CHAPTER 4: MANAGING YOUR CASH AND SAVINGS

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CHAPTER 4 MANAGING YOUR CASH AND SAVINGS
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Role of Cash Management in Personal Financial
Planning

• Cash management deals with the routine,
  day-to-day use of liquid assets.
• Liquid assets consist of cash and other assets
  which can be readily converted to cash with
  little or no loss in value.

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Examples of Liquid Assets

• Cash
• Checking Accounts
• Savings Accounts
• Money Market Deposit Accounts
• Money Market Mutual Funds
• U.S. Treasury Bills
• EE Savings Bonds
• Certificates of Deposit (shorter-term)

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Purpose of Liquid Assets

• Make purchases.
• Meet recurring living expenses.
• Provide reserve for unexpected expenses or
  opportunities.
• Used temporarily to accumulate funds for
  longer-term financial goals.

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The Financial Marketplace
The financial services industry markets

• Financial products
• checking and savings accounts
• credit cards
• loans and mortgages
• insurance
• mutual funds

• Financial services
• financial planning
• tax preparation
• brokerage services
• real estate
• trusts
• retirement
• estate planning

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Types of Financial Institutions

• Commercial Banks
• Largest type of traditional financial
  institution.
• Offer full array of financial services.

• Only type of financial institution that can offer
  noninterest-paying checking accounts.

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• Savings and Loan Associations

• Offer many of the same services as commercial
  banks.
• Typically pay slightly more on savings deposits.
• Channel depositors savings into mortgage loans
  for purchasing and improving homes.
• Some are mutual associations.

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• Savings Banks

• Similar to savings and loan associations.
• Located primarily in New England states.
• Offer interest-paying checking accounts.
• Typically offer savings rates similar to those of
  savings and loan associations.
• Most are mutual associations.

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• Credit Unions

• Provide financial products and services to
  specific groups of people who have a common tie.
• Qualified persons become members by purchasing a
  share of ownership.
• All are mutual associations owned and sometimes
  operated by members.
• Typically pay interest rates higher than those of
  other financial institutions.

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• Internet Banks

• Offer online banking services.
• Feature lower fees and higher yields than
  brick-and-mortar banks.
• Suitable for people who do not need to physically
  go to a bank.

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• Nondepository Financial Institutions

• Stockbrokerage firmsoffer cash management
  accounts, money market mutual funds, wrap
  accounts, credit cards
• Mutual fundsoffer money market mutual funds
• Life insurance companies
• Finance companies

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• How Safe is Your Money?

• Almost all financial institutions are federally
  insured by either
• Federal Deposit Insurance Corporation (FDIC)
  insures accounts at banks, savings banks, and
  SLs.
• National Credit Union Administration (NCUA)
  insures accounts at credit unions.
• Both provide government insurance up to 100,000
  per depositor.

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Truth-in-Savings Act of 1993

• Helps consumers evaluate terms and costs of
  banking products.
• Fees, interest rates, and terms of both checking
  and savings accounts must be fully and clearly
  disclosed.
• Places strict controls on advertising and what
  constitutes a free account.
• Standard formula for annual percentage yield
  (APY) must used.

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Cash Management Products
1. Checking Accounts Demand Deposits

• With sufficient funds, banks must immediately
  pay the amount of your check or ATM withdrawal.

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Types of Checking Accounts

• Regular checking accounts
• Offered by commercial banks
• Pay no interest
• Interest-bearing checking accounts
• Examples include NOW, share draft, and money
  market deposit accounts
• Offered by banks, savings banks, SLs, and credit
  unions

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• Money Market Mutual Funds

• Offered by investment (mutual fund) companies
• Not federally insured trade on open market
• Interest bearing limited checks
• Asset Management Accounts
• Primarily offered by brokerage firms consolidate
  financial activities
• Insured by SIPC open market
• Interest bearing check writing privileges

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2. Savings Accounts Time Deposits

• Funds are expected to remain on deposit for a
  longer time period than are demand deposits.
• Generally pay higher interest rates than demand
  deposits.
• At many institutions, the larger the balance, the
  higher the interest rate offered.

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Other Money Management Services

• Electronic Banking Services

• Electronic Funds Transfer Systems (EFTS) make
  possible
• ATM service
• Debit cardslinked to your checking account
• Pre-authorized deposits and payments
• Banking by phone
• Online banking and bill payment services

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Electronic Funds Transfer Act of 1978

• Regulates EFTS Services.
• States that errors must be reported within 60
  days.

Limit your losses by immediately reporting theft,
loss, or unauthorized use of your card or account!
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• Other Bank Services

• Safe Deposit Boxes
• Trust Servicesprovide investment and estate
  planning advice and management for trust
  accounts.
• Mutual Fund Salesalong with other brokerage and
  investment services.

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Starting Your Savings Program

• PAY YOURSELF FIRST!!!!
• Establish an emergency fund.
• Regularly set aside funds for financial goals.
• Utilize direct deposits and automatic transfers.
• Choose instruments best suited to your goals and
  time horizon.

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Earning Interest on Your Money

• Interest can be earned in two ways
• 1. Some investments are sold on a Discount Basis.
• Security sold for a price lower than redemption
  value.
• Difference between sales price and redemption
  value is the amount of interest earned.
• 2. Other investments offer Direct Payment.

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How is the interest calculated?

• Simple Interestinterest paid only on initial
  amount of deposit.
• Compound Interestinterest paid at set intervals
  and added back to principal.

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• Nominal ratethe named or stated rate of interest.

• Effective ratethe annual rate of return actually
  earned.

If interest is compounded more frequently than
once a year, the effective rate will be greater
than the nominal rate of interest.
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Effective rate Annual amount of interest
earned Amount of money invested

• Example
• Invest 1000 at 5 for 1 year.

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• If simple interest is used, there is no
  compounding

Interest Principal x rate x time 1000
x .05 x 1 50
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• If compound interest is used and the compounding
  occurs semiannually

• First 6 months' interest
• 1000 x .05 x 6/12 25.00
• Second 6 months' interest
• 1025 x .05 x 6/12 25.63
• Total annual interest 50.63

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• The nominal rate is 5, the stated rate of
  interest.

• The effective rate is 5.063.

• Effective Rate 50.63 ? 1000
• 0.05063
• 5.063

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How much interest will you earn?

• Amount of interest earned depends on
• Frequency of compounding
• Balance on which interest is paid
• Interest rate applied

Time value of money concepts are used in
compounding to find interest earned.
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A Variety of Ways to Save

• Certificates of Deposit (CDs)
• Funds are to remain on account for a given time
  period.
• Early withdrawals incur an interest penalty.
• U.S. Treasury Bills
• Debt securities issued by the U.S. Treasury.
• Sold at a discount 1000 minimum.
• Mature in 1 year or less.

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• Series EE Bonds (Savings Bonds)

• Purchased at 1/2 face value.
• Interest paid when bonds redeemed.
• Newly purchased bonds must be held at least 12
  months actual maturity date unspecified.
• Taxes not paid until bonds redeemed.
• Exempt from state and local taxes.
• If redeemed for educational purposes, income
  taxes may be avoided (subject to certain
  qualifications and limits).

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Maintaining a Checking Account

• Determine services needed.
• Consider costs involved.
• Keep track of checks written, automatic deposits,
  and ATM withdrawals.
• Dont write checks for more than you have in the
  account (i.e., dont bounce checks!).
• Arrange for overdraft protection.
• Know how to stop a payment.
• Periodically reconcile your account.

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Special Types of Checks

• When personal checks are not accepted, special
  checks can be used to guarantee payment.

• Cashiersdrawn on the bank.
• Travelersused for making purchases worldwide.
• Certifieddrawn on your account but guaranteed by
  the bank.