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One of our main goals as investors is to protect our savings from inflation. We can do this using a variety of different investment vehicles. With interest rates being so low in recent years, we have not had many options to park our short term cash savings. Most bank interest rates on savings accounts are around 0.06% right now.
For those who are not familiar with the effects of inflation on your hard earned money, check out this video by one of the blog authors!
Recently, Betterment offered their own solution to this problem called Smart Saver. Smart Saver is an account built to stash your cash that has no account minimums. At the time of this article, Smart Saver is yielding 2.20% making it an attractive alternative to a traditional low interest bearing savings account.
By leveraging modern technology, Betterment has become one of the most well known robo advisors on the market today. The Smart Saver account is one of Betterment’s most valuable features. Betterment has become a full cash management solution for those looking to invest their money as well as protect the buying power of the cash they are holding on to.
What Is Betterment?
Betterment is an online platform that offers personalized portfolios for you based on your risk objective and time horizon. The platform provides many additional features and tools to investors such as tax minimization strategies, auto rebalancing and access to CFP® professionals. Betterment’s goal is to have its portfolios align with each investor’s individual goals and investment objectives.
Betterment is tailored towards passive long term investors. If you are a fan of set it and forget it solutions, Betterment should be on your radar. In exchange for this full service automated management, Betterment collects an asset management fee of 0.25% or 0.40% depending on what plan you use.
What Is Betterment Smart Saver?
Investors may have shorter time horizons for certain pots of money. For this reason, Betterment offers an alternative to a savings account called Smart Saver. Through this investment option, Betterment is offering higher interest rates than most banks with no account minimums.
Fintechs like Betterment have seriously disrupted the brokerage industry. Now, they are shaking up the banks! Betterment is now offering a low risk investment option for that extra cash parked in your bank account.
Importance Of The Emergency Fund
I want to share with you an excerpt from our free guide to investing in the stock market. It is important to understand why we recommend that most people keep some cash on the side for emergency or for a rainy day.
Most people do not plan on going into debt. Usually, debt is a result of a lack of planning. An emergency fund will eliminate the future need for debt. A general rule of thumb is that you should have enough money in a liquid account like a checking account to cover all of your expenses for the next 6 months. You can contribute to your investing account as well as your emergency fund at the same time.
Betterment offers investments in the stock market for those looking to grow their money over time, but you should not be investing cash that you are planning on using within the next 5 years. The reason behind this is because the stock market does not go up in a straight line. There are hills and valleys along the way, and in the short term you could be down 20% or more based on your risk tolerance.
But what do you do with that extra cash in your bank account earmarked for a home purchase in a few years? Or your emergency fund? You don’t want to invest that money in the stock market. In the event that the stock market takes a dive, you would have to sell at a loss to liquidate
On the other hand, you don’t want to lose the buying power of your money either! If you don’t plan on purchasing that home for a few years, you will be losing money every single year if you leave it in a low yielding bank account.
Inflation Loss Example
According to Bankrate, the average checking account is currently yielding 0.06% per year. On average, inflation sits at around 2% per year. This table will demonstrate the loss of buying power each year on money left in a bank account yielding 0.06%, the national average.
|Deposited Amount||Interest Earned (0.06%)||Inflation (2.00%)||Net Loss|
Each year, the buying power of the money in your low interest bank account is deteriorating. One of the best comparisons I have heard is that inflation is like having termites in your house. Day by day, it goes unnoticed. The real damage is done over a long period of time.
How Does Smart Saver Work?
- Betterment will analyze your spending over time and calculate how much idle cash is in your account.
- Once Betterment understands your cash needs, they will make sure you always have a cushion in your bank account using a two-way sweep between your accounts.
- Betterment will then transfer any excess cash to your Smart Saver account to be invested. Betterment will always let you know before they move your money. As of the date of this article, Betterment Smart Saver accounts are yielding 2.20%.
Smart Saver Versus Bank Account
One of the drawbacks of Smart Saver for certain investors is that there is no FDIC insurance on Smart Saver deposits. FDIC insurance protects your deposits in a bank. Since Betterment is not a bank, so you are not eligible for this protection.
Typically, you will find that FDIC insured bank investments like checking, savings, money market accounts and CDs offer a rate of return that does not exceed inflation. Some online banks might be able to offer better rates since they do not have any brick and mortar locations. Another con with a bank CD or certificate of deposit is the fact that your money is locked up for set period of time. If you need to access that money, you will most likely be paying a penalty for early withdrawal. Smart Saver will get your funds to you within 4 to 5 business days with no penalty.
You are insured through Betterment under SIPC. This is insurance designed for brokerage firms like Betterment. In the event that Betterment goes insolvent or loses your investments, your protection is $500,000, which includes a $250,000 limit for cash.
Smart Saver invests your deposits in a variety of securities. The allocation is 80% in short-term government bonds and 20% in short-term investment grade bonds.
80% iShares Short Treasury Bond ETF (SHV)
The majority of the money invested through Smart Saver will be allocated into this short term treasury bond ETF offered by iShares. Betterment tends to invest your money in funds offered by Vanguard and iShares as they have some of the best products on the market with the lowest fees.
US Treasury bonds are considered to be the safest investment out there outside of bank insured investments. When you purchase these bonds, you are essentially loaning your money to the federal government. The only way you would lose that money is if the federal government defaulted on their obligations to repay. That would mean the entire US government would have to collapse!
Since this is a short term fund, it is holding bonds with a maturity date between one month and one year.
One of the pros of investing in US Treasury bonds is the fact that the interest earned is tax exempt on a state and local tax level. Ordinary interest income from a bank is taxable on a state and local tax level. Typical interest paid from a bank is taxed as ordinary income. You might not be familiar with this because most people do not meet the minimum interest payment threshold to receive a tax form from your bank. It is still your responsibility to report this income. If your interest income from a bank account is over $10, they are required to send you and the IRS a form.
20% iShares Short Maturity Bond ETF (NEAR)
The remaining 20% is allocated into another iShares product. This is a fund that holds short term corporate bonds. This fund invests your money in a collection of different bonds from corporations like AT&T and General Motors.
These bonds are all investment grade bonds, meaning they are debts owed from borrowers with good credit. Corporations are rated by Moody’s and Standard & Poor’s to give investors an idea of how responsible they are with debt. Similar to a consumer credit score, each corporation gets a rating.
Interest from corporate bonds is taxed as ordinary income.
How To Get Started With Smart Saver
- Open a Betterment Smart Saver account.
- Create a Betterment account.
- Link your bank account to allow Betterment to analyze your spending.
- Manually or automatically invest your extra cash.
FEATURE: Two Way Cash Sweep
Two Way Sweep allows Betterment to easily transfer cash between your bank accounts and your Smart Saver account. Once you have too much cash built up in your bank account, Betterment will notify you and suggest you transfer excess cash to your Smart Saver account. If your bank account reaches a low threshold, Betterment will transfer your cash out of Smart Saver to your bank account.
The Smart Saver feature allows you to put your savings on autopilot. You won’t have to worry about building up too much cash in your bank account. Using Smart Saver will allow you to earn a fair amount of interest in an account, readily available at your convenience.
FEATURE: Cash Analysis
Betterment pairs its Smart Saver feature with another useful tool called cash analysis. Cash analysis will analyze your spending and using a cash flow analysis will determine and suggest how much cash to deposit into your smart saver account and how much you should leave in your bank account for expenses. This feature will help you invest your excess cash, as well as maintain an appropriate balance in your bank account.
Why Use Betterment Smart Saver?
Everyone always tells us that holding too much cash in our bank account is not the right decision. But, why is this? The main reason being inflation.
Inflation will slowly decay your savings each year, it has averaged 1.5% to 2.0% annually over the past 30 years.
This means the purchasing power of our savings is decreasing each year by 1.5% to 2.0%. Our $100 saved today will only buy $98 worth of goods in one year. Over time this can really add up and take a toll on all the hard earned money we’ve saved.
Just as compound interest works in our favor, inflation can have a negative compounding effect on our savings. For example, cumulative inflation from 1913 to 2013 was 2,275%. This means prices increased almost 23 times. Yikes…
Investing is the tool we use to combat inflation. If we can earn a return equal to or greater than the inflation rate then we have won the battle. Unfortunately, interest rates on bank savings accounts have been extremely low for the past few decades. A bank account interest rate at 0.06% has no shot in beating a 2% inflation rate.
What Other Options Do We Have?
Currently, there are few options to obtain a reasonable yield on our cash. Let’s review some of the alternative options to a bank savings account.
Online Banks – There are a few online banks that are offering above-average interest rates right now. Many times these accounts will have minimum balance requirements. Ally Bank is an online-only bank that is offering a 2% interest rate on savings account deposits. This is a great offer, and also comes with no account minimums.
Money Market Accounts – Over the past few years, short-term interest rates have risen considerably. As a result, certain money market accounts are now yielding between 1.5% to 2.5%. Be cautious, depending on the fund you may have a minimum deposit in order to invest.
Certificates of Deposit – CD’s have always been an option to park your short-term cash. The one downside is that CD’s often have low liquidity, meaning it can be difficult to sell your investment and receive your cash. Currently, most CD’s are offering a range of interest rates right now ranging from 2% to 3% depending on their maturity. However, investors should be cautious as CD’s can come with early redemption fees for early withdrawals.
As short-term interest rates continue to rise, investors will continue to have a variety of options to stash their short-term cash savings. With bank savings account interest rates being so low right now, Smart Saver may be an excellent alternative. Smart Saver and Smart deposit are great tools for the everyday investor.