Term deposits vs savings accounts. Which is best?
Posted April 2017 by Melissa Abraham-Smith
Are you struggling to save? If so, then you’re not alone. For many Kiwis, talking about saving money is easy, but actually doing it? That can prove difficult.
Maybe you’re trying to finance a new or used car? Or perhaps you’d like to one day throw the wedding of your dreams? While everyone agrees that saving is a great idea, tight budgets, debts, and day-to-day financial responsibilities often mean credit cards and other forms of finance are used to pay for these purchases instead.
While saving money is difficult, it’s also not impossible. In fact, there’s never been a better time to start putting some money away for a rainy day, your next big purchase, or your retirement. Term deposits and savings accounts remain two of the country's favourite options for doing just this, but which one is right for you?
Big or small, we know you want to maximise the return on the money you’re able to set aside. So while high interest rates are crucial, there’s more to making the best decision than that. For example, you should consider:
- How long do you want to lock your money away?
- Do you want to lock in the rate, or earn compound interest?
- Do you need regular access to your funds?
- Do you have a Kiwisaver or retirement savings plan, and do you know how much you’ll need?
- Do you plan on regularly topping up your savings?
To help make this decision easier, today we're comparing term deposits and savings accounts, exploring how they work, and helping you to decide which option provides you with the best return on your savings, no matter what you're saving for.
Looking to save? Here’s the 3 biggest differences between a savings account and a term deposit
1. Access to your savings & cashing in on your investment
Saving money is a financial commitment to both yourself and your bank or credit union, but just how committed you’re required - or want - to be is the single biggest difference between how this kind of investment works when compared with a savings account.
When you apply for a term deposit, for example, you choose the length of your investment (also known as the “term”), which usually falls into one of two categories:
- Short deposits - up to 12 months or less.
- Long deposits - anywhere up to 5 years.
Once funds have been deposited into the account, they’re meant to remain there - untouched - for the life of the investment, where they then earn high interest. When you earn interest on a short term deposit, this is usually paid out at the end of the investment period, while more long-term options tend to pay their interest quarterly or annually into an account of your choosing.
With limited access to your funds, term deposits in New Zealand lack the flexibility of, say, an online saver account. In return, you receive a much higher rate which offers great returns and even greater peace of mind (as we’ll discuss in more detail below).
Once the investment period comes to an end, you’ll then be given the option to either reinvest your funds - plus interest earned - or have this deposited in full into your account.
Whether you simply want to set your money aside and let it do the work for you, or if you’re saving for anything from a home through to your retirement, a fixed-term investment could be worth it for you.
Unlike term deposits, applying for a savings account offers you complete freedom to save your money indefinitely, with the option to cash out, deposit, or withdraw your money at any time. At least to a point: if you carry out more than the allowed number of withdrawals, you'll likely miss out on the highest savings rate, or any bonus interest for a given month.
That said, savings accounts still offer much greater flexibility when it comes to how, when, and for how long you save. The longer you keep your funds in the account? The more you stand to make.
This makes a savings account the perfect option if you’re wanting to save, but need regular access to your funds along the way.
2. Earning the highest interest rate
Fixed investments remain a popular option among investors, home buyers, and retirees alike, as they earn some of the highest interest rates of any saving option. They’re also a much safer option, too.
When compared to riskier investments like shares, this easy-as investment options allows you to lock in a set rate, so your return is guaranteed from the outset and your savings are protected from any fluctuations in official cash rates.
The more money you plan on investing, and the longer you invest it, the higher the interest rate you’ll receive when you apply for your term deposit. This is why they’re a great way to set aside a fixed amount for a lengthier period of time, as you’re able to guarantee your return for a big future purchase or those post-work retirement years when you’ll need it the most.
Savings accounts don’t offer a guaranteed return on the money you save. Instead, they operate on a ‘standard variable rate’, which means the interest you earn depends on the national or institution's rate at the time.
In return, when your savings account earns interest it’s paid monthly, rather than quarterly or annually as with term deposits. So as long as the funds in your account remain untouched, you’ll earn compound interest.
Compound interest makes it easier to reach your savings goals, and fast. For example, the amount you earn in interest is added to your account on a monthly basis, and it’s this new balance that is used to calculate the interest you earn the following month.
When you combine this with competitive rates, easy access to your funds, and the ability to top up your account at will, a Savings account remains the perfect way to save for the immediate future while ensuring you have immediate access to your money if and when you need it most.
3. Bumping up your savings
Are you hoping to add to your savings over time? In this case, you're not required - or able - to make any additional payments. Instead, you simply deposit your funds into the account, sit back, and let your money do the work for you.
With nothing to add or to take out of the account, you can skip the costly mandatory additions of some Savings accounts, cut down on the paperwork, and cut out the stress when it comes to saving for your future.
On the flipside, a Savings Account offers you the freedom to add to - and subtract from - your savings at any time. The more money you add to your savings account? The more you’ll earn in interest over the life of your account.
You also need to consider that some savings accounts require a minimum monthly addition to your account in order for you to earn the maximum interest on your savings. While this won’t fit all budgets, it’s a great way to remind you to top up your savings. Though if you fail to make the payment, then your interest rate could be lowered, or no interest will be paid for the given month.
It’s never too late to invest in your future and start saving
There's never been a better time to start saving, and both term deposits and savings accounts are both great options for Kiwis just like you.
As we've explored today, it's important to consider your individual needs before you decide whether to invest for the future, or if you require the added flexibility of a savings account.