What determines how much interest you earn

The amount of interest your savings account makes depends on three things: the interest rate the bank offers, how much money you have in the account, and how long it sits there. A bank sets its rate based on what the Federal Reserve does with its benchmark rate—when the Fed raises rates, banks typically raise savings rates too. When the Fed cuts rates, savings rates fall. You earn nothing on money that leaves your account, and you earn more on larger balances.

The actual dollar amount you earn is calculated using a formula: your balance multiplied by the annual interest rate, divided by 365 days. Most banks compound interest daily, meaning they calculate what you've earned and add it back to your balance, so tomorrow you earn interest on yesterday's interest too. This compounding happens automatically—you don't have to do anything.

Right now, savings account rates vary widely depending on the bank. A large national bank might offer 0.01% annual percentage yield (APY), while an online bank might offer 4.50% to 5.35% APY. The difference between these two is enormous: on a $10,000 balance, 0.01% earns $1 per year, while 5.00% earns $500 per year. The type of account also matters—money market accounts sometimes pay slightly more than savings accounts at the same bank, and certificates of deposit (CDs) typically pay more if you lock your money away for a set period.

Key Takeaways

  • Your interest earnings equal your account balance multiplied by the annual interest rate, with most banks calculating and adding interest daily.
  • Banks set their savings rates based on Federal Reserve decisions, so rates rise when the Fed raises its benchmark rate and fall when it cuts.
  • Online banks and credit unions typically offer much higher rates than large national banks, sometimes 4% to 5% more on the same balance.
  • Moving your money to a higher-rate account can earn you hundreds of dollars per year on the same balance, with no risk to your deposit.

How online banks pay more than traditional banks

Online banks pay higher rates because they have lower operating costs. They don't maintain physical branches, employ as many staff members, or spend money on building leases and maintenance. Because their expenses are lower, they can pass more of their revenue to depositors as interest. A large national bank with thousands of branches nationwide has to cover all those costs before it can pay you anything.

Credit unions also tend to pay higher rates than traditional banks, though not always as high as online banks. Credit unions are member-owned cooperatives rather than shareholder-owned corporations, so they return profits to members instead of shareholders. Both online banks and credit unions are insured by the FDIC or NCUA respectively, so your money is protected the same way it would be at a traditional bank.

The tradeoff is convenience: you can't walk into a branch to deposit cash or speak to someone in person. Most online banks let you deposit checks by phone camera, and you can transfer money electronically. If you rarely need in-person banking, the higher rate usually makes the switch worthwhile.

What happens to your rate when the Federal Reserve changes policy

When the Federal Reserve raises its benchmark interest rate, banks have more incentive to offer higher savings rates because they can charge more to borrowers. Competition for deposits increases, and banks raise what they pay you. This usually happens within days or weeks of a Fed rate increase. The opposite is true when the Fed cuts rates—banks lower savings rates quickly because they can charge less to borrowers and still be profitable.

Your rate can change at any time unless you lock it in with a CD. Banks are not required to give you notice before lowering your rate on a regular savings account, though most do. If your bank drops its rate and you don't like the new one, you can move your money to another bank without penalty. There's no early withdrawal fee on savings accounts the way there is on CDs.

Rate changes don't affect money you've already earned—interest that's been added to your account stays there. Only future interest is calculated at the new rate.

How to calculate what you'll actually earn

The basic formula is simple: balance × annual rate ÷ 365 = daily interest earned. If you have $5,000 in an account paying 4.50% APY, you earn $5,000 × 0.045 ÷ 365 = $0.62 per day. Over a year, that's about $225 before compounding. With daily compounding, you earn slightly more because interest gets added daily and then earns interest itself.

Most banks show you the projected annual earnings right on their website or in your account details. You can also use an online savings calculator—search "savings interest calculator"—and enter your balance and the bank's APY to see what you'd earn over any time period. These calculators account for compounding automatically.

The key number to compare between banks is APY, not APR. APY includes the effect of compounding, so it's the true rate you'll earn. APR does not, so it understates what you actually make.

Why some accounts pay more than others at the same bank

A single bank often offers different rates on different account types. A money market account might pay 4.75% while a regular savings account pays 4.50%. A CD might pay 5.10% if you lock your money for one year, or 5.35% if you lock it for five years. Banks do this because they want to encourage you to either keep larger balances (money market accounts often require higher minimums) or commit your money for longer (CDs).

Some banks also offer promotional rates for new customers—a higher rate for the first few months to get you to open an account. After the promotional period ends, the rate drops to the standard rate. Read the terms carefully so you know when the promotional rate expires and what your rate will be afterward.

Within the same account type at the same bank, everyone gets the same rate. Banks don't negotiate individual rates based on how much money you have, though some accounts do require a minimum balance to earn the advertised rate.

The difference between savings accounts and other ways to save

A regular savings account is the most flexible option—you can deposit and withdraw money anytime without penalty. The tradeoff is that savings accounts typically pay less than CDs. A CD locks your money for a set period (three months, one year, five years, etc.) in exchange for a higher rate. If you withdraw before the term ends, you pay an early withdrawal penalty that can wipe out months of interest earnings.

Money market accounts are a middle ground. They usually pay more than savings accounts but less than CDs, and they let you write checks or make transfers, though often with limits on how many per month. High-yield savings accounts are just regular savings accounts at online banks that pay much higher rates—there's nothing special about them except that the bank's costs are lower.

If you know you won't need the money for a specific period, a CD is usually the better choice because the rate is may provide and higher. If you might need it sooner, a high-yield savings account gives you most of the benefit of a CD without the penalty risk.

What you should know about rate changes and account switching

Banks can lower your savings rate at any time, and they often do when the Federal Reserve cuts rates. You have no obligation to stay with a bank that lowers its rate below what competitors offer. Switching banks is free and takes about 15 minutes—you open a new account at the higher-rate bank, then transfer your balance electronically or by check deposit. Your old account closes, and that's it.

The FDIC insures each account separately up to $250,000, so if you have $100,000 at Bank A and move it to Bank B, both are fully insured during the transfer. You don't lose coverage by switching. Some people keep accounts at multiple banks to earn higher rates on larger balances—for example, $250,000 at Bank A and $250,000 at Bank B, each earning the highest available rate.

The only reason to stay with a bank paying a low rate is if you use other services there and value the convenience. If you're only using it for savings, the higher rate at another bank almost always makes switching worthwhile.

Frequently Asked Questions

How often do banks compound interest?

Most banks compound daily, meaning they calculate and add interest to your balance every day. Some compound monthly or quarterly, which earns you slightly less because compounding happens less often. Daily compounding is standard at online banks. Check your bank's disclosure documents or website to see how often they compound.

Will I owe taxes on the interest I earn?

Yes. Interest earned in a savings account is taxable income. Your bank will send you a 1099-INT form at the end of the year showing how much interest you earned, and you report that on your tax return. The amount is usually small unless you have a large balance or a high rate, but it still counts as income.

What happens to my interest if I withdraw money mid-year?

You keep all the interest that was added to your account before you withdrew. Interest is calculated daily and added to your balance, so it's yours once it's in the account. You only lose future interest on the money you withdrew. For example, if you earn $50 in interest over six months and then withdraw half your balance, you keep the $50 and earn less going forward because your balance is smaller.

Is there a minimum balance I need to earn interest?

It depends on the bank. Some banks require a minimum balance like $500 or $1,000 to earn the advertised rate, while others have no minimum. If your balance falls below the minimum, you might earn a lower rate or no interest at all. Check your bank's terms before opening an account if you have a small balance.

Can my savings account rate go negative?

No. In the United States, banks cannot charge you interest on savings accounts—they can only pay you or pay you nothing. The rate can drop to 0.01% or lower, but it won't go below zero. Some countries have experimented with negative rates, but that's not how U.S. banking works.