High Yield Savings Account vs Roth IRA

Planning for life events such as buying a house or saving for retirement may seem so daunting you do not know where to start. Or perhaps these events seem so far down the road you haven’t begun to think about them. The reality is, the sooner you start saving and investing your money, the better off you will be. Now, the question is, where to put your money for the best financial future.

This post will explore the differences between High Yield Savings accounts (HYS) and Roth Individual Retirement Accounts (IRAs) to get you one step closer to achieving your financial goals.

What is a High-Yield Savings Account?

A high-yield savings account provides a higher interest rate than standard savings accounts. These accounts offer a safe and secure way to store your money with a competitive annual percentage yield (APY). A high-yield savings account can be opened with the intent to save for anything. Common saving goals when opening a HYS include big vacations, emergency funds, and mortgage down payments.

Competitive APYs

High-yield savings accounts offer higher interest rates compared to standard savings accounts. While interest rates may vary between institutions and economic conditions, they generally outperform traditional savings accounts, helping your money grow faster over time.

Easily Access Funds

High-yield savings accounts grow your money while keeping it accessible. You can easily deposit and withdraw funds as needed without penalties or restrictions (depending on your bank’s withdrawal policies). This flexibility can be particularly beneficial for short-term financial goals or emergency expenses.

What is a Roth IRA?

A Roth IRA is a retirement savings account that allows you to contribute after-tax income to an account where the accrued earnings will be tax-free. Roth IRAs are designed to provide tax-free income during retirement, making them an attractive option for long-term wealth accumulation. Roth IRAs grow your money by investing it into a diversified portfolio of stocks, bonds, ETFs, and more. Some benefits of a Roth IRA include:

Tax-Free Growth and Withdrawals

One of the most significant advantages of a Roth IRA is the potential for tax-free growth and withdrawals. Since you contribute after-tax income, the money in your Roth IRA can grow and be withdrawn tax-free during retirement. This can be incredibly beneficial in maximizing your retirement savings.

Contribute at Any Age

Unlike traditional retirement accounts, there are no mandatory withdrawal requirements during your lifetime, allowing you to continue contributing to your Roth IRA for as long as you want. This makes it an excellent option for those who wish to keep saving for retirement beyond the age of 72.

High-Yield Savings Account vs. Roth IRA: Key Differences

Before contributing to any account, consider your financial goals, and ensure they align with the purpose of the account(s) you plan to open. To gain a greater understanding of the use cases for each of these account types, let’s explore the key differences between them.

General Purposes

The purpose of the accounts can be very different. A high yield savings account is a versatile account created to help one achieve their savings goals at a faster rate than in a traditional savings account. An individual may use a high yield savings account as a vessel for holding and growing money for a vacation, a mortgage down payment, or an emergency fund. Because a high yield savings account can be used for both short- and long-term financial goals, the funds are kept accessible, typically through transfers to a transactional or checking account, where it can be easily withdrawn or spent.

A Roth Individual Retirement Account, as the name suggests, is an account specifically designed for retirement savings. One can access their Roth IRA savings at age 59 ½ and after the account has been open for 5 years. Roth IRA owners may face penalties for early withdrawals. The real power of a Roth IRA lies in its ability to grow your savings tax-free over decades, providing a reliable source of income during your retirement years.

Potential for Growth

Both Roth IRAs and HYS accounts offer growth opportunities, but the long-term potential between the accounts differs. High-yield savings accounts offer greater APYs than traditional savings accounts, but the interest rates attached to HYS are not locked-in. The APYs will rise and fall with market conditions and can be changed by your financial institution as it sees fit. There may be times the APYs will not keep up with the inflation rate, meaning over time, the power of your money may diminish.

On the other hand, a Roth IRA is typically invested in a diversified portfolio of stocks, bonds, and other assets, which historically have the potential to outpace inflation and provide significant long-term growth. This makes a Roth IRA an attractive option for those looking to build substantial wealth for retirement.

Contribution Limits

High-yield savings accounts do not have specific contribution limits, allowing you to deposit as much as you like.

Roth IRAs have annual contribution limits set by the IRS. The limit may change over time due to inflation adjustments, but it provides a structured approach to retirement savings. As of 2023, the annual contribution limit for individuals under 50 is $6,500, and for those 50 and older, it’s $7,500.

Level of Risk

If your financial institution is FDIC insured, your HYS balance can be covered up to the standard amount of $250,000 per depositor, per category, per institution. The APY of a high yield savings account is typically competitive and greater than that of a traditional savings account, but it may not always beat inflation rates and can change at any moment. The level of risk is low, but the reward is modest.

A Roth IRA invests your money in a diversified portfolio of stocks and bonds, this increases the risk of your investment as well as the reward. There may be times when the value of your Roth IRA investments decreases with the market, but it is generally a stable investment that grows over time, setting you up well for retirement.

Withdrawal Policies

In a high yield savings account, banks typically allow you to withdraw your funds at any time without penalties, but it is always important to know a bank’s policies before opening an account.

In a Roth IRA, things are a bit different. Withdrawing the earnings before the age of 59½ may result in taxes and early withdrawal penalties of up to 10% unless you meet specific exceptions. This is because the tax benefits of a Roth IRA are intended to encourage long-term retirement savings.

Saving with Both Accounts

Rather than choosing between a high yield savings account and a Roth IRA, many financial experts recommend using both accounts to diversify your savings strategy. Here’s how you can make the most of these accounts:

Build an Emergency Fund

Start by establishing a robust emergency fund in a HYS. This fund should cover three to six months’ worth of living expenses and act as a safety net for unexpected situations.

Save for Retirement

Once you have an emergency fund in place, start contributing to your Roth IRA. Take advantage of the tax-free growth potential and let your contributions grow over time. Aim to max out your annual contributions if possible to maximize the long-term benefits.

Save Smarter with TAB Bank

Saving for any goal is especially overwhelming if you do not know where to begin. TAB Bank offers FDIC-insured online banking so you can get started and keep saving from anywhere in the world. Our high-yield savings accounts offer competitive APYs with no minimum balance. Don’t just start saving, save smarter with TAB Bank.