When you look at saving money, there are a lot of options. Some of the most common are savings accounts or certificates of deposit (CD). How do you decide which account is best? One crucial factor is the Annual Percentage Yield (APY). The higher the APY, the more return you gain from your initial deposit. It is valuable to know how to compare accounts so that you can meet your financial goals.
You have probably seen the terms APY and APR, but do you know the difference? AP stands for Annual Percentage in both, as they are percentages that are calculated on a yearly basis. APY is the acronym for Annual Percentage Yield which refers to the rate you earn on a deposit account such as a savings or CD. APR stands for Annual Percentage Rate which applies to the rate you pay on a loan or line of credit. Neither APY nor APR is the actual percentage rates used to calculate your balances, but they are meant to make it easier to interpret the terms of an offer and how it will affect your financial position over a year.
APY reflects how much interest you will earn on a deposit with compound interest over the period of one year. When you are comparing deposit accounts, you can use the APY to determine which account will earn the most interest.
Let’s look at an example
At age 35, Kyle has managed to stash away $50,000 in his emergency fund and is looking to earn a risk-free return on his savings. He decides to open a savings account with a rate of 1.70% APY. After one year of interest compounded daily, he estimates he will earn $850, taking his total emergency fund to $50,850. Not too shabby. See what you could be earning on your dusty pile of cash with our savings calculator.
Time and interest rates determine the amount of money you will earn in savings or owe on debt. In the past, financial institutions used complicated jargon and fees to make their interest rates seem more appealing. Now they are required to disclose rates in the same way. When shopping for loans, you can compare the Annual Percentage Rate (APR) which factors in the interest rate and all the different costs and fees associated with a loan over a year. Using APR, you can compare apples to apples when evaluating different offers.
So, what’s the difference between APR and APY? Well, it boils down to the effects of compounding interest. Interest accumulates then is added to the balance which then helps collect more interest because the balance is larger. Compounding interest is excellent when saving money but not so great when you are in debt. To earn the most for your money, look for savings accounts that offer a higher APY. When you are borrowing money, the lower the APR, the less you will pay over the life of your loan.
It pays to know how to compare rates when it comes to your money. Live Oak Bank offers High Yield Savings accounts that are compounded daily. Visit liveoakbank.com/savings to learn more.