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Managing Liquidity (Checking Accounts and Bank Savings) 9

The Roles of Money Management and Savings
If you can’t manage your checking and savings accounts properly, you’ll have trouble managing more complicated investments, such as retirement accounts
Why maintain cash balances?
It’s expensive (because you’re forgoing interest income)
But we like the convenience

Why savings are so important
Very liquid
Serves as an emergency fund
Allows us to achieve a certain goal (vacation, car down payment, etc .)
Americans save less than 2.5% of their income
Europeans save about 10%+

How much savings do you need?
Emergency fund
Should have amount equal to about 3 to 6 months of after-tax income
Additional amount depends on your goals (short- and long-term)
Do you want to buy a house soon? Need to save for the down payment
Have money automatically transferred to your savings account from each paycheck
Treat it as a fixed expense

How fast your savings will grow depends upon:
What interest rate your savings earn (stated or nominal rate)
Frequency of compounding
How much money you deposit periodically
How your account balance is determined

What Determines How Fast Your Savings Will Grow?
The impact of time on interest earned
If interest is being compounded (earning interest on interest), time can have a significant impact
The frequency of compounding
The more frequently money is compounded, the more often interest is paid—so money grows faster
Your effective interest rate is greater the more often interest is compounded
The treatment of deposits and withdrawals
Most financial institutions use the day-of-deposit-to-day-of-withdrawal method of computing interest
Interest is based on the exact number of days the money is in your account
Other methods include minimum balance (will earn less interest this way)

Choosing a Financial Institution
Financial institutions include banks and credit unions
Factors influencing your decision
How important is convenience to you?
Do you choose a bank just because it’s right around the corner from your house?
Convenience is important, but nowadays with electronic banking it’s not nearly as important
Direct deposit, online-banking, epay, etc .

What services do you expect?
Electronic banking
Safe deposit box
Do you want good, personal service where the tellers know you by name?
What insurance safeguards are present?
Most financial institutions (banks, credit unions) are federally insured up to $250,000

How much does it cost?
Before deregulation financial institutions offered many services for ‘free’
Charged a basic fee for having an account
Provided free checks, help with reconciliation, etc .
Banks competed on the basis of service because basically all banks paid customers same interest rate on deposits
The spread between interest paid to customers and interest charged on loans was large
Since deregulation banks compete for deposits based on interest rates
Spread on interest paid vs. charged has narrowed
Banks have eliminated ‘free’ services and now charge fees (sometimes very HIGH fees)
Banks collect about $20 billion in fees (up 200% from 10 years ago)
Fees vary widely from bank to bank
Shop around

What are the Major Financial Institutions?
Commercial banks (AKA full-service banks)
Offer:
Checking and savings accounts
Personal and business loans
Trust services
Safe-deposit boxes
Mortgage loans
Discount brokerage serves (maybe)
Convenient (Over 65,000 branch offices across U.S.)

Savings Banks (S&Ls)
Traditionally serve consumers
Mortgage loans (make about 40% of all mortgage loans)
Today are more similar to commercial banks
Credit Unions
Cooperative venture owned by depositors and borrowers
Organized to serve specific groups of people
Non-profit so offer lower interest rates on loans, pay higher interest rates on deposits
Generally don’t want to take a great deal of risk

Brokerage Firms
Offer central asset management accounts
Combines a checking account, debt/credit card, and a money market fund with a traditional brokerage account
Cash earned from dividends, interest, etc . is automatically swept into a money market account
You start earning interest on your money immediately
You can write a check (or use debit/credit card) to access your funds
Minimum investment required, which varies across brokerage firms
Check out minimum investment amount and fees (if any), customer service, choice of money market funds, credit/debit card features, margin rates

Checking Accounts
Regular checking accounts
Some banks require a minimum balance (average is $500) which give you unlimited check writing privileges
Some banks charge no fee unless you exceed a certain number of checks per month
Banks can pay interest on checking accounts but rarely do
Special checking accounts
Require no minimum balance
Most banks charge a per check fee ($0.10-$0.15 per check) plus monthly maintenance fee
May be a good choice for college student if write only a few checks

Checking Accounts
Overdraft Protection
If you write a check for an amount greater than the balance in your checking account it is still covered
You pay a fee (essentially interest on a short-term loan)
NOW Accounts (Negotiable Order of Withdrawal)
Combined checking and savings account
Pays interest on balance (but lower rate than savings account)
Can write checks (actually are authorizations to take money from savings)
Minimum balance of about $1,000
If balance drops below the minimum a fee is charged
Shop around!
NOW accounts at credit unions are called Share-Draft Accounts

Checking Account Basics
A checking account allows you to write checks to make payments.
A check is a written order to a bank to pay the amount stated to the person or business named on it.
A checking account is also called a demand deposit , because the money may be withdrawn at any time—that is, “on demand.”

Checks follow a process through the banking system.
The payee cashes your check.
The bank that cashed the check returns it to your bank.
Your bank withdraws the money from your account and sends it to the other bank.
Your bank then stamps the back of your check, indicating that it has cleared.
A canceled check is a check that has cleared your account.
(continued)

Many banks no longer send paper checks to other banks for processing.
To make processing faster and more efficient, they exchange check information electronically by transmitting an image of the check, called a substitute check.
A substitute check can be used in the same way as an original check.
(continued)

You must also maintain enough money in your account to cover all the checks you write.
A check written for more money than your account contains is called an overdraft .
A bank that does not honor a check usually stamps the check with the words “not sufficient funds” (NSF) and returns the check to the payee’s bank.
When this occurs, the check has bounced.
Your bank will charge you a fee for each NSF check processed.
(continued)

Floating a check is writing a check and hoping to deposit money to cover it before the check clears.
Floating a check is very risky because today’s electronic systems allow checks to process very quickly.
Floating a check is illegal in most states.
(continued)

Checking Account Advantages
Convenience
Safety
Built-in record keeping system
Access to bank services

Opening a Checking Account
Signature authorization form
Initial deposit

Parts of a Check Check Number ABA Number Name and Address of Maker Date Payee Numeric Amount Written Amount Signature Account and Routing Numbers Memo

Using Your Checking Account
Writing checks
Paying bills online
Making deposits
Using a checkbook register
A checkbook register is a booklet used to record checking account transactions.

Bank Reconciliation
The process of matching your checkbook register with the bank statement is known as bank reconciliation .

Reconciling Your Checking Account
1. Write ending balance from bank statement.
2. Add credits or deposits not on statement.
3. Total lines 1 and 2.
4. List checks, withdrawals, and debits made but not shown on statement.
5. Total outstanding checks/debit transactions.
6. Subtract line 5 from line 3. (Result should match checkbook balance)

Endorsing Checks
A check generally cannot be cashed until it is endorsed.
To endorse a check, the payee signs the top part of the back of the check in ink.
There are three major types of endorsements.
Blank endorsement
Special endorsement
Restrictive endorsement

Blank Endorsement
A blank endorsement is the signature of the payee written exactly as his or her name appears on the front of the check.

Special Endorsement
A special endorsement , or an endorsement in full, is an endorsement that transfers the right to cash the check to someone else.

Restrictive Endorsement
A restrictive endorsement restricts or limits the use of a check.

Types of Checking Accounts
Joint accounts
Special accounts
Standard accounts
Interest-bearing accounts
Share accounts

Banking Services and Fees
GOALS
Describe banking services available at most financial institutions.
List and explain fees charged by financial institutions for their services.

Banking Services
A full-service bank is one that offers every possible kind of service, from savings and checking accounts to credit cards, safe deposit boxes, loans, and ATMs.
Other services commonly offered are online banking, telephone banking, certified checks, cashier’s checks, money orders, and debit cards.
Most banks offer FDIC (Federal Deposit Insurance Corporation) insurance, which protects the deposits of customers against loss up to $250,000 per account.

Guaranteed-payment Checks
A certified check is a personal check that the bank guarantees or certifies to be good.
A cashier’s check , also called a bank draft, is a check written by a bank on its own funds.
Traveler’s checks are check forms in specific denominations that are used instead of cash while traveling.

Money Orders
Banks sell money orders to people who do not wish to use cash or do not have a checking account.
A money order is like a check, except that it can never bounce.
There is a charge for purchasing a money order.
You also can purchase money orders through the post office and local merchants.

Debit Cards
A debit card is a plastic card that deducts money from a checking account almost immediately to pay for purchases.
The debit card is presented at the time of purchase.
When a debit card is used, the amount of the purchase is quickly deducted from the customer’s checking account and paid to the merchant.

Bank Credit Cards
You can apply to a full-service bank for a bank credit card, such as a Visa or MasterCard.
If you meet the requirements and are issued a card, you can use it instead of cash at any business that accepts credit cards.
Banks offering national credit cards usually charge both an annual fee for use of the card and interest on the unpaid account balance.

Overdraft Protection
Overdraft protection allows you to cover checks or withdrawals up to a specified amount, usually between $100 and $1,000, depending on the typical balance in your account.
With overdraft protection , your checks will be covered even if you have insufficient funds in your checking account.

Automated Teller Machines
An Automated Teller Machine is often called an ATM.
To use ATMs, you must
Have a card that is electronically coded
Know your personal identification number (PIN)
Getting cash is a common ATM transaction.
Using a debit card you can withdraw cash from your checking or savings account.
Using a Visa or MasterCard, you can receive a cash advance electronically.

Online and Telephone Banking
Online and telephone banking services give you the ability to access your accounts from a computer or telephone anytime, day or night.
Services include:
Transferring money from one account to another
Paying bills by authorizing the bank to disburse money
Getting account balances
Seeing which checks have cleared and which deposits have been entered

Online and Telephone Banking
Most banks also allow and encourage electronic transfers of money.
An electronic funds transfer (EFT) uses a computer-based system that enables you to move money from one account to another without writing a check or exchanging cash.
(continued)

Stop Payment Orders
A stop-payment order is a request that the bank not honor a specific check.
The usual reason for stopping payment is that the check has been lost or stolen.
Most banks charge a fee for stopping payment on a check.

Safe Deposit Boxes
Financial institutions offer customers a safe deposit box to store valuable items or documents.
They charge a yearly fee based on the size of the box.
Keeping important documents and other items in a safe deposit box ensures that the items won’t be stolen, lost, or destroyed.

Safe Deposit Boxes
Examples of items commonly kept in a safe deposit box include
Birth, marriage, and death certificates
Deeds and mortgage papers
Stocks and bonds
Jewelry
Coin collections
(continued)

Loans and Trusts
Financial institutions also make loans to finance the purchase of cars, homes, home improvements, vacations, and other items.
Banks can also provide advice for estate planning and trusts.
Banks can act as trustees of estates for minors and others.
A trustee is a person or an institution that manages property for the benefit of someone else under a special agreement.

Notary Public
A notary public verifies a person’s identity, witnesses the person’s signature on a legal document, and then “notarizes” the signature as valid.
Financial institutions typically have a person on their staff who is a notary public.
This person provides notary services for account holders, usually without charge.
For noncustomers, however, there is typically a small fee.

Financial Services
Purchasing or selling savings bonds
Investment brokerage services

Bank Fees
Banks charge fees to their customers to help cover their operating costs.
The best way to avoid fees is to choose the right kind of account.
Shop around and find the account that is right for you.
Be aware of the rules of your account, so that you don’t violate them and be required to pay high fees.

Examples of Bank Fees
Loan fees
Trustee fees
Check cashing fees
Per-check fees
Monthly service fees
Overdraft fees
NSF check charges
ATM transaction fees
Safe deposit box fees
Teller service fees
Minimum balance fees
Fees for guaranteed-payment checks
Notary service fees
Online bill payment fees
Fees to return canceled checks

Consumer Loans
Car loans
Mortgage loans
College loans
Home improvement loans
Unsecured personal loan

Bank Credit Cards
Allow consumers to purchase items in lieu of cash or check
Can also get a cash advance
Even pay your taxes

Other Banking Services
Retirement Plans
IRAs and Keoghs
Trustee Services
Managing money for others
Estate planning and management
Safe-Deposit Boxes
Fees vary (up to  $100)
Bank Wire Transfers
Send money to someone (quickly & long distances)
Debt Management and Counseling
Often free

Savings Options
Money Market Deposit Account (MMDA)
Interest rate fluctuates with the market rate
Initial deposit  $1,000
Only a certain number of withdrawals are allowed per month (penalty assessed if rules aren’t followed)
Fixed-Time Deposits
Saver agrees to keep money in account for a certain time period (earn higher interest)
Certificate of Deposit (CD)
Sacrifice liquidity
If interest rates are rising, and you’ve locked in a long-term CD, is it worth it to pay the interest penalty?
Some banks offer variable rate CDs
Shop around

Money Market Mutual Funds
Pool many investors’ funds and invest in short-term, low-risk investments
Not federally insured
In practice this risk is very small
Require a minimum initial deposit (  $1,000)
Can write checks (minimum amount of check value is about $250)
Some funds limit the number of checks you can write each month

U.S. Treasury Bills and Notes
Issued by the U.S. government (very safe)
Can be sold prior to maturity
Interest income is not subject to state taxes
T-bills have 3, 6 and 12 months until maturity
Minimum face value of $10,000
Interest is discounted
T-notes have 2, 3, 5, and 10 years to maturity
Pay fixed amount of interest 2x a year
Face value is as low as $1,000

U.S. Savings Bonds
Face amounts range from $50 to $30,000
Can buy from financial institutions
Purchase price is ½ the face value
Bond will mature at some point (when exactly depends on the interest rate)
Interest accumulates (even after maturity) until 30 years after the issue date
Exempt from state taxes
Federal taxes are owed only when bond is cashed in or reaches 30 years from issue date
Series I bonds pay a fixed interest rate + the average rate of inflation

Choosing the Best Savings Option
Need to evaluate:
Minimum investment
Liquidity
Yield
Safety
Taxation

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