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Alternatives to big banks are offering some of the best deposit account interest rates consumers have seen in years. And they’ve made checking accounts, savings accounts and certificates of deposit a worthwhile vehicle for earning interest once again.
In the 1980s, savings accounts routinely paid 5% or higher, thanks to favorable Federal Reserve interest rates. But the economic heyday of the decade slowed, and since then, it has become routine for major banks to pay next to nothing for savings deposits.
Enter online-only banks, which have emerged in recent years. With few, if any, physical branches to pay for, they pass the savings on to customers in the form of a higher annual percentage yield, or APY. Credit unions, too, have demonstrated better returns on savings by offering high interest rates to members.
These online banks and credit unions are just as safe for most people as traditional giants like Bank of America, Wells Fargo or Chase, with deposits up to $250,000 insured by the Federal Deposit Insurance Corp. or the National Credit Union Administration.
Higher returns from savings accounts
Their big advantage? Interest rates. Several online banks offer nearly 2% for deposit accounts, and rates have continued to rise in the past year with increased competition. Ally Bank, for example, has steadily increased its online savings account interest rate from 1.25% in October 2017 to 1.90% by October 2018. Synchrony, Discover Bank, Marcus by Goldman Sachs, American Express National Bank and Barclays offer similar rates. Compare that to some of the largest traditional banks, which offer as little as 0.01% for savings accounts. The average savings APY for all banks is 0.09%.
If you were to put $1,000 in a savings account that yielded 0.01% and added $100 per month for five years, you would only end up earning $3 in interest. Over 10 years, it would only be $8. By switching that same $1,000 and $100 per month to an online bank that generates 1.90% interest, you would earn $399 in interest over five years and $1,435 over 10, thanks to the higher interest rate and compound interest, which magnifies greater returns over time.
Higher rates for CDs
Online banks also lead the way for certificates of deposit, which are savings vehicles that offer higher returns but can’t be easily accessed by users during a given term. According to NerdWallet data, the national average rate on a 1-year CD in September 2017 was 0.27% for all banks, while the average rate for five major online banks was 1.46%. By June 2018, the national average rate for all banks was 0.38%, while the average for the online banks had soared to 2.20%.
More consumers are turning to credit unions for higher interest rates. Some credit unions are able to offer higher rates because they’re member-owned, meaning they have less of an incentive to generate profit for shareholders and investors than big banks do. The APYs of the best credit unions rival those of online banks, with Alliant Credit Union, for example, currently offering 1.90% for savings accounts.
Pluses and minuses of online banks and credit unions
The decision to go with an online-only bank or a credit union over a traditional bank comes with some notable benefits as well as drawbacks.
Besides higher APYs, online-only banks tend to offer more mobile-friendly functions. However, you may be subject to ATM fees if you try to withdraw your money from non-network machines, a more likely occurrence at banks without their own branch ATMs. Some may miss the face-to-face customer service offered at physical branches.
Higher APY rates also sometimes come with extra hoop-jumping, such as maintaining a minimum balance.
Drawbacks for credit unions could include a slower rollout of new technology and less branch access if you move to a new area. Credit unions also typically have membership requirements that can sometimes be limiting.
If you’re willing to take a chance on a nontraditional way of banking, online-only banks and credit unions can be a financially savvy departure from the norm.