Saving money for the future can seem like a daunting task. With the terms 401(k), IRA, CD, and mutual fund being thrown around, it’s no surprise that people get easily confused by the ways to save cash. But the truth is, investing money doesn’t need to be that difficult.
For day-to-day expenses, most people have a checking account. For those savings you want to set aside for next month’s bills, most would put some money in a savings account. But what about if you want to save for something a few years out — let’s say a down payment for a home?
Sure, you could put it in a standard savings account. But why not put your money into something that is just as secure, yet brings in a much higher interest rate? We’re talking about a money market account.
In this article, we’re going to answer the question, “What is a money market account?” We’ll explain how they’re different from savings accounts and why you might want to consider investing in one. Let’s hop right in.
What Is a Money Market Account?
A money market account is like a checking account and high-yield savings account combined into one. These types of accounts give you check-writing ability and can make debit purchases on a limited basis while also giving you higher interest rates than standard savings accounts.
In a way, money market accounts offer the best of both worlds. They allow the spending flexibility of checking accounts and give you higher earnings compared to a traditional savings account.
Since money market accounts have higher interest rates, they’re an excellent investment to increase your earnings over the year. The catch is that they typically have a minimum balance requirement, include maintenance fees, and limit how many transactions you can make per billing cycle.
Let’s take a look at what makes a money market account different from a savings account.
Money Market Account vs. Savings Account
Money market accounts and savings accounts are similar in many ways. They both encourage you to set money aside to save for your future goals. The difference is that savings accounts are meant for short-term goals while money market accounts are more suited for mid-term goals.
Money market accounts are the perfect choice for when you’re setting money aside for certain scenarios, special events, or expected payments that are a few years to 10 years out. For example, if you have money set aside for a down payment on a house or you’re saving for an extravagant vacation — a money market account might make sense for you.
On the other hand, savings accounts are intended for short-term goals like an emergency fund or an end-of-the-year tax bill if you’re a freelancer or independent contractor. Savings accounts will decrease your spending since they’re more limited than checking accounts, but they’ll still allow you to quickly pull out your money without punishing you for falling below the minimum balance.
As a rule of thumb, if you have a smaller amount of money that is sitting there, yet still needs to be accessed within the next year or two — go with a savings account. If you have a larger amount of money that doesn’t need to be touched for at least a few years — go with a money market account. This will help you build up your savings with the higher money market account rates.
So how do money market accounts differ from checking accounts?
Money Market Account vs. Checking Account
Money market accounts are more so savings accounts, but also give you some of the flexibility of checking accounts. An MMA enables you to make six transactions per month without being charged any service fees.
Checking accounts are meant to be used for your everyday spending accounts. This is your go-to banking account with an associated debit card that allows for unlimited monthly transactions.
Compared to a checking account, money market accounts let you write a limited number of checks and set a cap on the number of transactions you make per month. According to the federal law — Regulation D — you can only make six transactions per month with a money market account. A transaction occurs when you write a check, move money to other accounts, or complete a debit purchase.
The minimum balance for many checking accounts is quite low compared to money market accounts. However, checking accounts don’t offer an interest rate to help you save.
So why are money market accounts a good idea? Let’s go over some advantages.
Advantages of a Money Market Account
Money market accounts offer investors three key advantages — high interest rates, insured bank accounts, and the ability to utilize the account like a checking account.
MMAs have much higher annual percentage yield rates compared to regular savings accounts. To give you an idea, a savings account could have an APY rate of around 0.15%. In comparison, a money market account could bring in over 2% over the course of the year. If it’s an online bank, these savings could be even larger.
MMAs are also insured and financially sound bank accounts. If you decide to put your money in a financial institution’s MMA, you’ll be insured as long as the bank is insured by the FDIC — the Federal Deposit Insurance Corporation. If you go with a credit union, you’ll be covered as long as it’s insured by the NCUA — the National Credit Union Administration.
Lastly, unlike a savings account, you can use your MMA like it’s your checking account. You’ll be able to write checks and in some cases use a debit card. The only thing you should keep an eye out for is the number of transactions you make each month. Remember, you’ll only be able to make six transactions for each billing cycle.
Disadvantages of a Money Market Account
Although money market accounts have plenty of upsides, you should be aware of the cons that come along with them. Three disadvantages of having an MMA are that there’s typically a minimum balance, you can rack up monthly fees if you’re not careful, and there are limited monthly transactions you can make.
The first thing you should be aware of is that MMAs usually require a minimum balance to open an account. If you don’t have enough money to meet this threshold, then you won’t be able to open an MMA.
The minimum balance will vary from bank to bank. Sometimes banks won’t require a minimum balance at all. In other cases, the minimum balance could be as low as $100. But then there are higher-yielding accounts that require an initial minimum deposit of $10,000. On top of this, you’ll need to maintain this higher minimum balance if you want to avoid any fees, which leads us to our next point.
If you’re not careful, you can rack up fees using a money market account. You can be docked for falling below the minimum balance. This could be around $15 or even more depending on your account. You can also be docked for completing more than six transactions.
Money market accounts only allow you to make six transactions per month before you’re hit with a fee. If you want easy access to your money on a regular basis, then an MMA isn’t the right fit for you. Think of it as a way to save for a few years down the road rather than a means to pull money out on a regular basis.
There must be other options besides a money market account. Let’s see some alternatives you could pursue.
Alternatives to a Money Market Account
Beyond money market accounts, savings accounts, and checking accounts, there are additional types of accounts you can put your money into. Which one you choose will depend on how long you want your money tied up, how much interest you are comfortable accumulating, and how much access you want to your money. Two of these alternatives are certificates of deposit — or CDs — and a money market mutual fund.
A certificate of deposit isn’t so much a bank account, but rather an investment that has a fixed interest rate. CDs are federally insured but don’t grant you access to your cash without having to pay an early withdrawal fee. You won’t be able to write checks or use a debit card with a CD since it has a fixed period — like six months or 12 months.
Money market funds sound similar to money market accounts, however, they aren’t FDIC insured. Money market mutual funds are a collective investment in securities or bonds that are managed by the bank.
Time to Open a Money Market Account
Money market accounts make sense for people who maintain a high balance in a checking account, complete few transactions per month, or don’t want their money locked up in other savings instruments like a CD or an IRA. There a great way for you to set money aside and save up for some medium-term financial goals.
If you want to reach your financial goals more quickly, then get some money into a money market account. You can also check out our guide to investing for beginners, or think about using a robo-advisor.