What You Should Do With Your Short-term Savings
Checking Account
This may seem like the easiest choice, but is it really a good one? Besides the obvious problem that it's too easy to spend your savings if you don't have them segregated from your day-to-day operating funds, checking accounts pay lousy interest. The best thing they have going for them is that they're FDIC insured, so your principal is guaranteed.
Savings Account
Savings accounts generally pay higher interest rates than checking accounts, but barely. Like checking accounts, they're FDIC insured, but the interest you earn is unlikely to even keep up with inflation, so in the long-term, you're actually losing buying power.
Money Market Deposit Account
These accounts, offered by most banks, are FDIC insured, allow transactions such as limited check writing, and pay a somewhat higher rate than traditional savings accounts. They usually require a minimum balance, often of $1000 or more.
Money Market Funds
Money market funds offered by brokerages and mutual fund companies differ from the money market deposit accounts offered by banks. Money market funds are NOT FDIC insured and their value is NOT guaranteed. You CAN lose money, although these funds are invested in very safe securities such as government bonds, certificates of deposit, etc.
Certificates of Deposit (CDs)
Certificates of Deposit (CDs) offered by banks are FDIC insured up to $100,000. CDs generally earn a fixed rate of interest over the term, which can range from three months to five years. The longer the term, the higher the interest rate. Some CDs offer adjustable rates tied to the Standard and Poor's 500-stock index or another stock index. If you withdraw funds from a CD before the maturity date, you'll probably pay a penalty. Rates vary signficantly from bank to bank, so it pays to shop around. Web sites like Bankrate.com can help you quickly find the best rates available in the US.
Once your short-term savings reach a certain amount, it makes sense to commit the bulk of these funds to one or more Certificates of Deposit and place enough for a short-term emergency fund in one of the lower interest bearing but more easily accessible accounts. Many people choose to invest in several CDs of different maturity periods so that they have a CD maturing every 6 or 12 months and never have all of their money tied up in a long-range account.
