Every paycheck pay yourself first by setting aside some money in a high-yield savings account. Not only will you be set up in case of an emergency, the savings can compound through the interest gains.
Why you need to save
Life is a roller-coaster that never goes according to the perfect plans we try to make. Because of this, you need to have some money tucked away for an emergency. If the following scenarios happened, would you be okay without having to go into debt?
- You’re let go from your job.
- Your car requires expensive repairs.
- A part of your houses’ roof collapses.
That last one actually happened to my dad. Obviously there are an infinite number of possible scenarios, but fortunately, if you have emergency savings set aside you can get through it without worrying about the financial aspect.
Pay yourself first
The way to do this is to pay yourself first. Every paycheck, stash some money aside. The general advice is to have enough to cover six months to a year of expenses, just in case.
Once you start doing this it pays to reconsider where you decide to put this money.
Looking at Annual Percentage Yield (APY)
For a bank, a savings account is a signal you probably don’t intend to touch the funds any time soon. Banks care about this because they want the money available for their use. As a thank-you, they provide interest. A typical big bank provides interest, or an Annual Percentage Yield (APY), around 0.1%. This means your money only grows by this rate over the course of the year.
The reason for this is simple. Unlike investing in the stock market, savings accounts are fundamentally the same as checking accounts. There just isn’t any risk (more risk means more reward).
With annual inflation rates over 2%, this means your savings is losing value sitting there.
Choosing a company
Instead, look into a high-yield savings account with no fees and the backing of the federal government if the bank or credit union fails (FDIC/NCUA insured to $250,000 for banks and credit unions respectively).
I decided to go with Ally. If you have previously looked into this yourself you will not be surprised by the decision. They are repeatedly a key leader in this space, consistently providing a higher-than-average APY, no fees, and FDIC insurance.
For those wondering how Ally can offer such a good rate, one reason is that they are an online-only bank and lack the overhead traditional banks have. Having been with USAA (another online-only bank) since 2011 I can say that I haven’t missed having a physical branch to walk into.
You don’t have to go with Ally. Do your own research and find what works best for you. After you select one, don’t constantly try to maximize and change companies all the time. Unless you invest hundreds of thousands (and why would you put that all in savings?) there really isn’t an appreciable difference between 2.20% and 2.25%.
Why you should care
The point here is to get your mind thinking about this. Say you were to put $10,000 in an account with a 2.20% APY. For the sake of simplicity we will assume the APY doesn’t fluctuate.
Thanks to the magic of compounding, untouched, the $10,000 becomes $10,220 in one year and $12,431 in ten. This is almost a 25% increase while it just sits there.
If you had left the savings with a bank offering a 0.1% APY then you would only have $10,101 after ten years.
This isn’t life-changing money. It’s only a savings account and is by no means a replacement for retirement investing; nor should you leave it if an emergency comes up and you need to use it. But, if all it takes is a few minutes to park your savings somewhere else, isn’t it worth letting it passively grow risk-free at a rate closer to inflation?