Are you earning at least 4% in your savings account? If NO, do yourself a favor: Open a high-yield online savings account and start adding some serious muscle mass to your savings. Here’s the skinny:

There are advantages and disadvantages to using online banks. For many, the little bit of extra headache is worth earning more money each year.

Advantage: Many online banks offer much higher interest rates. This is the primary reason why online banks are so appealing. Dollar Savings Direct, a subsidiary of Emigrant Bank in New York, currently offers 4% APY on their savings account ($1,000 minimum) whereas Bank of America’s savings account offers a ridiculously low 0.2%.

Advantage: Online banks are FDIC-insured. You can use the FDIC’s Bank Find tool to confirm whether a bank is FDIC-insured but they probably are if they are doing business. For example, ING Direct has been FDIC-insured since August 2000. Never do business with a bank that is not FDIC-insured.

Advantage: Better online banking interface. Since your primary interaction with the bank will be online, the interface is typically better than at your regular bank. This may not be the case for some larger banks with larger IT budgets, but it certainly is true for smaller banks. ING Direct, which has been around the longest, has a very user friendly interface and offers useful tools like a one-page ING CD ladder form that lets you do a somewhat complicated task very quickly and easily.

Advantage: Some traditional banks also offer higher yield savings accounts. With the popularity of online banks, many traditional banks like Citi have started offering higher yield online accounts. What’s nice about these accounts is that you get the best of both worlds. A great strategy is to find a traditional bank with local branches and open up a checking account. Link that checking account to the savings account and keep your funds there. This lets you transfer funds from savings to checking instantaneously, answering one of the biggest complaints about online banks.

Disadvantage: It takes several days to transfer money. Most higher yield online banks don’t offer checking accounts so the only access you have to your funds is by ACH transfer. Transferring money between banks using ACH can take several days, the actual time depends on the banks involved. This is probably the largest complaint about online banks and you can mitigate this by working with a traditional bank that offer high yield savings options. I personally don’t mind waiting a few days for the higher yield because there are no local banks that offer the higher rate account option.

Disadvantage: That better online banking interface is your main point of interaction. Many of the online-only banks can offer higher yields because they have lower overhead. This means 99% of your interaction with the bank will be through the online interface, if you have a particular vexing problem then you’ll have to resort to the phone. You won’t be able to go into a branch, though that may or may not be such a bad thing!

Disadvantage: Websites can go down. When Emigrant Direct unveiled a new interface several years ago, the website crashed and people were unable to reach their accounts for several days. A server at HSBC Direct crashed a little while back and customers could not access their funds. In both cases, the bank was fine and your savings were secure, you just couldn’t log into your account until the website recovered.

Disadvantage: You may let your guard down against phishers. Online banks rely on email as their primary form of communication. With all that bank related email, you may become complacent and drop your guard against email phishers. While banks do put in security features to help prevent this (like those pictures and secret messages), you still need to maintain vigilance against clever phishers.

Get Started: Some places to look at for high-yield online savings accounts include
Dollar Savings Direct (Dollar Savings Direct review)
E*Trade (E*Trade review)
Emigrant Direct
ING-Direct (ING Direct review)
HSBC Direct (HSBC Direct review)
FNBO Direct (FNBO Direct review)
For up-to-date rate comparisons, look at the charts on Bankrate.

At the end of the day, you take the higher yield as long as you don’t take on any additional risk. With FDIC insurance in place, I can’t think of a significant reason why you wouldn’t go with these higher rates. Do you have a favorite online bank? Or do you have a horror story you want to share?

Jim writes about personal finance at Blueprint for Financial Prosperity.

(Photo: foundphotoslj)

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