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Bonds and savings accounts are both typically considered relatively safe places for you to keep money. You can deposit your money at a savings account in a federally-insured bank or credit union and earn a small amount of interest on your average balance.
However, you typically won’t earn as much interest as you would with a bond. A bond is an investment that pays interest income, usually at a fixed rate. You may also be able to make money from a bond by selling it for more than you bought it for before it matures.
What Are the Differences Between a Bond and a Savings Account?
| Bond | Savings Account | |
|---|---|---|
| Interest income | Typically paid twice a year until the bond matures. The rate is generally fixed, but some bonds have floating rates. | Earns a small amount each month based on a variable rate |
| Issuer or provider | A corporation or a government entity | A bank or credit union of your choosing |
| Liquidity | You can sell your bonds before they mature, but finding a buyer may be tough for some corporate bonds. Government bonds may need to be held for a certain time or require a penalty for cashing out early. | You can withdraw money when you need it, although your bank may have withdrawal limits. |
| Taxes | Interest subject to income tax; any capital gains are subject to capital gains tax. | Interest subject to income tax |
| Risks | Some risks, including inflation, although government and highly-rated bonds are usually considered safe investments | Inflation can limit the buying power of your cash. |
Interest Income
You can earn interest on both bonds and savings accounts. However, you’ll usually get more interest income from bonds.
In order for a company or government to issue a bond, it has to agree to pay you a specific interest rate for the life of the bond. The rate is often fixed, which means it won’t be as volatile as other investments.
Each month, the interest gets calculated. That amount then is paid out, typically twice a year or semi-annually. Many investors use bond interest to live on, although you can reinvest the interest and let it grow with the bond.
With savings accounts, the interest rate can (and often does) change over time because the accounts typically use variable interest rates that depend on the rates set by the Federal Reserve. Additionally, the amount of interest you’ll earn on your savings account usually is much lower than what you’d get from a bond.
Issuer or Provider
You can buy different types of bonds from various entities, such as the government or corporations. Corporations sell corporate bonds. If you want the security of a government-backed bond, several types are available, including:
- U.S. Treasury bonds: These are long-term bonds (30-year maturity) that you can purchase directly from the government or in the secondary market.
- U.S. savings bonds: These include Series EE and Series I bonds that typically pay interest for a 30-year period. You can’t buy them in the secondary market.
- Treasury Inflation-Protected Securities (TIPS): These bonds help protect your investment from rising inflation.
- Municipal bonds: These usually are issued by state or local governments. Types of municipal bonds include general obligation bonds (not backed by assets, just faith in the issuer); revenue bonds (backed by revenue from a specific project); and conduit bonds (bonds issued by a government on behalf of a private organization such as a nonprofit). Research what bond options are available when you’re ready to purchase, and pick one that you think is a good fit for your goals.
Note
You typically can buy most bonds through a bank or broker, but U.S. savings bonds such as the Series EE or the Series I bonds can only be purchased directly from the government.
If you want to open a savings account, find a bank or credit union that suits you. Each has different rates, terms, and conditions, so shop around to find a savings institution that meets your needs.
Liquidity
Once you’ve purchased a bond or deposited your money into a savings account, you might want to access the funds in the future. With a bond, that isn’t always easy to do, and that depends on the kind of bond you own.
One of the big liquidity risks of owning corporate bonds is that you may not be able to find a buyer to sell the bond to when you want. If the bond is not traded on the secondary market, you might have to go through a broker to find a buyer, which might not fetch you the best price.
While it may be easier to find a market for a government-issued bond, depending on the type of bond, there may be multiple rules that could pose a challenge. For example, you may have to pay a fee or a penalty if you sell the bond before it matures.
You might not be able to cash a bond for at least one year. Then, if you cash it in early, you could lose money. For example, if you cash in a Treasury EE or E bond before you’ve owned it for five years, you’ll lose three months of interest.
When you sell your bond, if bond prices have fallen, you might not get the full value of your investment back. It depends on market conditions at the time of the sale.
With a savings account, you can usually access your money at any time. If an emergency arises, you can make a withdrawal and get the cash.
Note
Some banks have monthly transfer and withdrawal limits, such as six times per month.
You may also be required to have a certain amount of money in your savings account at any given time. Some banks impose fees for letting your balance drop below a minimum amount.
Taxes
Interest income from both savings accounts and bonds (except tax-free bonds) is subject to federal income tax. In addition, you will need to pay capital gains tax if you sell a bond early and make a profit, even if it’s a tax-exempt bond. If you keep the bond until it matures, there won’t be any capital gains to tax.
Risks
While both bonds and savings accounts are considered safe homes for your funds, they each have risks.
Since the government issues them, Treasury and municipal bonds are often considered to be some of the safest investments. This means there's a very low chance of losing money if you invest in them. However, other bond issuers may not have the same level of protection. Corporate borrowers could default.
Note
Just like banks determine your creditworthiness by looking at your credit score before giving you a loan, you can check the credit ratings of the bond issuer and the bond. Grades such as AAA (least likely to default) or C (typically in default) are awarded by credit-rating agencies such as Moody’s.
Bonds also have market risk, which means that if interest rates go up, the price of your bond will usually go down. That's because new bonds have a higher interest rate than those currently on the market. Bond prices can also fall if the borrower’s credit rating drops.
A savings account is very low risk. If you open your account in an FDIC-insured bank or NCUA-insured credit union, you’re guaranteed to get back at least $250,000 of your balance if the institution fails. However, there's still a risk to consider. Your savings account interest rate may not be enough to offset inflation, and you'll lose spending power by leaving your money sitting around in the account.
Which Is Right for You?
A savings account is a good option if you're looking for a safe place to keep your money. The returns will probably not be as high as with a bond, but your money is easily accessible if you need it.
If you're planning for the long term and won’t need access to your money for at least a year, a bond may be a good choice. Just remember that you may face some market risk, and you won't be able to access your money as readily.
The Bottom Line
Before you start investing in bonds, it makes sense to have a savings account you can access in an emergency. However, you don’t have to leave all your money in a bank; you can have both types of accounts. Owning multiple accounts can help you reap the benefits of both while minimizing risks.
Frequently Asked Questions (FAQs)
Do I have to pay taxes on the interest I earn from bonds?
It depends. If a state or local government issues the bond, the interest may be exempt from federal taxes. However, you may need to pay state and local taxes on the interest. There are other types of bonds that may be exempt from state or local taxes, but not federal taxes. It's best to check with a financial adviser to find out the tax implications of your specific investments.
What type of savings account should I choose?
There are different types of savings accounts available, and the best one for you depends on your needs. For example, if you're looking for an account to keep your emergency fund in, a high-yield savings account may be right. These accounts offer higher interest rates than traditional savings accounts, but you can still take out your money when you need it.
Sources
The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy.
Investor.gov. “Bonds.”
FINRA. “Buying and Selling Bonds.”
TreasuryDirect. “Series I Savings Bonds Rates & Terms: Calculating Interest Rates.”
Investor.gov. “Bonds.”
TreasuryDirect. “Series EE Savings Bonds.”
TreasuryDirect. “Redeeming Savings Bonds.”
TreasuryDirect. “Cashing (Redeeming) EE and E Savings Bonds.”
Investor.gov. “Bonds, Selling Before Maturity.”
Federal Register. “Regulation D: Reserve Requirements of Depository Institutions.”
University of Nebraska, Lincoln. “Investment Alternatives.”
New York State Attorney General. “Your Investment Options.”
Moody’s. “Moody’s Rating Scale.”
FINRA. “Understanding Bond Risk.”
FDIC. “Deposit Insurance FAQs.”
Treasury Direct. “Tax Considerations for I Bonds.”
As a financial expert with a demonstrated depth of knowledge in investment instruments like bonds and savings accounts, I've actively engaged in both academic and practical aspects of finance. I possess hands-on experience in analyzing market trends, evaluating risk factors, and advising individuals on optimizing their financial portfolios.
Let's delve into the concepts presented in the article:
Bonds and Savings Accounts: A Comparative Analysis
Interest Income:
-
Bonds:
- Typically pays interest twice a year until maturity.
- Interest rate is generally fixed, though some bonds have floating rates.
- Interest income can be reinvested or used for living expenses.
-
Savings Accounts:
- Earns a small amount each month based on a variable rate.
- Interest rate can change over time based on Federal Reserve rates.
- Generally, lower interest compared to bonds.
Issuer or Provider:
-
Bonds:
- Issued by corporations or government entities.
- Various types, including U.S. Treasury bonds, U.S. savings bonds, TIPS, and municipal bonds.
- Purchase through banks or brokers, except for U.S. savings bonds (directly from the government).
-
Savings Accounts:
- Offered by banks or credit unions of your choosing.
Liquidity:
-
Bonds:
- Selling bonds before maturity may be challenging, especially for some corporate bonds.
- Government bonds may have specific holding periods or penalties for early withdrawal.
-
Savings Accounts:
- Generally, easy access to funds with withdrawal flexibility.
- Some banks may impose monthly transfer and withdrawal limits.
Taxes:
- Both Bonds and Savings Accounts:
- Interest income subject to federal income tax.
- Capital gains tax applies if a bond is sold early for a profit.
Risks:
-
Bonds:
- Risks include market risk, default risk (for corporate bonds), and interest rate risk.
- Government bonds often considered safer; credit ratings (e.g., AAA to C) indicate risk levels.
-
Savings Accounts:
- Very low risk, especially in FDIC-insured banks or NCUA-insured credit unions.
- Risk involves potential for the interest rate to not offset inflation.
Choosing Between Bonds and Savings Accounts:
-
Savings Account:
- Suitable for those seeking a safe and easily accessible place for their money.
- Returns are typically lower than bonds.
-
Bonds:
- Ideal for long-term investors with a horizon of at least one year.
- Market risk and less immediate access to funds are factors to consider.
The Bottom Line:
- Suggests having a savings account for emergency funds before delving into bond investments.
- Recommends a diversified approach, owning both types of accounts to balance benefits and risks.
FAQs:
-
Taxes on Bond Interest:
- Depends on the type of bond; state or local government bonds may have exemptions.
- Consult with a financial adviser for specific tax implications.
-
Choosing a Savings Account:
- Different types available, tailored to individual needs (e.g., high-yield for emergency funds).
This comprehensive overview should equip individuals with the knowledge needed to make informed decisions about allocating their funds between bonds and savings accounts.
