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Evaluating Savings Plans: Types, Features & Examples

Instructor: Yuanxin (Amy) Yang Alcocer

Amy has a master's degree in secondary education and has taught math at a public charter high school.

In this lesson, we will learn about the features of various savings plans available to you. We will also discuss how to choose one that will meet your needs and what to watch out for.

Savings Plans

As you work from year to year, you will want to save some of your money. Saving your money will prepare you for retirement and will give you money for unexpected times. A savings plan is a plan to save your money, hopefully, to see it grow over time. There are several types of savings plans that you can get through banks and other institutions.

Examples

Let's start by taking a look at some examples of savings plan options you have through your bank or other financial institutions.

  • Savings account. This is a simple savings account provided by your bank with a low-interest rate.


  • Individual Retirement Account (IRA). This is an account specifically for retirement purposes with an interest rate that reflects the growth of the stock market. You can only withdraw money from this account once you reach a certain age.


  • Investment trading account. This is an account you open so you can buy and sell stocks and other securities that will earn you interest.


  • Certificate of Deposit (CD). This is when you give your bank a chunk of money to keep for a set period of time. In exchange, the bank will pay you interest at the end of the period when it gives you back the money.


  • 529 savings plan. This is a savings account for education expenses only that earns interest based on the growth of the stock market.

You can choose zero, one, two, or all of these options to save your money. You'll need to consider your needs to see which of these plans will work for you. If you need access to your money, then an IRA will not be suitable because you won't have access to this money until you reach a certain age. Likewise, a 529 savings plan won't work either since you can only use these funds for education purposes. Keep reading to see what other things you need to think about when selecting the savings plan that will work for you.

Interest Rate

As you've seen, all of the savings plans you've read about so far include earnings from interest. The amount you earn from interest is referred to as your interest rate. For example, if your interest rate is 3 percent, then it means that you will earn 3 percent of your account balance per year. Most banks make a monthly calculation (interest rate / 12) and pay you interest on a monthly basis. Banks also offer compounded interest which means that interest you earn during the year is included in your account and included in the next interest calculation. How much interest you earn in a year is also referred to as your rate of return.

Different savings plans have different interest rates. Here's an example of what you might find for a few of the savings plans as of the beginning of 2016.

Plan Interest (%)
Savings Account 0.01
CD 1.5
Investment trading account 8.12
IRA 5.23

Taxes

Another thing to consider is taxes. Whenever you earn interest, it becomes interest income in the eyes of the IRS. This means you need to pay taxes on the interest you earn. Some accounts do have tax benefits. For example, contributions to an IRA are tax-deductible up to a certain amount each year. When you withdraw money from a 529 education savings plan to pay for education expenses, you don't have to pay taxes on the interest earned from it.

FDIC

Yet another thing to consider is whether or not your plan is protected by the Federal Deposit Insurance Corporation (FDIC). The FDIC insures bank deposit accounts up to a standard of $250,000 per individual. So, your savings account is protected by the FDIC. Most banks offer FDIC insurance up to $250,000.

However, accounts that involve trading in the stock market and mutual funds are not protected by the FDIC. This includes IRAs and 529 accounts.

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