More hop online for a better savings rate

When it comes to slashing expenses and eking out the highest possible returns on savings accounts and other basic investments, David Bach finds he comes out ahead by going electronic.

Mr. Bach, a prominent financial writer and author of "Smart Couples Finish Rich" (Broadway Books), uses a traditional, full-service brokerage firm to help him find solid money-market accounts. And he maintains a regular bank checking account. But he made sure to choose a bank that networks with a bill-paying company that actually sends out the checks.

A growing number of Americans do their banking online, many of them authorizing automatic monthly payments of their regular bills. Some 22 percent of American households have reportedly given up check-writing altogether. Last year, about 16 million US households used the Internet to bank and/or save online, according to Jupiter Media Metrix, a consulting research group based in New York.

It expects that number to reach 43 million by 2006. One reason: Online banks promise higher interest rates than local banks. Interest earnings on small accounts at online banks are often above the 1.7 percent to 2 percent rate of inflation expected for this year.

Online banking is also convenient, accessible, and increasingly safe, with encryption efforts outpacing - so far - more aggressive attempts at identity theft. Telephone access to most Internet-based banks has improved, so there is now less worry about a loss of human contact.

Yet online banking also has its critics. One frequently cited downside: expenses. You have to make certain that service charges do not eat up interest earnings on your accounts, experts say. Some online banks are known to hit customers with a broad array of charges for such necessities as bill paying, transfers between accounts, and use of ATM machines.

Moreover, many online banks have dubious privacy policies that do not prevent sharing of financial information with third parties, such as insurance companies, finance firms, or other direct marketing firms.

Still, with careful selection, small savers can protect their privacy and maximize returns on savings and checking accounts by going online.

Largely because online banks operate with less overhead, they are often able to offer more competitive interest rates - as much as 2 percent higher than their bricks-and-mortar counterparts. And like regular bank accounts, online savings are FDIC insured for up to $100,000.

Online banking choices include financial institutions found only on the Internet, such as Etrade bank and NetBank, as well as scores of traditional institutions that also have online operations, such as Fleet Bank, Citibank, and Wells Fargo.

According to a survey of national banking institutions by Bankrate Inc., the parent company of Bankrate.com, an information firm, the national average interest earned on checking accounts, for example, is about 1.2 percent. But the rate with an Internet account can reach 3 percent. For someone with a checking account of $5,000, that adds up to an extra $90 a year.

"There is a real premium for the saver by going to an online institution," says Greg McBride, a research analyst with Bankrate Inc.

Consider bank money-market rates. The national average is about 1.1 percent. But at Etrade bank, the yield on a bank money-market account with at least $1,000 is 2.25 percent. At NetBank, the rate is 3 percent on an account with as little as $250.

Some analysts, however, argue that too many online savers overlook small, less-noticed financial institutions, such as credit unions or local community banks. According to James Van Dyke, who heads up research for Jupiter Media Metrix, such institutions may actually offer far higher yields than online banks. "You have to do your homework" in searching for higher returns, he says.

When picking an online bank, you need to know how long it takes for the bank to process and mail out checks, as well as its policies regarding late fees, consumer advocates stress.

Find out whether you or the bank is responsible for late fees if a bill payment arrives late.

Also ask if bill-paying is free or includes a monthly charge. A free list of ratings for online banking is available through Consumer Reports at www.con sumerreports.org.

By their rankings, Bank of America, Bank One, Citibank Etrade Bank, Fleet, JP Morgan, and Key Bank, all offer reasonable rates, services, and security.

But don't overlook brokerage houses, which typically offer online services, Bach says.