fbpx Skip to main content

This post may contain affiliate links which may compensate us based on your interaction. Please read the disclosures for more information.

It’s possible to overfund your savings account, and it causes more issues than you may realize. Check out the unexpected downsides of doing this. [[{“value”:”

Image source: Getty Images

Savings account rates have gone up quite a bit over the last two years. Some of the top high-yield savings accounts are currently offering APYs of over 5%, and there’s no risk involved.

Believe it or not, it’s possible to keep too much money in a savings account. This type of account is great for your emergency fund and any upcoming savings goals you have. But there are a couple of potential drawbacks to overfunding your savings.

You could grow your money more by investing it

It’s generally not recommended to use a savings account for money goals more than five years away. The best example of this type of goal is saving for retirement. Depending on your age, this could be decades down the road. For these long-term goals, investing is a much better way to grow your money.

The U.S. stock market has historically grown by an average of about 10% per year over the long run. That’s not a fixed or guaranteed return — some years are much better than others. But it’s the average going back over the last 50 years.

High-yield savings accounts are offering about 4.3% to 5.3% right now. That won’t last forever, though. This is the highest rates have been in years, and they’ll almost certainly decrease if the Federal Reserve lowers interest rates later this year (which it’s expected to do).

To put this difference in perspective, let’s say you have $100,000 and 30 years to grow it. You can either invest in stocks and get a 10% yearly return or stash it in a savings account with a 5% APY. Here’s how you’d do with each option:

If you invested $100,000 for 30 years, it would be worth $1.74 million.If you put $100,000 in a savings account for 30 years, it would be worth $432,194.

You end up with over $1.3 million more by investing. And this is assuming the savings account APY stays at 5% for all 30 years, which is highly unlikely.

Your savings account will increase your taxable income

Keeping too much in your savings doesn’t just affect your future returns. It can also cost you more money every year at tax time.

Interest from a savings account is taxable income. Your bank will send you a 1099-INT if you earned $10 or more in interest during the year. If not, you won’t receive that form, but you’re still required to report any interest you earned on your tax return.

Imagine you earn $2,000 in interest from your savings account. If that portion of your income is in the 22% tax bracket, it would cost you an additional $440 in taxes. It’s not a bad thing — you’re still making money, after all. But it’s another way saving too much can cost you money compared to investing.

When you invest, you don’t pay taxes on your capital gains (the amount your investment has increased in value) until you sell. Also, profits are considered long-term capital gains if you held the investment for over one year. Long-term capital gains tax rates are lower than income tax rates.

Find the balance between saving and investing

This doesn’t mean that you should invest all your money. That’s not ideal either. You should do both: Save and invest a portion of your income. One simple and effective option is to save 10% of your income and invest another 10%. But you may want to adjust that if you already have plenty of savings and haven’t invested much.

Your savings is where you’ll work toward short-term goals. For example, if you want to go on a big vacation at the end of the year, use a savings account to set aside money for that. If you want to buy a home in three years, a savings account is well-suited for that, too. It’s also where you should have savings you may need to access at any time, such as your emergency fund.

It wouldn’t be a good idea to invest money you’ll need in the next few years or at a moment’s notice. The stock market has its ups and downs. If you need to take out money during a downturn, you might be stuck selling investments at a loss.

The safest option isn’t to have most of your money in a savings account. It’s to have enough to cover your needs and be ready for emergencies, while also investing so you can build long-term wealth.

Alert: highest cash back card we’ve seen now has 0% intro APR until 2025

This credit card is not just good – it’s so exceptional that our experts use it personally. It features a 0% intro APR for 15 months, a cash back rate of up to 5%, and all somehow for no annual fee!

Click here to read our full review for free and apply in just 2 minutes.

We’re firm believers in the Golden Rule, which is why editorial opinions are ours alone and have not been previously reviewed, approved, or endorsed by included advertisers.
The Ascent does not cover all offers on the market. Editorial content from The Ascent is separate from The Motley Fool editorial content and is created by a different analyst team.The Motley Fool has a disclosure policy.

“}]] Read More 

Leave a Reply