195- Saving Money With Low Rates
Are you still depressed about how low interest rates are? Wondering what you can do to improve your savings? Just waiting for rates to increase? This post will hit on the major points about interest rates and what you should do to save more.
We live in a time of historically low interest rates that are primarily caused by a global shutdown of economic activity impacted by a pandemic. The Federal Reserve Bank has directed our country’s monetary policy to near zero rates in order to spur economic activity and reduce unemployment levels. At the same time, the Federal government is trying to stimulate the economy with fiscal measures focused on getting the final 8 million unemployed people impacted by the pandemic back to work.
The long and short of this situation is that interest rates and inflation will both remain at low levels for the next few years in my view. If you are looking for a massive increase in the interest rates paid on your savings, I don’t see that happening. Despite this outlook there are a number of actions you can take to improve your savings. Here are my thoughts.
Increase Your Savings. Because interest rates are so low, you need to consider increasing the percentage of your income you are saving. The normal benchmark I have discussed is to save 10% to 15% of your income. You should look to increase this, if possible, to offset the impact of lower rates. As part of this effort, look to take advantage of your 401K at work, a Roth IRA, a traditional IRA or the tax advantages of cash value life insurance and annuity products. Keep in mind, you need to keep your emergency fund fully ready for life’s uncertainties.
Carefully Manage Fees. In times of such low rates and returns on savings, the impact of fees becomes more important. This includes monthly account maintenance and transaction fees, ATM withdrawal fees and paper statement fees. Take an inventory of all your accounts and work to find institutions that do not charge these pesky fees.
Use a Laddering Strategy. Certificates of deposit are bank accounts that require you to save your money in the account for a set amount of time, called a term—like 6 months, a year or longer. There are usually penalties (i.e., forfeiting a few months interest) for cashing in your deposit before the term ends. In general, in exchange for the early withdrawal penalties CDs have higher rates than a traditional savings account because the bank can count on your money staying put for that set amount of time. Then when the term ends, you can take your savings and earnings out, or put them in another CD or account. Creating a ladder means putting your money into CDs with differing maturities. For example, let’s assume you have $12,000 to put into CDS, and you put $4,000 into six, twelve and two year maturities each with a different rate. As each CD matures, you can purchase a new CD at the rates in effect at that time. If they are higher, you benefit. If they are lower, you still have money earning higher rates for you in the remaining $8,000. By laddering the maturities you are gaining an option against rates declining further or increasing.
Refinance and Pay Down Debt. If you have high cost personal debt, take advantage of lower rates to refinance the principal to lower interest costs. At the same time, use any extra cash you have to pay off debt as quickly as you can. Paying 16% interest on credit card debt in a zero percent world makes no sense unless you have no other borrowing options and you are funding a family crisis such as an unexpected illness.
Pay Yourself First. A great rule of personal finance is to pay yourself first when you get your paycheck. One of the best ways to do this is to set-up an automatic deposit into your savings account. Usually that means money is automatically deposited to your savings account from one of your other bank accounts, like your checking account, at a frequency you select. After you set up how much and how often you want to move money to your savings account, the automatic savings plan does it for you. In other words, you can save money without needing to keep it top of mind.
Consider high-yield internet bank savings accounts. As we have discussed in other posts, using an internet bank savings account can yield you rates of interest that are five to ten times what you can earn at your local bricks and mortar bank. Even if your savings are already in a high-yield savings account, it might be worth it to check and make sure your interest rate is competitive with internet accounts.
You are facing the reality that the interest rate earned on your savings will not likely substantially increase for at least the next two years. To offset this impact you need to carefully consider the actions you can take and develop a personal strategy to save more. I wish I had better ideas on this subject but the reality is with rates this low you will need to increase your savings rates to meet your long-term goals.
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