As a child, I thought I was a great saver. I would collect any spare change in a piggy bank hidden under my bed and watch with excitement as it got heavier over the years. Even more exciting was the trip to the bank when I’d have my change counted and collect my whopping $10.73. But the best part had to be afterwards when I’d buy a candy bar from the nearest vending machine as a reward for my job well done.
I realized in my eighth grade math class what was wrong with my saving scheme. My teacher presented us with the formula for compound interest. To be honest, the notion of compounding was beyond me. I was hung up on the interest part. I raised my hand in utter confusion — “You mean the bank will give you more money back than you put in?” My teacher replied without hesitation, “Of course! That’s what a bank is for.” It seemed obvious to my teacher. And for many years that’s how I thought banks worked. You lend them your money, and they pay you back in interest.
Unfortunately, how it works in practice is not quite as rosy of a picture. The annual percentage yield (APY) on a regular savings account is only 0.20 percent at Bank of America, which you can find on Grounds. That’s not far from the national average of 0.37 percent. To put it in perspective, if you leave $1,000 in your Bank of America savings account for a year, you’ll get $2 in interest. To most college students, that’s just not worth it. There don’t, however, seem to be many other options. The few students who are daring enough to take on the stock market in search of worthwhile returns are met with even more dismay. The problem with investing for college students is three-fold: transaction costs (the cost of trading stocks/holding mutual funds) are relatively high if you have less than $2,000 to invest; there is considerable risk; and for students — who may need cash at any moment — it’s a hassle to hold illiquid assets. Other students consider fixed-income assets such as bonds or certificates of deposits (CDs) since they may provide high interest rates with less risk. With fixed-income assets, however, illiquidity becomes even more of a factor since there are penalties associated with withdrawing before maturity.
In that case, what’s the best way for most college students to save? Try high-yield online savings accounts. These accounts offer interest rates roughly nine times the national average (currently between 3 percent and 3.5 percent). They also charge fewer fees, require no minimum balance and are FDIC-insured. The reason they can offer all these great services is because they don’t have the overhead associated with wages, maintenance and real estate of traditional brick-and-mortar branches. Instead, these accounts are set up online and allow you to transfer money by linking to your checking account, sending in deposits by mail or using ATMs.
There are some drawbacks associated with online savings accounts. The first is the lag time associated with transferring funds in or out of the account, which usually takes two to four business days to clear. The second is no check-writing services from the account. And the third is no hand-holding from bank employees at branch locations. For students who can manage these inconveniences, online savings accounts provide a little extra money on the side while still offering easy access to savings. With no minimum balances and virtually no fees, there is little downside to using them for either short- or long-term savings.
Setting up an online savings account isn’t too difficult. You would first need a separate checking account, preferably one with branches and ATMs convenient to you and low fees. You then go online and start an application for the online savings account you would like to open. It’ll ask you how you would like to provide your initial deposit: by mailing a check or linking your checking account online. After the initial setup, feel free to move your funds in or out as you need them or just sit back and watch your savings grow.
Rahul Gorawara is Chief Information Officer of the McIntire Investment Institute. He can be reached at
gorawara@virginia.edu.
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