Most savings accounts do earn interest, but the amount varies widely by bank and account type
A savings account held at a bank or credit union typically earns interest — money the bank pays you for letting them use your deposits. The bank lends your money to other customers and businesses, and shares a portion of what they earn back to you as interest. However, not every savings account earns the same rate, and some accounts earn so little that inflation eats away at your money's value over time.
The interest rate your account earns depends on the current economic environment, the bank's own policies, and sometimes the type of account you hold. A high-yield savings account at an online bank might earn 4% to 5% annually right now, while a traditional savings account at a brick-and-mortar bank might earn 0.01% to 0.05%. The difference between these two scenarios is substantial: on $10,000, you'd earn $400 to $500 per year in the high-yield account versus $1 to $5 in the traditional account.
Key Takeaways
- Interest rates on savings accounts change based on what the Federal Reserve does with its benchmark rate, so the rate your bank offers today may be lower or higher next month.
- Online banks and credit unions often pay higher interest rates than traditional brick-and-mortar banks because they have lower overhead costs.
- Interest compounds, meaning you earn interest on your interest, but only if the bank compounds daily or monthly rather than annually.
- The bank must report interest you earn to the IRS on a Form 1099-INT if the total reaches $10 or more in a calendar year, and you'll owe income tax on that interest.
How banks decide what interest rate to offer
The Federal Reserve sets a benchmark interest rate that influences what banks charge borrowers and what they pay savers. When the Fed raises its rate, banks typically raise the rates they offer on savings accounts. When the Fed lowers its rate, banks usually lower savings rates too — sometimes quickly, sometimes slowly. Banks are not required to pass along rate changes to savers at the same speed they pass them to borrowers, so you may see your rate drop faster than it rises.
Individual banks also set their own rates based on how much money they need to attract and how much they're willing to pay for it. A bank that needs deposits urgently might offer a higher rate to draw customers in. A bank with plenty of deposits might lower its rate because it doesn't need to compete as hard. This is why you can open two savings accounts at two different banks on the same day and earn different interest rates.
The difference between high-yield and traditional savings accounts
A high-yield savings account is simply a savings account where the bank has chosen to pay a higher interest rate than it does on its basic savings accounts. These accounts are almost always offered by online banks or credit unions rather than traditional banks with physical branches. Online banks can afford to pay more because they don't have the cost of maintaining buildings and paying tellers.
A traditional savings account at a bank with branches typically earns a much lower rate. You pay for the convenience of walking into a physical location and speaking to a person, and that cost is reflected in the lower interest you receive. If you don't need branch access and can manage your account online, switching to a high-yield account at an online bank or credit union can mean earning 50 to 100 times more interest on the same balance.
How compounding affects the interest you earn
Interest compounds when the bank adds the interest you've earned to your account balance, and then calculates next month's interest on that larger balance. If your account compounds daily, the bank recalculates and adds interest every single day. If it compounds monthly, that happens once a month. If it compounds annually, you only earn interest on your original balance once per year.
The difference is small on small balances but grows as your balance grows. On $50,000 earning 4.5% annually, daily compounding versus annual compounding means earning roughly $75 more per year. Most savings accounts compound daily, which is why you should check whether yours does — it's one of the few things you can control when choosing between accounts with similar interest rates.
When you'll see interest appear in your account
Banks typically deposit interest into your account monthly, though some deposit it quarterly or annually. You can see the exact schedule in your account's terms and conditions. The interest appears as a deposit from the bank itself, and your balance grows by that amount. Once the interest is in your account, it becomes part of your balance and starts earning interest itself if your account compounds.
You can usually see how much interest you've earned year-to-date by logging into your online banking portal or calling the bank. Many banks also send a monthly or quarterly statement showing interest earned. At the end of each calendar year, if you earned $10 or more in interest across all your accounts at that bank, the bank will send you a Form 1099-INT for tax purposes.
Tax implications of savings account interest
Interest you earn on a savings account is taxable income. The bank reports it to the IRS, and you must report it on your tax return. If you earned $10 or more in interest during the year, the bank sends you a Form 1099-INT showing the total. You report this amount on your federal income tax return, and you'll owe income tax on it at your regular tax rate.
This means that if you're in the 22% tax bracket and earn $500 in interest, you'll owe roughly $110 in federal income tax on that interest. Some states also tax interest income. The after-tax return on your savings is lower than the stated interest rate, which is why comparing accounts based on interest rate alone can be misleading if you don't account for taxes.
What to do if your bank's interest rate drops
Banks lower savings rates when the Federal Reserve lowers its benchmark rate or when they simply decide they need fewer deposits. You have no obligation to stay with a bank that lowers your rate. You can open a new account at a different bank offering a higher rate and transfer your money there. There's no penalty for moving your savings, and you can do it as often as you want.
Many people set a reminder to check their savings account rate once or twice per year. If your rate has dropped significantly below what other banks are offering, moving your money takes about 15 minutes and can mean earning hundreds of dollars more per year on the same balance. Some banks will even match a competitor's rate if you ask, though this is becoming less common.
Frequently Asked Questions
Can I lose money if my savings account earns interest?
No, interest only adds to your balance. However, if inflation rises faster than your interest rate, the purchasing power of your money decreases — meaning your balance grows but buys less. This is why earning 0.01% interest during 3% inflation means you're effectively losing money in real terms.
Do I have to pay taxes on savings account interest?
Yes, interest is taxable income. If you earn $10 or more in a calendar year, the bank reports it to the IRS on Form 1099-INT. You report this on your tax return and pay income tax at your regular rate. Some states also tax interest income.
What's the highest interest rate I can find on a savings account right now?
Rates change frequently based on Federal Reserve decisions and bank policies. High-yield savings accounts currently range from about 4% to 5.5% annually, but this varies by bank and changes regularly. Check current rates at online banks and credit unions to see what's available.
If I move my money to a different bank, do I lose the interest I already earned?
No, you keep all interest already deposited into your account. When you transfer money to a new bank, you move the full balance including all previously earned interest. You only stop earning the old rate once the money leaves the old bank.
Does a money market account earn more interest than a savings account?
Money market accounts often earn slightly higher rates than savings accounts at the same bank, but the difference is usually small. The main trade-off is that money market accounts often require a higher minimum balance and limit how many withdrawals you can make per month.