When inflation is high, saving your money in a traditional savings or checking account doesn’t cut it. If you aren’t earning interest at the same rate as inflation, your money is losing value.
To do your best to keep up with inflation, you can take advantage of compound interest. In simple terms, compound interest is when you earn interest on your interest. You invest a sum of money, accumulate interest, reinvest the interest with the original sum, and your money continues to grow. With simple interest, you only earn interest on your principal. With compound interest, you earn interest on your principal and gained interest.
This article covers the best compound interest accounts and how to use them.
Top compound interest accounts to choose from
If you’re ready to start earning more on your savings, there are several compound interest accounts available. To find the best compound interest account for you, compare different factors, including interest rate, fees, and risk.
Some of the best compound interest accounts to check out include:
Money market accounts
A money market account is a hybrid between a traditional savings account and a checking account. Similar to a savings account, you earn interest on your money.
However, the interest rate is typically higher with a money market account and is often compounded daily. Money market accounts often require a higher minimum balance than a traditional savings account to get a higher interest rate. Money market accounts are also FDIC-insured (by the Federal Deposit Insurance Corporation) for up to $250,000.1
Some money market accounts also share perks similar to a traditional checking account, like check-writing privileges and access to a debit card. However, the transactions you can make are usually limited. If you want to take advantage of compound interest in the short term to save for an emergency fund or down payment, you might consider a money market account.
High-yield savings accounts
A high-yield savings account (HYSA)is a type of FDIC-insured savings account that offers a higher interest rate than a traditional account. While the national deposit rate for a savings account sits at 0.46% currently, you can earn over 4% with some HYSA’s, with interest often compounding daily.2
Besides earning a higher interest rate, HYSAs function like a regular savings account. They’re a smart option for more short-term savings goals, including an emergency fund, a new vehicle, or a down payment. Compared to other compound interest accounts, a HYSA provides easy access to your money should you need it in an emergency.
Certificates of deposit (CDs)
A certificate of deposit (CD) is another type of FDIC-insured savings account you can find at a bank or credit union. You agree to leave your money in the CD account for a predetermined amount of time. By committing to leave your money in the account for a set period, you earn a higher interest rate than with a traditional savings account. However, if you take out your money early, you must pay a penalty fee.
Certificate of deposit accounts typically range from a six-month to a five-year term.3 Generally, the longer you leave your money in the CD account, the more interest you can earn.
An individual retirement account (IRA) is an investment and savings account designed to help you save for retirement. With a traditional IRA, your money is invested in stocks, bonds, and money market funds. A crypto IRA lets you put some of your retirement savings into cryptocurrencies.
While crypto IRAs allow you to put some of your retirement savings into alternative investments, these investments are subject to extreme volatility. Investing in a crypto IRA does not make these investments safer or less volatile.
An IRA does offer tax advantages. For instance, your earnings grow tax-free, and you won’t pay taxes until you withdraw your funds in retirement. If you need the money sooner, you can expect to pay penalties for an early withdrawal unless it’s to pay for a qualified education expense, a first-time home buyer’s expense, or another exception.
Best compounding interest investments
If you want to supercharge the rate at which you’re compounding interest, there are investment options that can help you earn faster. Of course, you will have to weigh the benefits and risks of each option.
Real estate investment trusts (REITs)
While purchasing land or an investment property might not fit your budget, a real estate investment trust (REIT) provides a more affordable way to get involved in real estate.
A REIT allows you to invest in real estate without needing a large down payment. With a REIT, you pool your money with other investors to gain partial ownership in different real estate assets, including office buildings, shopping malls, hotels, or residential properties. When these real estate assets make money, you get a share of it.
You can buy and sell publicly traded REITs on the stock market. Non-traded REITs don’t trade on the market, which makes them more difficult to buy and sell.
A stock is a type of security that allows you to buy a small piece of ownership in a company. When you purchase a stock, you become a shareholder and earn a part of the company.
Stocks are traded on the stock market. Companies will sell stocks when they need to raise money. If you invest in a company that does well, the value of the stock will go up. Stocks can often provide higher earnings than a HYSA or CD account but also carry greater risk. If the stock goes down, you can lose your investment. Generally, the longer you leave your money invested, the more time it has to grow and compound.
Governments and corporations often issue bonds as a way to raise money. When you purchase a bond, you are giving the issuer a loan that they agree to pay back by a specific date, with interest.
I bonds are specifically designed to protect you from inflation. With an I bond, you can earn both a fixed interest rate and a variable rate that changes with inflation. The variable interest rate is set twice a year, and interest is typically compounded semi-annually.4 With an I bond, your rate will never fall below zero.
If you want to save for the long term, you might consider an I bond. I bonds are designed to earn interest for up to 30 years, but you can cash them in after 12 months. However, if you cash in your I bond in less than five years, you lose the last three months of interest. For instance, if you cash in your I bond after 20 months, you will only earn the first 17 months of interest.
A corporate bond functions much like an I bond, except you are lending money to a company instead of the government. With a corporate bond, the company commits to paying you back your money, with interest, when the bond matures. The bond maturity date is the time when the company has agreed to pay you back.
You can choose a short-term bond (less than three years), medium-term (four to 10 years), or long-term (more than 10 years).5 The longer you commit to leaving your money, the more interest you can potentially earn.
Some bonds offer a fixed interest rate, where the interest you earn stays the same for the entire term. Floating rates bonds are also available. The interest rate for these bonds changes periodically according to market rates or a benchmark.
A zero-coupon bond is a bond that doesn’t make any interest payments until it reaches its maturity date.6 These bonds are typically long-term investments that don’t mature for ten years or longer. When the bond matures, you receive the original purchase price plus interest. For instance, say you purchase a five-year zero-coupon bond for $800. When the bond matures at five years, the bond is worth $1,000.
With a zero-coupon bond, you typically have to pay taxes each year on the prorated amount of interest before you earn the interest at bond maturity.
How to increase your compound interest
To maximize compound interest earnings, you must first open an account that earns compound interest. If you’re wondering who offers compound interest accounts, you can typically find CD accounts, money markets, and HYSAs through a traditional or online bank or credit union.
With a brokerage account, you can start investing in stocks, bonds, exchange-traded funds (ETFs), cryptocurrency, and more.
There are also several steps you can take to increase your compound interest earnings, including:
- Start early: When it comes to compounding, the longer your money is invested, the more time it has to grow. The earlier you can start saving and investing, the better.
- Contribute regularly: Saving or investing a certain amount of money each month can help your earnings. Even if you can only afford a small amount, this enables you to develop a consistent investing habit. If your financial situation improves, you can increase your contribution.
- Don’t touch your savings: Life happens, and you might encounter an emergency that requires you to dip into your savings. But, the longer you can let your money sit in a compound interest account, the more your wealth can grow.
What is the best compound interest account for you?
If you’re asking, “What is the best compound interest account?” there isn’t one answer. The best compound interest account for you comes down to your individual preferences and goals. You can compare online brokerage accounts, credit unions, and financial institutions with compound interest accounts to see which fits you best.
Are you ready to invest in stocks, bonds, and exchange-traded funds (ETFs)? Check out our beginner’s guide to investing.