The personal savings rate or the ratio of money saved by individuals or families to their disposable income amounted to 7.6 percent in the United States as of 2019. Saving and investing are both important aspects of maintaining financial security, as they both involve putting money away for future reasons, but they are not the same thing. While both saving and investing can help you achieve a comfortable financial future, understanding the difference between the two will better help you reach your goals.
Savings
People generally save for a particular goal, such as buying a car, putting a downpayment on a house or growing their emergency fund. These savings are typically for smaller, short-term goals in the near future and grow as you gradually put money aside, typically into a bank account.
Pros and Cons of Savings
Savings are advantageous in many ways, but they do have their downfalls for many. First, these accounts involve minimal risk, but in return, the interest rates are lower. These accounts are also often easier to access and liquidate in case of an emergency.
A savings account can be more reliable to reach short term goals on a set timeline as long as you are saving the proper amount each month. This is easy to calculate. Assess what you need to have saved in total and divide it by the number of months until you need to reach your goal. This sum equates what you need to set aside each month.
One major disadvantage of savings is the loss of purchasing power due to inflation. While interest rates may help keep up with inflation, rarely are they high enough to match. Additionally, because the accounts are low-risk, low-return, you may have to save more money to reach the same goal versus earning a higher return on investments.
Tools to Help You Get Started Saving
Most brick-and-mortar banks offer low-interest rates for savings accounts, but online savings accounts, such as those offered by Discover and CITI Bank offer higher interest rates to help increase your return.
Money market accounts are similar to savings accounts, as they earn interest, but they often require a higher minimum balance and restrict the number of withdrawals you can make on the account.
Savings Bonds and Certificates of Deposit (CDs) may offer higher interest rates, but don’t allow for easy liquidation like many of the other classic savings options. Savings Bonds and CDs often offer higher interest rates, but must be held until they reach maturity, which can take up to 20 years. If you choose to cash out these options early, you may face interest penalties.
Investing
Investing is money that you’re planning to leave alone and allow to grow over a period of time. Money put into investments is often focused on long-term goals, such as paying for a child’s education or planning for retirement. Stocks, property or shares in a mutual fund can help you use your money with the aim to make it grow over a period of time.
Pros and Cons of Investing
Investing is an option for somebody that has money available that they do not need at the moment. Investments always involve risk and don’t guarantee a return, so the money you put into investments shouldn’t be money that you are going to need to withdraw within the next few years, as you should be okay allowing it to sit and ride the ups and downs of the market.
Investments are also not as liquid as savings and involve more work to pull out, but they do have the potential to yield higher returns than a traditional savings account. This may also be a great option for long-term goals such as retirement, as you may not end up having to contribute as much money.
Investments may not be great for short-term or timelined goals as they may decrease in value right before you reach your goal. If you have time to wait for them to increase again, this is okay, but if it is money you rely on in the near future, it could delay the goal.
Tools to Start Investing
Investing is a more complicated process than saving, so consulting others may be a great start to ensure you are making the right decisions for your financial future.
Robo-advisors, such as Betterment, Personal Capital, and Wealthfront allow you to invest with the help of an automated advisor. This software will build a portfolio of investments based on your risk tolerance, goals and other factors. The fees for these services vary depending on the amount of help you need but are often affordable when you take into account the return on investments you will see with them.
Investing apps, such as Stash Invest and Acorns are great for beginners and those looking for more accessible ways to invest, as they allow you to invest small amounts from your phone. These apps also work to tailor investments and come at little to no cost.
Which is Better for You?
Now that you understand the difference between saving and investing, it may be time to assess which financial plan is the best for your current goal and circumstance. Before you start planning your investment strategy, ask yourself these three questions.
-
- Is my emergency savings built out? Before you start investing, you should make sure to have a separate account that you can rely on to cover expenses in case of an unforeseen event. Typically, it is recommended that you have at least three to six months’ worth of living expenses set aside.
- Is my high-interest debt paid off? Credit cards have a way of sneaking up and causing financial burdens. Make sure that they are paid off before you start saving and investing, to reduce the amount you owe and free up money you can put toward saving or investing. There is no point in investing money that is earning a 4 percent return when your credit card is charging you a 16 percent interest fee every month.
- Have I maxed out my 401(k) and IRA? Make sure you are utilizing an employer match for your 401(k) to maximize your retirement account. If your long-term goals include a comfortable retirement, make sure you are contributing the maximum amount to your retirement accounts before exploring different investment opportunities.
After you have addressed these questions and stabilized your finances, it may be time to start a mixture of savings and investing. Overall, understanding the difference between saving and investing, and being aware of your current financial situation, will make earning money for your goal easier to achieve and help you in the long run.
To learn more about Guy Gentile and DayTraderPro visit https://daytraderpro.com.