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The pros and cons of bank money market deposit accounts

The pros and cons of bank money market deposit accounts

A money market deposit account (MMA) is a high interest-earning account offered by a financial institution that operates under the Federal Deposit Insurance Corporation (FDIC) with limited transaction privileges mostly related to writing checks. Formally known as a money market deposit account, a MMDA functions as any regular savings account, but has higher minimum balance requirements that range between $ 1,000 to $ 2,500 and minimum number of withdrawals. Besides, it offers a higher rate of return because it is subject to the current interest rates that vary.

Advantages

(a) Liquidity

Funds in money market accounts are highly liquid and can be withdrawn as cash or transferred to other accounts.

The beneficiary may withdraw the money at any time without any fees or penalties and has easy access through checks, transfers, or ATMs. However, the withdrawals can be between three and six per month and are subject to varying withdrawals requirements. For instance, credit unions typically require a minimum deposit of $ 250 to open a money market deposit account and do not carry any service charge fees. On the contrary, larger banks typically charge fees and penalties when the balance falls below the minimum deposit of $ 5,000.

The money deposited in a money market account is invested through the bank or credit union, which collects the return. The interest paid to the account beneficiary remains in the account, but the bank lends that money to other accounts by charging a slightly higher interest for the loan than the interest paid to the account beneficiary. Therefore, the bank makes money by selling money, but it offers the flexibility to the account beneficiary to get the money instantly, without having to pay any penalties.

(b) Safety

Money market accounts are a safe investment, although their interest rates are low, because they are insured by the FDIC up to $ 250,000 or even a higher amount if they are linked to certain property investments. This means that, in case of liquidation of the bank, the insured deposits will be made by the FDIC as soon as possible either by cash or by offering to the depositor a transferred deposit of equal amount to a new insured institution.

FDIC is being kept solvent by the US Congress to ensure it can cover cases of emergency. However, there are certain scenarios that could possibly undermine the FDIC’s solvency. Such scenarios could be a credit crisis that occurs simultaneously with a general funding emergency; a war that deteriorates financial situation at home; an economic war with China.

(c) Interest

Money market deposit accounts earn higher interest than savings accounts. Nevertheless, they fall below the market average of interest on growth investment vehicles, such as stocks, mutual funds and long-term certificates of deposit (CDs). A money market deposit account offers investors returns as high as a short-term CD and it does not provide substantial enough interest payments to provide for long-term gains.

The interest rate is subject only to the amount of money that has been deposited and is not associated to the maturity date as it happens with the certificates of deposit (CDs). This enables investors to collect their cash any time, depending upon their investment plan. Besides, although interest rates in money market deposit accounts are lower than those of certificates of deposit, they enable investors to stay ahead of inflation.

Disadvantages

Money market deposit accounts have their disadvantages as well.

(a)    Minimum withdrawals

Money market deposit accounts allow few withdrawals per month, when dealing with third parties. In general, banks try to discourage investors from exceeding their minimum or maximum limits because there are fees involved. If the money market account falls below the minimum required balance, or it exceeds the limited number of transactions, the beneficiary pays high fees. In some cases, banks are closing the accounts in an effort to convince customers to limit their transactions. However, ATM transactions are not included.

(b) Higher balance requirements

For investors who anticipate needing a healthy portion of their savings at any time, money market deposit accounts may not be the best option. A MMDA typically requires a higher balance than a savings account, and penalizes the beneficiaries if it drops below the minimum.

Overall, money market deposit accounts are a good option for retirees or investors who prefer to earn a high interest on their money with the least possible risk, while maintaining direct access to their funds and being insured against loss. For a long-term horizon, other accounts may offer even higher interest, but they may be more risky. Generally, investors prefer money market deposit accounts because they are flexible and safe.