When we earn and save money, we want to be sure that every dollar is utilized to its full potential. However, cash management is usually an afterthought, with many of leaving cash and direct deposits untouched in bank accounts. Sweep accounts are a key feature to maximize yields on cash. Brokerages with sweep account features will automatically transfer uninvested cash into investments that earn yield. Let’s see how we can take advantage of this.
Summary:
- Many people earn little to no interest on money in a bank account.
- Brokerages with sweep account features help investors automatically earn a yield on any idle cash.
- Certain sweep accounts, such as those operated by an online brokerage, will minimize the delays in getting your cash.
What Is a Sweep Account?
A personal sweep account is an account that individuals can use to effectively manage their excess cash and optimize their yield on cash.
A sweep account is typically connected to other accounts, such as another bank or brokerage account, to automatically “sweep” funds to those accounts so your cash is earning interest.
This centralized hub also makes it easy to keep track of their cash inflows, outflows, and cash-yielding investments.
How Do Sweep Accounts Work?
The most common type of sweep account is the investment sweep account.
If a checking account has extra money, the sweep account automatically moves this extra money to an account that earns interest, like a high-yield savings account or money market fund. We usually prefer sweep accounts that sweep into money market funds, since they generally pay more than bank products like high-yield savings accounts.
On the flip side, if the checking account balance drops below a certain amount, the sweep account will move money back from the interest-earning account to the checking account. This way, you avoid overdraft fees and make sure you have enough money to cover your expenses.
The main idea is to earn interest on extra money while making sure you have enough money in your checking account for daily needs. You can usually set up a specific amount where money starts to move back and forth so it fits with your spending and saving goals.
Other types of sweep accounts, like loan sweep accounts and Zero Balance Accounts (ZBAs), work similarly but have different purposes. Loan sweep accounts help pay down loans faster, and ZBAs help manage money across multiple accounts easily.
Types of Sweep Accounts
Savers and investors will primarily use sweep accounts to manage their personal finances efficiently, intending to earn higher returns on idle funds while maintaining the necessary liquidity for daily expenses. Here are the types of sweep accounts commonly used:
- Investment Sweep Accounts:
- Individuals can benefit from investment sweep accounts as they automatically sweep excess funds into vehicles like money market funds, which earn more interest than traditional checking or savings accounts.
- Loan Sweep Accounts:
- Those with outstanding loans or lines of credit may find loan sweep accounts beneficial. These accounts automatically apply excess funds towards paying down loans, which can save on interest payments over time.
- Zero Balance Accounts (ZBAs):
- While more common in business settings, some individuals may also utilize ZBAs to streamline cash management among multiple accounts, ensuring funds are consolidated in a central account while keeping other accounts at a zero balance.
Personal Sweeps vs. Business Sweeps
Sweep accounts are commonly used by both individuals and businesses.
Personal Sweep Accounts
Individuals utilize sweep accounts to enhance their money management by automatically transferring excess funds from a checking account to an interest-bearing account or investment, such as money market funds. This system balances between earning interest and maintaining liquidity for daily expenses. The automation means this is a hassle-free savings approach, making it easier for individuals to accumulate funds for emergencies or future investments.
Moreover, some might set up their sweep accounts as loan sweep accounts to pay down debts automatically when their checking account balance surpasses a specific amount. This helps in reducing debt interest payments.
Some brokerages offer sweep accounts so investors can temporarily hold and sweep their cash into low-risk, higher-interest investments. Cash generated from deposits, dividends, or other sales is swept into high-yield holdings or money market funds until the investor decides on future investments.
A more advanced type of account that some brokerages offer is a Cash Management Account (CMA), which combines the features of checking, savings, and investment accounts into one. CMas typically also offer cash sweep features.
Business Sweep Accounts
Businesses leverage sweep accounts to optimize their cash management by automatically transferring excess funds from a checking account to an interest-bearing account, such as a money market fund, to earn interest overnight. This not only maximizes interest earnings but also ensures liquidity as funds are swept back to cover daily transactions as needed.
The automation of fund transfers simplifies cash management, reduces manual effort, and helps maintain required minimum balances to avoid fees.
Additionally, if a business has debt, loan sweep accounts can be tailored to automatically pay down lines of credit.
How to Use a Sweep Account
Once a sweep account is set up, the process for maintenance is straightforward since everything is automated.
First, open a sweep account with a bank, brokerage firm, or credit union. Fidelity treats its money market funds as cash and uses its money market fund SPAXX as its default sweep money market position. Vanguard uses VMFXX, the Vanguard Federal Money Market Fund, as its default sweep position instead of its other money market funds.
Then, determine the minimum balance you want to maintain in your checking account. If your balance exceeds this amount, the excess cash will be swept into your linked interest-earning accounts.
After that, the sweeping process is automatic, but monitor your accounts regularly to ensure everything is working and to update your settings or thresholds as necessary.
Understanding FDIC Insurance Coverage
FDIC coverage protects bank deposits up to $250,000 per depositor, per institution. In a sweep account, funds swept into FDIC-insured banks are covered, but if they’re swept into non-bank investment options like money market funds, they won’t have FDIC coverage.
Taking Advantage of Sweep Accounts
For those who don’t want to think about cash management, sweep accounts offer an automatic way for us to earn cash. Fidelity and Vanguard offer best-in-class sweep accounts by automatically investing cash into their money market funds. However, those who want to maximize yield on cash may want to optimize their cash investments. Fidelity has many other options for cash investments, including T-Bills, brokered CDs, and floating rate note ETFs. Vanguard also offers a similar selection. But until you decide where to park cash, sweep accounts will help you earn yield in the meantime.
