If you’ve accumulated a substantial sum of money, you might be looking for a highly liquid place to store your cash. Money market accounts and mutual funds both fit the bill, but there are key differences you need to know, especially when we consider the recent bank failures occurring across the country.
Here, we go over both types of accounts and how they keep your money safe.
Money Market Mutual Funds vs. Money Market Accounts: An Overview
Money market accounts (MMAs) and funds are similar in that they both generate interest from short-term debt. Beyond that, however, these two financial instruments are entirely distinct.
Money market accounts are deposit accounts rather than investment products. Available at most banks and credit unions, these accounts combine features of standard checking and savings accounts. While there are some limitations, you can earn relatively high interest on your deposits and also make withdrawals, transfer funds, and write checks. These accounts are often popular among individuals with a large amount of money they want readily available for short-term needs.
Money market mutual funds are a form of mutual fund usually made up of short-term, high-quality debt securities. You purchase the securities from a provider and keep them in your portfolio, earning returns from the interest paid. Usually, these securities are government securities, such as Treasury bills and commercial paper (a short-term debt issued by corporations). Generally considered a conservative investment, money market mutual funds are unlikely to lose money. However, you won’t see the high annual returns you may earn from more aggressive investments, like stocks.
There are several different types of money market mutual funds, each with its own set of features and benefits:
- Government money market funds invest in short-term debt securities issued by the U.S. government. Because the government is unlikely to default on its debt, the funds are considered very safe.
- Prime money market funds invest in short-term debt securities issued by the U.S. government and corporations. These are slightly higher risk but offer the potential for higher returns.
- Institutional money market funds are designed for large investors, such as corporations. They typically have higher minimum investment requirements and lower expense ratios.
- Sweep accounts are offered by banks and brokerage firms to sweep excess cash into money market funds. They can be a convenient way to earn interest and keep your money safe.
- Tax-exempt money market funds invest in short-term debt securities exempt from federal income tax. These are often a good option for investors in high tax brackets.
What Are Their Benefits?
| MONEY MARKET ACCOUNTS | MONEY MARKET MUTUAL FUNDS |
|---|---|
| Your money market account earns a fixed interest rate that is often higher than a traditional savings account. | These funds are considered very safe investments as they are rarely subject to losses. |
| MMAs give you convenient features characteristic of checking accounts, such as withdrawal and transfer privileges. Some banks may even allow the use of a debit card. | You can redeem your funds on demand, meaning you can access your money whenever you need it. |
| MMA funds are typically easy to access, making them a good storage vehicle for funds you plan on withdrawing in the near future. | As a mutual fund, money market funds automatically invest in various securities, which helps lower your risk. |
| MMAs are insured up to $250,000, so you won’t lose any money should your bank fail. | Money market funds generally have low fees, so you can save money while earning interest on your investment. |
What Are Their Risks?
| MONEY MARKET ACCOUNTS | MONEY MARKET FUNDS |
|---|---|
| Banks may charge you a monthly maintenance fee simply for having an account. There isn’t always a means of waiving this fee, meaning it may diminish the interest you earn. | Money market funds generally offer lower returns than other investment types. |
| Federal Regulation D limits capped the number of withdrawals to six per month. This limitation was suspended due to the COVID-19 pandemic, but your account may be subject to individual bank restrictions. | Inflation can erode the value of money market funds. Returns could fall below the inflation rate, meaning you earn a negative real return. |
| Some banks may ask you for a minimum deposit. You may also be subject to minimum balance requirements. | The issuers of the debt securities in which money market mutual funds invest can default on their loans, which can lead to losses for investors. |
Are They FDIC Insured?
A money market account is a deposit account, meaning it is insured by the Federal Deposit Insurance Corporation (FDIC) up to $250,000 per depositor, per bank. If you opened your MMA through a credit union, your funds are insured by the National Credit Union Administration (NCUA).
Money market mutual funds, on the other hand, are not FDIC insured. These investments carry a certain amount of risk that money market accounts do not, and investors are aware there’s a chance they could face losses. This is why the FDIC will not back your money market funds (even if you purchased them through an insured bank).
To learn more about FDIC coverage, click here.
The Bottomline
How do you know whether an MMA or money market fund is right for you? It all depends on how you’re using your money. If you want regular access to cash while earning more interest than a savings account, an MMA may be right for you. A money market fund may be a good choice if you’re looking for a low-risk investment that keeps your cash liquid while diversifying your portfolio.
At Ironwood Wealth Management, we’re here to help you develop a comprehensive financial plan composed of the accounts and investments that work best for you. Contact us today to get started.Â
