a special introductory rate, or "teaser" rate, on an account. These generally apply for the first three months or so that you have the account. Because they are so short-lived, they should not be the primary basis for your decision, but they can be a good tie-breaker if all other terms and conditions are roughly equal.
- Understanding FDIC insurance. The Federal Deposit Insurance Corporation, or FDIC, insures the principal deposited into accounts at participating institutions. The FDIC's Web site has a search tool so you can find out if your institution is covered. The coverage limit currently is $250,000, but this is scheduled to revert to $100,000 on January 1, 2014. Coverage for IRAs and certain other retirement accounts will remain at $250,000.
Take note of this scheduled change in particular if you are thinking of signing up for a CD greater than $100,000 which would mature on January 1, 2014 or beyond. Also, keep in mind that the limit applies per depositor per account, so if you have multiple accounts with one bank, you have to make sure the total dollar value of those accounts does not exceed the applicable limit. However, retirement accounts like IRAs are counted separately from personal accounts.
- Special notes about CDs. In many ways, CDs are more complicated than other deposit products, largely because they lock you in to certain terms for a period of time. When buying a CD, be sure you get written confirmation of the following: whether the issuing institution is FDIC-insured, what the maturity date of the CD is, whether the CD is "callable," meaning subject to early termination by the bank, what the interest rate is, whether that interest rate is fixed or variable, and what penalty you would pay for early withdrawal.
- After you start your account. Keep in mind that once you start a savings account or money market account, the interest rate can vary at any time. MoneyRates.com is a resource that posts frequently updated bank rates on over 200 products, so you can keep an eye on whether your bank is still offering a competitive deal. For CDs, be sure to compare rates from other banks before you automatically roll over your CD into a new commitment at the end of the term.
There are roughly 8,000 FDIC-insured institutions, many of them offering multiple deposit products. You have a great many choices at your disposal when shopping for a bank account, and understanding these basics will help you make those choices wisely.