In this article, you will find:
- The basics of savings accounts
- The benefits of compound interest
The basics of savings accounts
A deposit is an addition of money to your child's account. It's the opposite of a withdrawal.
When I was in elementary school in New York City, we used to be able to bring in coins each week that we privately put into small brown envelopes with our names on it. The school kept track of our savings (the funds were actually deposited in a passbook savings account at a local bank and earned the going rate of interest). When I moved on to junior high, I was able to take several hundred dollars with me. This was the first banking experience that many of us enjoyed.
Today, that option no longer exists, but you can help your child experience the savings process by setting up a savings account at a local bank.
Financial Building Blocks
The American Bankers Association Education Foundation has designated April 17 as National Teach Children to Save Day. Bankers on that day visit local elementary schools to explain and tout the virtues of saving in their banks.
Watch Your Step
With the success of the stock market in recent years compared with the low interest rates paid by the banks, some investment advisers have been dissuading youngsters from putting their hard-earned pennies into the local bank in favor of riskier stocks. But if there's an economic downturn and the stock market takes a dive, those kids with savings accounts can rest easy. The bottom line is to include both types of investments in a savings program.
Watch Your Step
Find out when interest is credited on the account. If it's monthly, then it may pay to delay a withdrawal until after the interest has been credited. A withdrawal one day early could cost a month's interest or more.
Piggybank on It
Most commercial banks, including Bank of America, Chase, and Citibank, have only statement savings accounts. Thrifts (savings and loan associations) continue to offer passbook savings accounts. Generally, you don't choose the type of account; you get whatever savings account your bank offers.
Having a savings account at a local bank will show your child two important things:
- Where money is kept. While most of the bank's money isn't physically all at your local branch (it's reinvested in other assets, such as loans to customers), the bank is still the place where deposits are made.
- What interest is all about. Interest is income earned on your money. When a deposit is made in a bank, you essentially are giving the bank the use of your money. The bank lends it out as mortgage money or for other loans and then charges the borrowers interest. For the use of your money, you earn interest.
Bank savings accounts show your child some very important money management elements. These concepts underlie any type of investment decision's she'll make throughout her life.
- Making deposits and withdrawals. You can show your child deposit and withdrawal slips used for these transactions and how to fill them in.
- Safety. When we think of safety, we picture avoiding accidents and getting injured. Well, it's really the same thing with money. Safety means that your child won't get injured financially by putting his money in a bank. The investment is safe, and he can count on being able to take out what he has put in (and then some). Money in most banks today is FDIC-insured up to $100,000. (Make sure that your child's bank has this protection by looking for an FDIC sign in the window or by asking someone there.) FDIC is a quasi-federal agency that promises to pay what's in each account—up to that dollar limit—if the bank should experience financial difficulties and fold. It's a form of insurance.
- Liquidity. This doesn't mean that the money turns into liquid gold—it refers to access to money. Your child can take the money out of
- the savings account at any time, and there are no penalties for doing so.
While savings accounts offer safety and liquidity, there's a price for these benefits: a low return on the money. As your child becomes willing to sacrifice some safety or some liquidity, she'll be able to get a better return. Some alternatives are explained in Teach Kids About Investing Their Savings; other types of investments are explained in Teach Kids to Diversify Their Investments.
Starting a Savings Account of His Own
If your child has been to town, he knows the whereabouts of a bank or two. But what he doesn't know is what type of account he'll be opening and how to go about doing it.
Two types of bank savings accounts exist: statement accounts and passbook accounts.
- Statement accounts provide your child with a monthly report of what has happened to the account. It shows money that has been deposited, withdrawals that have been made, interest that has been credited, and any fees charged against the account.
- Passbook accounts give your child a little booklet that every transaction is entered into. Whenever money is put in, the deposit must be posted in the passbook.
Some checking accounts pay interest (these may be called NOW accounts.) However, these accounts aren't designed for savings; they're used to write checks to pay bills, and the interest is only an extra feature of the account. Using checks is discussed in Teaching Kids About Using Checks.