Chapter 5 Financial Services: Savings Plans and Payment Accounts

Chapter 5 Learning Objectives Analyze factors that affect selection and use of financial services Compare the types of financial institutions Compare the costs and benefits of various savings plans Identify the factors used to evaluate different savings plans Compare the costs and benefits of different types of payment accounts

A Cash Management Strategy Objective 1: Analyze factors that affect selection and use of financial services Banks, saving and loan associations, credit unions, and other financial institutions provide a variety of financial services Account aggregation: online banking -- deposits, investments, credit cards, loans, mortgages, rewards programs and IRAs MEETING DAILY MONEY NEEDS Cash, check, credit card or an ATM are the most common payment choices

A Cash Management Strategy (continued) Common mistakes in managing cash include… Overspending from impulse buying and using credit cards Not having enough liquid assets (cash and checking account) to pay current bills Using savings or borrowing to pay for current expenses Failing to put unneeded funds in an interest-earning savings account or investment plan

A Cash Management Strategy (continued) TYPES OF FINANCIAL SERVICES Savings Time deposits in savings, CD’s Payment services Checking accounts are called demand deposits Automatic payments Borrowing for the short- or long-term Other financial services Insurance, investment, real estate purchases, tax assistance, and financial planning are additional services you may use

A Cash Management Strategy (continued) Other types of financial services (continued) Trust A legal agreement that provides for the management and control of assets by one party for the benefit of another Asset management account Also called a cash management account Offered by brokers and financial institutions Provides a complete financial service program for a single fee and includes: A checking account and an ATM card A credit card Online banking Line of credit Access to a variety of investments www.schwab.com or www.americanexpress.com

A Cash Management Strategy (continued) ELECTRONIC AND ONLINE BANKING Obtain cash; check account balances Direct deposit of paychecks, government payments Preauthorized payments for insurance, mortgage, utilities, and other bills Online transfer of funds from one account to another Debit card retail purchases

ELECTRONIC AND ONLINE BANKING

A Cash Management Strategy (continued) OPPORTUNITY COSTS OF FINANCIAL SERVICES Higher rate of return may be obtained at the cost of lower liquidity Convenience of a 24-hour ATM should be considered against service fees The “no fee” checking account with a $500 non-interest-bearing minimum balance means lost interest of nearly $400 at 6 percent compounded over 10 years

A Cash Management Strategy (continued) FINANCIAL SERVICES AND ECONOMIC CONDITIONS Changing interest rates, rising consumer prices and other economic factors also influence financial services Be aware of current trends and future prospects for interest rates (Exhibit 5-3) Read Wall Street Journal, business section of daily newspapers, and business periodicals, such as BusinessWeek, and Forbes

Financial Institutions Objective 2: Compare the types of financial institutions DEPOSIT INSTITUTIONS Commercial banks Offer a full range of services including checking, savings, lending and other services Savings and loan associations Offer specialized savings plans, loans including mortgages, and other financial planning services Mutual savings banks specialize in savings accounts and mortgage loans: they are owned by their depositors Credit unions are user-owned, nonprofit cooperative financial institutions

Financial Institutions (continued) OTHER FINANCIAL INSTITUTIONS Life insurance companies Offer insurance, plus savings and investment features; some offer financial planning and retirement services Investment companies Are also referred to as Mutual Funds Offer a money market fund on which you can write a limited number of checks Finance companies Make short and medium term loans to consumers, but at higher rates Mortgage companies Provide loans to customers so they can purchase homes

Financial Institutions (continued) Beware of high-cost financial services Pawnshops -- Make loans on possessions but charge higher fees than other financial institutions, used for quick cash Check-cashing outlets --Charge 1-20% of the face value of a check: 2-3% is average Payday loans -- use personal check $115 to borrow $100 cash for 14 days -- 391% annual

Financial Institutions (continued) COMPARING FINANCIAL INSTITUTIONS Basic concerns of a financial service customer Where can I get the best return on my savings? How can I minimize the cost of checking and payment services? Will I be able to borrow money when I need it?

Financial Institutions (continued) When choosing a financial institution Consider: Services offered Interest rates Fees and charges Financial advice Safety (deposit insurance) Convenience Locations Online services Special programs

Savings Plans Objective 3: Compare the costs and benefits of various savings plans REGULAR SAVINGS ACCOUNTS Called passbook accounts, involve a low or no minimum balance Credit unions call them share accounts CERTIFICATES OF DEPOSITS Require you to leave your money on deposit for a set time period, otherwise you incur penalties Several types (rising-rate, indexed, callable, global, promotional) Consider all the earnings and all the costs

Savings Plans (continued) MONEYMARKET ACCOUNTS AND FUNDS Money market accounts are covered by the FDIC, but money market funds are not U.S. SAVINGS BONDS Series EE sold at half of face value, with potential tax advantages -- deductible if used to pay tuition and fees -- Exempt from state and local income taxes -- You don’t have to pay federal income tax on interest until redemption Series HH are current-income bonds that pay interest every six months I Bonds combine fixed rate and inflation rate See www.savingsbonds.gov for rates

Evaluating Savings Plans Objective 4: Identify the factors used to evaluate different savings plans RATE OF RETURN Percentage or yield is the increase in value due to interest Example: a $500 savings account that earned $25 has a yield of 5 percent COMPOUNDING Frequent compounding means more interest earning on interest

Evaluating Savings Plans

Evaluating Savings Plans (continued) TRUTH IN SAVINGS Requires Disclosure of... Fees on deposit account The interest rate The annual percentage yield (APY) Other terms and conditions INFLATION Compare your APY with inflation rate TAX CONSIDERATIONS Taxes reduce interest earned on savings Taxes are not withheld from savings and investments; you may owe additional taxes at year-end as a result of earnings on saving

After Tax Savings Rate of Return (1 - tax rate) x yield on savings (1 - .28) x .06 .72 x .06 4.32% A person earns 6% on savings, but has a 28% marginal tax rate. The after tax rate of return is 4.32%.

Evaluating Savings Plans (continued) LIQUIDITY Allows you to withdraw money on short notice without penalty or fees SAFETY FDIC insures up to $250,000 per person per financial institution (see www.fdic.gov) RESTRICTIONS AND FEES Several restrictions can affect the choice of a savings program Delay in time between earned and posted, transactions fees from deposits and withdrawals, time money has to be left in a deposit account in order to receive a “free” gift, etc.

Payment Methods Objective 5: Compare the costs and benefits of different types of payment accounts ELECTRONIC PAYMENTS Debit Cards Online Payments –most credit cards now offer this service Stored-value cards Smart Cards

Payment Methods (continued) TYPES OF CHECKING ACCOUNTS Regular Checking Accounts– many have minimum balances Activity Account -fees on checks & deposits Interest-earning or NOW accounts, which usually require a minimum balance Interest Earning Checking accounts are also known as Share draft accounts at credit unions

Payment Methods (continued) EVALUATING CHECKING ACCOUNTS Checking accounts need to be evaluated based on : Restrictions Fees and charges Interest rate and computation method Special services, such as overdraft protection

Payment Methods (continued) MANAGING YOUR CHECKING ACCOUNT Opening a Checking Account Individual or joint account Making Deposits Deposit ticket Endorsement Blank endorsement Restrictive endorsement Special endorsement

Payment Methods (continued) Writing Checks Record the date Write the name Record the amount Write the amount in words Sign the check Note the reason for payment

Payment Methods (continued) OTHER PAYMENT METHODS Certified check Personal check with guaranteed payment Cashier’s check Check of a financial institution you get by paying the face amount plus a fee Money order Purchase at financial institution, post office, store Traveler’s check Sign each check twice Electronic traveler’s checks - prepaid travel card

Online Activity Go to www.bankrate.com and explore money market account rates Also, look at rates for one year and five year CDs. If you had money to invest right now, which maturity of CDs would you choose?