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Guide to Long-Term Savings Accounts and Tips for Choosing One

What Are Long-Term Savings Accounts?
Lauren Ward
Lauren WardUpdated April 28, 2023
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Editor’s note: Lantern by SoFi seeks to provide content that is objective, independent and accurate. Writers are separate from our business operation and do not receive direct compensation from advertisers or partners. Read more about our Editorial Guidelines and How We Make Money.
A long-term savings account is a saving vehicle you use to store money you don’t expect to need in the near future. You might choose a long-term savings account for goals that are at least five years away, such as making a down payment on a home, saving for your child’s future education, or putting aside money for your retirement. There are many different types of long-term savings accounts, including high-yield savings accounts, certificates of deposit, education savings accounts, and retirement accounts. Read on for a closer look at how to choose the right account for your longer-term savings goals.

What Is a Long-Term Savings Account?

A long-term savings account is designed to help you set aside cash for life events or purchases that are at least several years off. Because you don't intend to spend the money in the near term, you can often qualify for higher annual percentage yields (APYs), which can help your money grow faster. For goals that are five or more years off, you may also consider taking risks with the money, such as investing in the market. You can have a long-term savings account at a bank, credit union, or other financial institution. Recommended: Guide to APY vs APR

How Does a Long-Term Savings Account Work?

Depending on the account you choose, long-term savings may work in a different way than a short-term saving or checking account that you might use to set aside money for upcoming expenses. You may have to maintain a higher minimum monthly balance, leave the money untouched for a certain period of time, and potentially have withdrawal limits as well as other rules to follow.On the upside, you can potentially earn a much higher return on your deposits.

Types of Long-Term Savings Accounts

Here’s a look at different types of accounts  that can help you reach your longer-term savings goals.

High-Yield Savings Accounts

Typically found at online banks, high-yield savings accounts are similar to a traditional savings account except that they offer a higher APY compared to the national average for savings accounts. They typically also have low or no fees. Aside from that, they function like regular savings accounts. These accounts are typically insured by the Federal Deposit Insurance Corporation (FDIC) up to $250,000 per depositor. You can access your money when you need it, though you may be limited to six withdrawals per month. The interest you earn on the account is generally considered taxable income.

Education Savings Accounts

Education savings accounts help you set aside money for your child's future education expenses (including K-12, college, and graduate school), usually with some type of tax advantage. One popular option is a 529 savings plan. The contributions you make in a 529 grow tax-deferred, which means you don’t pay any taxes on the earnings while the money is in the account. And, if you use the money for qualified education expenses, you can withdraw it completely tax-free.After you open a 529, you typically invest the money. Your choices are generally limited to the investments offered under the plan. How those investments perform will determine how much the account value grows over time.A Coverdell Education Savings Account (ESA) works in a similar way but comes with a few more restrictions, including income restrictions and a cap on your annual contributions of $2,000. On the plus side, an ESA offers more flexible investment options and allows for more types of education expenses than a 529 plan.Recommended: Using a 529 Plan vs a Savings Account for College

Certificates of Deposit

A certificate of deposit (CD) is a type of savings account with a fixed interest rate that’s usually higher than a regular savings account. In exchange for the higher APY, you agree to leave the money untouched for a set period of time, ranging anywhere from three months to six years. Generally, the longer the CD term, the higher the interest rate. If you withdraw your funds before the CD matures, however, you’ll typically pay a penalty.CDs are available at banks and credit unions and are usually federally insured. When you open a CD, you lock in your APY. That means even if market rates go down, you still get the higher rate. If market rates go up, however, you won’t get the higher rate.

Retirement Accounts

Retirement accounts were created specifically to give people incentives to save for retirement. Virtually all retirement plans offer a tax advantage, whether it’s available upfront during the savings phase or when you’re taking withdrawals. For example, traditional individual retirement account (IRA) and 401(k) contributions are made with pre-tax dollars, reducing your taxable income. Roth IRA plans, in contrast, are funded with after-tax dollars but withdrawals are tax-free, so you aren’t taxed on any growth.Retirement accounts come with contribution limits. For 2023, the contribution limit for a 401(k) is $22,500; for an IRA, the annual limit is $6,500, plus an additional $1,000 if you're age 50 or older. How much you can contribute to a Roth IRA — or if you can contribute at all — is also dictated by your income.With any type of retirement account, you generally can’t withdraw the money before you are 59½ years of age without triggering some sort of penalty. However, there are some exceptions (such as a first-time home purchase or education expenses).

Benefits of Long-Term Savings Accounts

There are a number benefits to putting money in a long-term savings vehicle, including:
  • Higher returns You can often earn a higher APY in a long-term savings account. If your money is invested in the market, you have the potential to earn a higher return than you could earn in any type of savings account.
  • Compounding interest When you put your money into a savings vehicle long term, you benefit from the power of compounding interest. This is when the interest you earn also earns interest. This can create a snowball effect, as the original money you put into the account plus the income earned from those deposits grow together. This helps you build wealth over time.
  • Tax advantages Some long-term savings products offer some tax relief, such as tax-free withdrawals and tax-deferred growth.
  • Future financial security Setting up a long-term savings plan and regularly contributing to that account (or accounts) helps ensure that you’ll be financially prepared for future events and milestones in your life.

Do You Need a Long-Term Savings Account?

Once you have an emergency fund that includes at least three to six months of living expenses (some may want to consider saving closer to 12 months worth of expenses), it’s a good idea to start saving for future goals, such as funding your retirement and paying for a child’s education. Generally, the earlier you start saving for these large future expenses, the easier it will be to accumulate the money you'll need when the time comes.

Are Long-Term Savings Accounts Safe?

It depends on the account and what you do with the funds. High-yield savings accounts and CDs held at a bank or credit union are federally insured, so you can’t lose your money (up to $250,000), even if the institution were to go out of business. With retirement accounts and education savings plans, you typically have the option to invest in the market. The idea is that, over the long term, the account should provide higher returns than you could get with a regular savings account, since you’ll have time to ride out market fluctuations. There is still risk involved, however. Should you need the money during a downturn, you can potentially lose money on the investment.Recommended: Savings Account vs. Brokerage Account: What's the Difference?

Short-Term vs. Long-Term Savings Account: Do You Need Both?

Short-term and long-term savings accounts serve different purposes and can both be beneficial in crafting a comprehensive financial plan. Rainy day funds and emergency funds are both examples of short-term savings. The cash is placed in an accessible savings account for you to access when expenses pop up, like a car repair or medical bill. You can also use short-term savings accounts to save up for things like a vacation or major purchase.   College savings accounts and retirement accounts are examples of long-term savings accounts and are designed to help you save for goals that are five, 10, or many more years into the future.

Choosing the Best Savings Account For Your Long-Term Goals

The best savings vehicle for your long-term savings goals will depend on your timeline, as well as your tolerance for risk. Start by figuring out the time horizon of your savings goal; in other words, when do you plan to use the money? Goals that are decades away, like retirement or a young child's college tuition, are well-suited for tax-advantaged investment accounts. When comparing options, remember to look at the yield you can potentially get, the risk level of the account (if any), and any fees charged by the financial institution. 

Using Your Long-Term Savings Account Responsibly

Once you set up a long-term savings account, it’s a good idea to automate the savings process. You can do this by having a certain portion of each paycheck directly deposited into the account, or by setting up a recurring transfer form your checking into your savings account on the same day each month. It’s fine if it’s just a small amount. Since you have time on your side, small deposits can accumulate into a significant sum over time. You’ll also want to resist the temptation to touch your funds before you’ve reached your long-term savings goal. Doing this can not only lead to a penalty and/or large tax bill, but will shrink your nest egg.

The Takeaway

Using one or more long-term savings accounts can help you achieve your future goals, thanks to the magic of compounding interest. It’s a good idea to research the best accounts for your time horizon while also paying attention to rules, restrictions, and fees.You can compare multiple savings account options in one place through Lantern by SoFi. With our online banking marketplace, it’s fast and easy to compare high-yield savings accounts based on APY, fees, and balance minimums. Lantern can help you compare online savings accounts and find today’s best rate.

Frequently Asked Questions

Is a long-term savings account better than a short-term account?
What are the benefits of long-term saving?
Are there limitations to long-term savings?
Is a long-term savings account worth it?
Photo credit: iStock/AlexSecret

About the Author

Lauren Ward

Lauren Ward

Lauren Ward is a personal finance expert with nearly a decade of experience writing online content. Her work has appeared on websites such as MSN, Time, and Bankrate. Lauren writes on a variety of personal finance topics for SoFi, including credit and banking.
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