What Is a Dividend Bank Account and How Do They Work?
Discover how dividend bank accounts work, offering unique returns on your deposits, especially at credit unions.
A dividend bank account functions as a deposit account where individuals can earn returns on their deposited funds. These accounts provide a way for individuals to grow their savings or checking balances beyond their initial deposits. This type of account offers a distinct approach to earning money on deposits compared to traditional interest-bearing accounts.
Understanding Dividend Accounts
A dividend bank account is a type of deposit account, typically found at credit unions, that provides a return on deposited funds. While commercial banks commonly pay “interest” on deposit accounts, credit unions, structured as not-for-profit financial cooperatives, distribute “dividends” to their members. This distinction arises because credit union members are also owners, and dividends represent a share of the credit union’s earnings returned to its members.
The fundamental concept is that both dividends and interest serve as a return on deposits, allowing account holders to earn money on their savings. However, the underlying structure differs significantly. For federal credit unions, member savings placed in share accounts are considered equity investments, and the returns are dividends. State-chartered credit unions may offer both share and deposit accounts, with state law determining if returns are dividends or interest. This cooperative model allows credit unions to share their financial success with members through dividends, which can sometimes result in higher earnings on deposits compared to interest rates offered by banks.
How Dividends Are Calculated and Distributed
Dividends on account balances are commonly calculated using methods such as the daily balance method or the average daily balance method. Under the daily balance method, a periodic rate is applied to the principal in the account each day. The average daily balance method calculates dividends by applying a periodic rate to the average daily balance in the account for the dividend period.
The Annual Percentage Yield (APY) is an important metric that reflects the total annual return on an account, taking into account the effect of compounding. Compounding occurs when earned dividends are added to the principal balance, allowing future dividends to be earned on a larger sum. While the dividend rate is the nominal rate, APY provides a more complete picture of how much an account can grow over a year, as it includes the impact of compounding. Dividends are typically compounded daily and credited to accounts on a monthly basis, though some institutions may credit quarterly or annually.
To earn dividends, accounts often have specific requirements, such as maintaining a minimum balance. Some accounts may also require a certain number of debit card transactions or a specified amount in direct deposits to qualify for dividends.
Common Account Types and Key Features
Dividend-earning capabilities are often found in various deposit accounts, including certain checking accounts, savings accounts, money market accounts, and specifically credit union share accounts. A basic share savings account is foundational to credit union membership and typically requires a small minimum deposit to establish membership. Share draft accounts are another term for checking accounts at credit unions. Money market accounts often provide higher dividend rates compared to standard savings accounts and may offer check-writing privileges.
These accounts share many general features with traditional bank accounts, such as access to funds through debit cards, online banking, and bill pay. While designed for everyday transactions, some dividend checking accounts may have requirements to earn dividends, such as maintaining a daily minimum balance or meeting direct deposit criteria. Fees for dividend-bearing accounts at credit unions tend to be minimal or non-existent.
An important feature for account holders is deposit insurance, which protects funds in the event of a financial institution’s failure. Deposits at federally insured credit unions are protected by the National Credit Union Administration (NCUA) through the National Credit Union Share Insurance Fund (NCUSIF). This insurance provides coverage up to $250,000 per account owner, per ownership category. Similarly, deposits at federally insured banks are protected by the Federal Deposit Insurance Corporation (FDIC) up to $250,000 per depositor, per ownership category.