Interest bearing checking – just barely

In my annual number gathering prior to filing our joint tax return one number in particular jumped out at me. $3.47. That’s the interest our checking account earned during 2011 with a monthly yield ranging from $.04 to $.73. We accumulated barely enough to treat one kid to an ice cream cone, which as of June 2011 cost an average of $4.25!

According to Bankrate’s Checking Account Pricing Study the average interest on a checking account now sits at 0.97 percent. That means that after an entire year each hundred dollars of our money has finally, but not quite, earned one penny.

Suppose you try to explain this to your child, saying something like, “If you keep $100 in your checking account for one year, you’ll earn one penny.” Your child stares up at you and asks,

“How long would it take for one penny to earn a penny?” Leave it to a kid to ask the hard question.

Ben Franklin did say that “a penny saved is a penny earned”, but did he realize it would take 74 years! This is based on the Rule of 72, that wonderful formula that explains how long it takes for an amount of money to double. By the time that penny doubles in value your child be answering silly questions from his great-grandchildren.

Just for fun I translated these numbers to punch into my calculator so I could see what’s really happening with my money.

Starting with the .97 percent, we see that this number is a percentage. That means it is only one part of a hundred. To get to a real number you have to divide by 100. Caution: division makes numbers smaller!

When we divide .97 by 100 we end up with a very small number that looks like this .0097. Now we’re ready to calculate some interest.

If you multiply $2,000 by .0097 you get 19.4 cents. But wait. You now have to divide that by 12 because .97 percent is an Annual Percentage Rate (APR), a number that is based on keeping the money in the bank for the entire year.

So we divide 19.4 by 12 and end up with a whopping 1.6 cents. It’s that pesky division again, making the number even smaller. The bottom line is that by leaving your $2,000 in the bank for the entire year you will get a return of about 20 cents

Not only is the yield small, but consumers must also keep more money in their accounts just to qualify to earn any interest at all. According to the same study the average minimum balance required to earn interest has increased 5 percent from one year ago. So one needs to keep 5 percent more in a checking account to earn less than 1 percent. Even a regular passbook savings account will earn only an average of .14 percent APR.

Even a kid can see that trying to grow money in a savings account is a very slow process indeed. Yet we continue to encourage our kids to save. In my opinion the concept of interest bearing checking accounts at a bank does not provide a valuable example of saving for our kids; the rate of return is too small.

We can provide a better lesson when we put saving in terms that kids can relate to. Change the conversation slightly to say to your child, “If you don’t spend that money today you’ll have more next month to buy that thing you’ve been talking about.”

In doing so you encourage saving money by not spending money. Your child learns that deferring spending can lead to making a better purchase in the future. When we help our kids understand the importance of knowing when to spend and when not to spend we guide them to make better choices with their money. I write more about this in my blog, To spend or not spend, that is the savings lesson for kids.

In looking at our $3.74 earned interest, I don’t feel encouraged or rewarded for having an interest bearing checking account. In the end, whether we share an ice cream cone or save it for the future, we are required to declare it as income on our tax return. Our money didn’t work very hard, but it did earn a few dollars. I’ll really be bummed if those few bucks bump us into the next tax bracket!

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