Currently, Canadians are holding billions of dollars in regular savings and chequing accounts. Frankly this surprises me considering that most bank accounts are paying a meager 0.25% or less. Back in 1981, these same savings and chequing accounts were paying 13% to 14%, but those hey days are gone.
Here's the problem: A $1,000 balance in savings accounts will compound to $1,013 after 5 years. That's barely enough interest to pay for lunch for 2 at McDonald's. A $1,000 balance will compound to $1,025 after 10 years. If you adjust for inflation, your original $1,000 is now the equivalent of $883.
It's time to look at ways to enhance the returns in your bank accounts.
“Just in case money”
It's no secret that most people who keep balances in their bank accounts keep money there ‘just in case' something should come up. Just in case money is important. According to many financial books everyone should have emergency money. The amount of emergency money is debatable but it can range anywhere from 1 to 6 months salary.
So what are the alternatives?
1. Money Market accounts. Money market funds are mutual funds that invest in government treasury bills and short term notes. In fact, banks often take money that is in bank accounts and invest the money in these same T-bills. In other words, they borrow money from you at 0.10% to 0.25% and invest it into money market instruments to earn 1% to 2%. Investing in Money Market funds enables you to earn the spread instead of the banks. Currently money market accounts are yielding in the range of 0.1% to 0.4%.
There are also money market accounts in the market place that can act like bank accounts but the whole idea of money market funds is not to replace bank accounts. Rather, it may be advantageous to keep savings in money market funds over conventional bank accounts.
2. High Interest Bank Accounts. Non-mainstream banks likeMaulife Bank,President's Choice Financial and Tangeine (who is offering up to $50 in bonuses and 2.4% interest for 6 months) , are examples of financial institutions offering much more than your typical bank account. All of these institutions are currently offering about 1% on their bank accounts. These institutions are able to offer higher interest rates because they do not have branches or tellers making them more cost efficient. At 1%, you will earn more interest in one year than if you compounded 0.1% for 15 years. That's significant!
Mainstream banks are also getting into the high interest game but far too often it is up to you to ask. Typically their rates are not the highest so make sure you shop around for alternative options.
3. Pay down debt. In my travels I often see people keeping too much money in their bank account and at the same time holding significant amounts of debt. Those who know me know I am a strong advocate of debt reduction. In fact, paying down debt can be one of the best investments you make. For example, let's assume you have a balance on your line of credit and you are paying 4% on that debt. Instead of keeping unproductive money in your bank account, paying down the debt is like earning 4% on your money. In fact, on an after tax basis, you are doing even better than 4%. Think about it, each day you have money earning 0% to even 1%, and you have debt where you are paying 4% or more, you are losing money.
If you are the type of person who keeps significant sums in your bank account, it is time explore other alternatives for your savings. The first step is to find out how much money you are earning and if that figure is not 1%, then start looking around.