Comparing high-yield savings accounts vs. Roth IRAs

The beauty of a savings account is that you can put in as much as you desire; that's not the case with Roth IRAs. For 2022, you're allowed to contribute up to $6,000, or $7,000 if you're age 50 or older (although you can't contribute more than you earned that year).

What's more, your income can't exceed IRS thresholds. For 2022, your contribution limits start to phase out if you earn:

1. $129,000 to $144,000, for single taxpayers and heads of household

2. $204,000 to $214,000, for married couples filing a joint return

3. $0 to $10,000, for married couples filing a separate return

Flexibility

Another advantage of savings accounts is that you can typically pull your money out at any time without penalty. Historically, savings accounts had a limitation on the number of withdrawals you could make each month at six, though during the pandemic the Federal Reserve lifted that limitation. As of now, many banks will allow you to make withdrawals at any time, though this may change again in the future.

Roth IRAs, on the other hand, contain incentives for you to keep your assets in place. You can pull your contributions out anytime without incurring any tax consequences (they've already been taxed). However, an early distribution that contains earnings—say, the appreciation of your stock holdings—may be subject to ordinary income tax and a 10% penalty.

There are some exceptions to that rule, however. For example, if you've owned the Roth IRA for at least five years, you can take out up to $10,000 to purchase your first home without having to pay tax or a penalty. You also can sidestep the penalty when you withdraw funds for qualified higher education expenses like books, fees, tuition and equipment, although you'll have to pay income tax on any earnings. Contributions are distributed first..

Asset protection

Most financial institutions that offer savings accounts are federally insured, making them a safe place to keep your money. The Federal Deposit Insurance Corporation (FDIC) protects accounts at participating banks, and the National Credit Union Administration (NCUA) safeguards deposits at most credit unions. The two insurance programs work in a similar way, offering $250,000 per person, per bank or credit union, for each account ownership type.

Suppose you have $100,000 in an insured savings account at a bank. Should your institution become insolvent, the FDIC would step in and replace those funds.

Roth IRAs that contain savings accounts and CDs are typically FDIC- or NCUA-insured (though it's important to check first). However, the same protection doesn't extend to the portion of your IRA containing insurance and investment products. Securities can fluctuate in value in any given year, as can certain insurance products pegged to the performance of the stock market. This makes stocks and mutual funds, for example, a more appropriate option for long-term investors who can ride out temporary bumps along the way.

Growth potential

The security that savings accounts provide comes with a downside: modest returns. Even most online banks offering high-yield savings accounts have paid less than 1% annual interest on balances over the past year. One-year CDs are in the same territory. That return could increase if general interest rates climb, although you'll still face modest payouts.

Conversely, when you invest in stocks, bonds and mutual funds through a Roth IRA, you have the potential for much higher asset growth over periods of several years or more. Historically, the stock market has delivered an average return of roughly 10% a year, for example. Even Treasury bonds, which are backed by the full faith and credit of the U.S. government, generally offer a higher yield than savings accounts.