What Is a Tiered-Rate Account?
A tiered-rate account is a type of bank account that offers varying interest rates based on the balance held in the account. Typically, these accounts are of the money market or savings variety.
Banks use tiered-rate accounts to incentivize customers to save more by providing higher interest rates for larger balances, aiming to foster customer loyalty towards their institution.
**Key Takeaways**
– Tiered-rate accounts adjust interest rates based on different account sizes.
– Banks utilize these accounts to attract and retain customers.
– Maintaining deposits is crucial for banks’ profitability, allowing them to lend out funds and earn interest on loans.
How Tiered-Rate Accounts Work
Tiered-rate accounts function by offering tiered interest rates corresponding to varying levels of savings in the account, with rates escalating as the balance increases.
For example, a bank may have five fixed-interest-rate tiers for its money-market account based on deposited amounts, starting from lower rates for smaller balances and increasing as the balance grows.
Some banks tie interest rates to a reference rate, offering wider spreads for higher account balances.
In practice, tiered-rate accounts often require a minimum initial balance and daily maintenance, or a minimum number of transactions per month. Banks may offer high-interest rates for active accounts, balancing fee revenues against interest paid.
Special Considerations
Tiered-rate accounts aim to attract and retain larger depositors, competing with other financial options by offering comparable returns, especially for substantial account balances.
Commercial banks primarily profit by lending deposited funds. If loan interest exceeds deposit interest, the bank is profitable.
Banks must balance customer attraction with profitability, often resulting in interest rates not matching loan rates unless offset by account fees.
**Banking Profitability**
– The difference between interest paid to depositors and charged to borrowers is the net interest margin, crucial for assessing bank profitability.
Example of a Tiered-Rate Account
Illustrating a scenario, Emma, a customer at XYZ Financial, learns about a new savings account with a tiered interest rate structure.
XYZ’s account offers variable rates calculated against the prime rate, increasing with higher deposit amounts.
For instance, depositing $10,000-$50,000 earns prime plus 0.25%, while over $500,000 earns prime plus 1%.
Emma realizes this strategy aims to attract and retain wealthy customers, allowing XYZ to lend out deposits at higher rates, ensuring profitability alongside fees.