Keeping substantial money in a checking account might seem convenient, but it can be financially unwise. Here are five compelling reasons why you should avoid keeping more than $3,000 in your checking account, backed by data and expert advice.
You Face Increased Fraud Risk
Checking accounts are more vulnerable to fraud compared to other financial accounts. Criminals can use various methods, such as ATM skimming, phishing, and fake checks, to access your funds. If your checking account is compromised, recovering stolen funds can be difficult and time-consuming. According to Experian, there were over 5.8 million reports of identity theft in the United States in 2021 alone (an increase of 77% compared to 2020). Keeping a minimal balance in your checking account can reduce the risk and impact of potential fraud.
You’re Tempted to Spend More
Behavioral finance studies have shown that people are more likely to spend money that is easily accessible due to various psychological biases. One key concept is “mental accounting,” where individuals treat money differently depending on its source or intended use. For example, if your checking account always has a few thousand dollars, you might be more inclined to make impulsive purchases. You can curb this tendency by keeping only the necessary amount for your monthly expenses in your checking account.
You Pay Unnecessary Banking Fees
Many checking accounts come with fees if certain balance thresholds or transaction limits are not met. These fees can quickly add up, reducing your overall financial health. You can avoid unnecessary fees by keeping only a minimal balance in your checking account and transferring excess funds to savings or investment accounts. The Consumer Financial Protection Bureau states that Americans paid $11.68 billion in overdraft and NSF fees in 2019.
You Miss Out on High-Interest Earnings
Checking accounts typically offer very low interest rates, usually around 0.01% to 0.05% APY. This means that money sitting in your checking account does not grow. For instance, keeping $10,000 in a checking account might earn only $5 annually. In contrast, a high-yield savings account offering 3% APY could earn you $300 in the same period. This difference significantly impacts long-term savings growth. According to a GoBankingRates article, putting your money in accounts with higher interest rates can help maximize your earnings.
You Miss Financial Bonuses
Banks often offer attractive bonuses for opening new accounts, ranging from $200 to $500 for maintaining a minimum balance. You miss out on these opportunities if you keep large sums in a single checking account. Spreading your funds across multiple accounts to take advantage of these promotions can earn you extra money without additional effort. For example, opening three accounts with $3,000 each and receiving a $200 bonus per account adds up to $600 in bonuses.
You Risk Exceeding FDIC Insurance Limits
The Federal Deposit Insurance Corporation (FDIC) insures checking accounts up to $250,000 per depositor, per bank. Any amount above this limit is not protected in case of a bank failure. Keeping your balance within the insured limits by distributing funds across multiple accounts ensures that all your money is safeguarded. The importance of adhering to FDIC insurance limits is emphasized in various financial security guidelines, including those provided by the FDIC.
You Lose Investment Opportunities
Money in a checking account miss out on the benefits of compound interest. Investing funds instead can lead to significant growth over time. For example, $10,000 invested at an annual return rate of 5% could grow to over $16,000 in 10 years due to compound interest. Additionally, contributing to tax-advantaged accounts like IRAs maximizes growth and offers tax benefits.
You Make Financial Management Harder
Managing finances is simpler when your checking account balance is limited to what you need for immediate expenses. This allows you to allocate funds more effectively across different accounts, such as savings and investments, which can help you better track your financial goals. Financial advisors recommend maintaining separate accounts for spending and saving to streamline budgeting and financial planning.
You Don’t Save on Taxes
Large balances in checking accounts can lead to missed tax-saving opportunities. By moving funds into tax-advantaged accounts like IRAs or 401(k)s, you can reduce your taxable income and benefit from potential tax deductions or credits. The Internal Revenue Service (IRS) provides various tax benefits for contributions to retirement accounts, which can help you save more in the long term.
You Sacrifice Financial Discipline
While having a large balance in your checking account might offer psychological comfort, it often leads to poor financial habits. Keeping only necessary funds in your checking account encourages better financial discipline. It helps you focus on long-term financial goals. Financial experts suggest that creating barriers to spending can lead to more thoughtful and deliberate financial decisions.
You Miss Out on Better Returns
While checking accounts offer high liquidity, they do not offer growth. Your money is easily accessible, but it’s not working for you by earning interest. High-yield savings accounts, certificates of deposit (CDs), or short-term bonds can provide better returns while maintaining a reasonable level of liquidity. So, essentially, high-yield savings accounts can offer interest rates significantly higher than traditional checking accounts, sometimes exceeding 3%.
You May Get Poor Loan Rates
Banks often consider the overall relationship with a customer when setting interest rates for loans. If you maintain large balances in a checking account but do not use other financial products like savings accounts, investments, or credit cards, you might not get the best rates. So, diversifying your financial products with a bank can lead to better loan rates and terms.
You Let Inflation Erode Your Savings
Money kept in a checking account loses value over time due to inflation. With an average inflation rate of about 2% per year, the purchasing power of your money decreases if it’s not earning at least that much in interest. For example, $10,000 today would only have a purchasing power of about $9,600 in five years if not invested properly. Utilizing accounts with higher returns can help mitigate the effects of inflation.
You Lose Out on Investment Gains
Every dollar in your checking account is a dollar not invested elsewhere. This represents an opportunity cost, as those funds could generate returns in the stock market, real estate, or other investment vehicles. Over time, these missed opportunities can add up to significant amounts. For example, investing $10,000 with an average annual return of 7% could grow to nearly $20,000 in ten years.
