Automatically transferring a small amount of money into a basic savings account every month is the easiest and most effective way for low- to moderate-income individuals to save money, according to a recent report by the Consumer Federation of America (CFA).
“It’s so very important to build up savings, even if it’s just couple hundred, and park it for emergencies,” said Stephen Brobeck, executive director of the CFA, and author of the report, “Savings Accounts: Their Characteristics and Usefullness.”
Roughly 16 million low- to moderate-income (LMI) households held more than $13 billion in basic savings accounts nationwide in 2010, with an average balance of $800, the report indicates. Individuals qualify as LMI if their income is less than $35,600 annually, representing the bottom 40 percent of all U.S. household incomes.
But the number of LMI individuals who save money in a basic savings account pales in comparison to the number of LMI individuals who don’t.
In 2010, according to the report, 23 million LMI households were without a savings account of some kind.
“All households need the ability to pay for unexpected expenses ranging from car repairs to medical and dental bills to traffic tickets,” the report reads. “For most LMI households, basic savings accounts potentially represent the most useful source of funds for making these payments.”
Brobeck says one of the most successful ways of building a stash of money is to establish an automatic savings strategy with a bank.
“It’s just too difficult for most of us, including myself, to go to the bank and put money in a savings account,” he said. “It’s so much easier if right at the outset you tell the bank or credit union to transfer a certain amount of money every month from checking to savings, or from your paycheck to savings.”
Although automatic small equity transfers are available at virtually all of the 150 banks and 10 credit unions Brobeck studied in the report, he found that only a small minority advertise the service.
“These types of transfers and accounts can be used by most consumers to save and build wealth, but what we know is that consumer behavior is strongly influenced by marketing,” he said. “It’s quite clear that if a bank urges consumers to open a savings account with an automatic transfer on a monthly basis, far more of a percentage of bank customers would use that option.”
The lack of marketing, the report finds, reflects banks’ view that savings accounts with smaller balances are not profitable.
“Banks don’t seem to have an interest in their small customers,” said Ed Mierzwinski, consumer program director with Illinois PIRG. “We need to urge banks to do a better job of marketing accounts to consumers that actually benefit the consumer.”
In addition to a lack of marketing, the CFA report also found a number of barriers for low-income individuals when it comes to opening and maintaining a savings account, such as minimum balance requirements and fees.
As of March 2013, the minimum balance to avoid monthly fees on a basic savings account was at least $200 at 59 percent of the banks studied, according to the report. More than half of large banks studied, impose a minimum balance of at least $300.
Only 20 percent of large banks studied, which collectively have more than 50,000 branches nationwide, were found to offer savings accounts with a $50 or less minimum balance requirement.
If a balance dips below the minimum requirement, 45 percent of all the banks mentioned in the report charged a daily fee of $4 or more, as of March 2013. About 70 percent of the large banks in the study charged that same rate.
Several banks also charged fees for inactive savings accounts of usually no less than six months, the report states, and 55 percent of the large banks studied charged fees for more than three withdraws in one month.
Interest rates, the report continues, are often so low for small savers, that avoiding fees should be the consumers’ highest priority. Over five years, a savings account with a balance of $1,000 and an interest rate of 0.5 percent, will only generate $25.31.
Brobeck added that he couldn’t rank the banks because each is unique in the products it offers.
“There are positives and negatives to every bank and, yes, the big banks typically have more negatives. But on the other hand a number of them have more positives, particularly with the auto-save,” he said. “Most offer a very low minimum transfer, often $25 per month, and automatic savings is the most effective strategy for anybody.”
Mierzwinski said that people without savings are more likely to seek out predatory lenders with anti-consumer policies in the event of an emergency, and get stuck in never-ending cycles of debt.
Often attached to high interest rates and expensive fees, payday lending provides short-term access to credit and can often be viewed as a lifeboat during difficult financial times.
Mierzwinski referred to payday lenders as having “jaws” that “trap consumers who end up paying more for fees and interest rates than the amount they initially borrowed.”
“This lack of savings prevents people from having financial mobility, meaning the ability to move into the middle class, because they’re constantly at the edge,” he said. “If we teach the consumer the importance of having a small savings account, then more consumers will have money in the bank when they face an emergency outflow and we can dry up the demand for payday lenders.”
There were more than 1 million unbanked or under-banked households, meaning those without a bank account or without easy access to a bank, in Illinois in 2010, according to the Illinois Asset Building Group.
Of that population, 16 percent of under-banked Illinoisans secured at least one loan from a payday lender, the consumer advocacy group reports.
Most payday loans issued in the state in 2011 had interest rates of up to 390 percent, while roughly 56 percent of short-term borrowers earn an annual salary of $30,000 or less, according to the Illinois Department of Financial and Professional Regulations (IDFPR).
“We should be doing more to encourage customers to save, and save automatically,” said Dory Rand, president of the Woodstock Institute. “And we need to encourage banks to eliminate unfair practices.”
The report calls on federal banking regulators to demand banking institutions ramp up marketing efforts to LMI consumers.
"These regulators should communicate with banks, especially those with innovative accounts, to understand better which savings accounts and marketing strategies most effectively meet the needs of both banks and their LMI customers," the report reads. "Regulators should also proscribe the anti-consumer practices of some institutions, especially those related to inactive accounts, limited withdrawals, and high fees."
Rand agreed, saying regulators should step up and enforce banking practices that benefit LMI individuals. She called the automatic transfer feature "good policy."
“This is not even a new product, this is an existing piece of banking technology that is just underused,” she said. “Regulators need to consider more specifically the types of accounts and services banks are offering to LMI people and whether they’re actually meeting their needs and reducing the unbanked population.”