The interest you earn depends on the account's APY, how much you deposit, and how long the money sits there
A savings account earns interest based on three things: the annual percentage yield (APY) the bank offers, the dollar amount you keep in the account, and the time that money stays deposited. The higher the APY, the more you earn. A $10,000 deposit at 4.5% APY earns roughly $450 per year. The same $10,000 at 0.01% APY earns about $1 per year. Banks calculate this daily or monthly, depending on the account, so you don't have to wait a full year to see interest appear.
The catch is that APY rates change. Banks raise them when the Federal Reserve increases its benchmark rate, and lower them when the Fed cuts rates. A high-yield savings account might offer 4.5% today and 3.8% next month. The rate you see advertised is what new deposits earn going forward, not a locked-in promise for years. Money you already have in the account earns interest at whatever rate the bank currently pays.
Key Takeaways
- Interest earned equals your balance multiplied by the APY, divided by 365 days—so a $5,000 balance at 4% APY earns roughly $200 per year, or about $17 per month.
- Banks compound interest daily or monthly, meaning you earn interest on the interest you've already earned, though the effect is small in savings accounts.
- APY rates are not fixed; they move with market conditions, so the rate you lock in today may be lower or higher in three months.
- Money market accounts and certificates of deposit (CDs) often pay higher rates than regular savings accounts, but may require larger deposits or lock your money away for a set period.
How the math works with a concrete example
Say you deposit $25,000 into a high-yield savings account offering 4.5% APY. The bank calculates your daily interest by dividing 4.5% by 365 days, then multiplying that daily rate by your balance. That's roughly 0.0123% per day. On day one, you earn about $3.07. On day two, if you haven't withdrawn anything, you earn interest on $25,003.07—slightly more than the day before, because of compounding.
Over a full year, that $25,000 earns approximately $1,125 in interest, assuming the rate stays at 4.5% and you don't add or withdraw money. If you withdraw $5,000 after six months, the remaining $20,000 earns interest at the same rate for the second half of the year. The total interest for the year would be roughly $787.50 instead of $1,125.
The real-world picture is messier because rates change. If your account starts at 4.5% APY but the bank drops it to 3.8% after three months, your annual earnings fall. You earn $281.25 on the first three months (at 4.5%), then $228.75 on the remaining nine months (at 3.8%), for a total of about $510 instead of $1,125.
Why different account types pay different rates
Regular savings accounts at big banks often pay 0.01% to 0.05% APY because the bank can lend out your money at much higher rates and keep the difference. High-yield savings accounts, usually offered by online banks with lower overhead costs, pay 4% to 5.5% APY because they compete on rate to attract deposits. Money market accounts sit in the middle, typically paying 3% to 4.5%, and often require a higher minimum balance.
Certificates of deposit (CDs) lock your money away for a fixed term—three months, six months, one year, five years—and pay a set rate for that entire period. A one-year CD might pay 5.2% APY, while a five-year CD pays 4.8%. You can't touch the money without paying an early withdrawal penalty, usually equal to a few months of interest. In exchange, the bank knows exactly how long it can use your money, so it pays you more.
Money market accounts let you write checks and make withdrawals, but banks often limit how many you can make per month. They pay more than regular savings accounts but less than CDs, because the bank has less certainty about when you'll withdraw.
How compounding affects your earnings over time
Compounding means you earn interest on interest. If your account compounds daily, the interest you earn on day one gets added to your balance, and on day two you earn interest on that larger amount. Over a year, this effect is small—the difference between 4.5% straightforward interest and 4.5% compounded daily is less than $2 on a $25,000 balance. Over five or ten years, it becomes more noticeable.
A $25,000 deposit at 4.5% APY compounded daily grows to about $31,200 after five years. Without compounding (if you withdrew the interest each year), you'd have $30,625. The extra $575 came from earning interest on interest. The longer your money sits, the more compounding matters, but in a savings account the effect is modest compared to investments that earn higher returns.
What happens when rates drop or rise
When the Federal Reserve raises its benchmark rate, banks typically raise savings account APYs within days or weeks. When the Fed cuts rates, banks often drop savings rates much faster—sometimes within hours. This asymmetry means you benefit quickly from rate increases but lose ground quickly when rates fall.
If you have $50,000 in a high-yield savings account at 5% APY and the rate drops to 3.5%, your annual interest income falls from $2,500 to $1,750—a loss of $750 per year. You don't lose the money you've already earned, but future earnings shrink. Some people move their money to a different bank offering a higher rate, though this takes a few days and requires opening a new account.
Comparing savings accounts to other places to keep money
A regular checking account earns almost nothing—typically 0.01% APY or less. A money market fund (not a money market account) held at a brokerage earns roughly the same as a high-yield savings account but is not insured by the FDIC. Treasury bills and short-term bonds pay rates similar to or slightly higher than savings accounts, but require you to buy them through a brokerage and carry small risks.
The trade-off is safety versus return. A high-yield savings account is FDIC-insured up to $250,000 per depositor per bank, so your money is protected even if the bank fails. A stock or bond investment can earn more over time but can also lose value. For money you need to access within a year or two, a high-yield savings account or short-term CD usually makes sense. For money you won't need for five or more years, other investments may earn more.
How to find the current rates banks are offering
Bank websites show their current APY rates on the savings account page, usually near the top. Online banks like Marcus, Ally, and American Express Personal Savings advertise their rates prominently because rate is their main selling point. Traditional banks like Chase and Bank of America show lower rates, often buried in the fine print. Comparison sites like Bankrate and DepositAccounts list rates across many banks and update them daily.
When you see a rate advertised, check whether it applies to new deposits only or to your entire balance. Some banks offer a promotional rate for the first few months, then drop to a lower rate. Read the terms before opening an account. The difference between 4.5% and 3.8% APY doesn't sound large, but on a $50,000 balance it's $350 per year.
Frequently Asked Questions
Do I have to pay taxes on savings account interest?
Yes. Interest earned in a savings account is taxable income. Banks send you a 1099-INT form at the end of the year if you earned $10 or more in interest. You report this on your tax return. The tax you owe depends on your overall income and tax bracket, but it reduces the real return you keep.
Can I lose money in a savings account?
No, as long as the bank is FDIC-insured and you stay under the $250,000 insurance limit per depositor per bank. Your balance can only grow or stay the same. You can't lose principal, though inflation can reduce what your money buys.
What's the difference between APY and APR?
APY includes the effect of compounding; APR does not. For savings accounts, APY is the number that matters because it shows what you actually earn. APR is used for loans and credit cards.
Should I move my money to a different bank if rates drop?
It depends on how much you have and how much the rate dropped. Moving $5,000 from a 4.5% account to a 3.8% account costs you $35 per year. If the process takes a week and you're without access to the money, that might not be worth it. Moving $100,000 costs you $700 per year, which may justify the effort.
Can I earn interest on a CD before it matures?
No. A CD pays its rate only if you keep the money locked until the maturity date. If you withdraw early, you pay a penalty that usually wipes out several months of interest. Some banks offer no-penalty CDs that let you withdraw without penalty, but they pay lower rates than traditional CDs.