What is a Sweep Account?

Key Highlights

• A sweep account transfers excess funds from a checking account to an account that pays more interest.
• This transfer takes place at the end of every working day when there are excess funds available.
• Growing your money in a high-interest account without investing it in the stock market is one of the key benefits of sweep accounts.
• It is also possible to use sweep accounts for loan payments.

Sweep Account Meaning

Let’s start with the sweep account meaning. A sweep account is a type of bank or brokerage account where excess funds automatically move into investment accounts that pay higher interest rates. The sweep takes place at the end of a business day. A sweep account may also transfer surplus cash for debt repayment.

The goal of these accounts is to make the most of money that is lying idle. They automatically move, or "sweep," it into an investment option with a better return. For instance, your sweep account may transfer unused funds to a money market deposit account or mutual fund.

How Does a Sweep Account Work?

To set up a sweep account, first mention a specific amount you want to keep in your checking account. Only the excess money at the end of the business day will be transferred. The extra amount is moved to a high-interest savings account or money market account.

On the other hand, money will be transferred from the investment instrument if your balance falls below the threshold limit. This ensures you have enough money in your checking account to prevent overdrafts.

Example of Sweep Account

Let’s now look at a sweep account example to understand how it works. Sagar has an auto sweep account with a Rs. 50,000 threshold limit. Sagar’s checking account has a 6% interest rate. He has Rs. 40,000 in his account on November 10. Since his current amount is less than the Rs. 50,000 requirement, the money stays in his checking account. He continues to receive the monthly interest at a rate of 6%.

He deposited Rs. 60,000 on November 15th. So, his account balance increased to Rs. 1,00,000, which is more than the threshold limit. Therefore, the extra money beyond Rs. 50,000 will go into an investment account. Here, it is Rs. 50,000.

On November 30th, he withdrew Rs. 25,000. This brings his account balance down to Rs. 25, 000. However, he shall not lose his Rs. 50,000 investment.

Now, Sagar wishes to take out Rs. 30,000 from his account on December 3. However, his account balance of Rs. 25, 000 is insufficient. As a result, his checking account will receive Rs. 10,000 from the sweep account.

Types of Sweep Accounts

We may categorise sweep accounts into the following groups based on their functions.

Money Market Sweep Account

To boost your profits, you can put the excess balance of your checking account into a money market sweep account. Money from your sweep account will automatically move into your checking account when the amount drops below a specific limit.

Loan Sweep Account or Credit Sweep Account

With this kind of sweep account, you may use the extra money in your checking account to pay back debts more quickly. Thus, business owners might benefit from a loan sweep account to pay off their obligations on time.

Personal Sweeps vs Business Sweeps

For individual investors, cash or dividends are frequently placed in a sweep account until they are ready to be reinvested. Usually, they transfer these funds to money market funds or high-interest accounts. This keeps going until the broker places permanent orders in the portfolio or the investor makes a new investment in the future.

On the other hand, businesses use a sweep account in a different way. They manage different payments and working capital through a number of accounts. So, by investing the money using the sweep system, they create additional revenue streams. They can also use this excess money for debt repayment.

Advantages of Sweep Accounts

The following are the key benefits offered by sweep accounts.

1. It helps you earn interest on your money: A sweep account enables you to transfer extra cash from a checking account into an interest-earning account.

2. Useful for debt and loan repayments: Instead of transferring the excess funds to an interest-earning account, you can use them for loan repayments. This will help you pay off debt easily.

3. Easy Liquidation: Investors can easily sell their investments in the sweep accounts.

Disadvantages of Sweep Accounts

Here are a few drawbacks of sweep accounts.

1. Come with costs: You may need to pay fees for investing money that you transfer from a checking account to a brokerage account. To find out about all of your account fees, contact your brokerage.

2. Penalties: The biggest drawback of sweep accounts is the penalty for early withdrawal. Sometimes, the penalty may lead to less earnings than savings bank interest.

Conclusion

If you have several accounts, sweep accounts give investors a simple option to leverage their excess money. This allows money to automatically move from a checking account to a sweep account. The transfers occur at the end of the business day. There is always a chance of loss with brokerage accounts and varying returns. Yet, sweep accounts serve a crucial purpose by investing your money that is lying idle.