Building Your Savings

(Wednesday, August 21, 2019)

Savings vs. Investing

At any point in time, a person’s income probably won’t always be enough to cover all of the expenses when there is a time of need. As a result, plan sooner, rather than later, to implement a savings strategy to begin, or increase, personal savings levels as needed so an adequate amount of funds can be available when a need presents itself.

Saving is setting aside and accumulating funds within a very low risk account with easy access to safely meet short-term needs such as upcoming expenses or emergencies. Typically, funds are placed in accounts with little or no risk, earn lower returns, but are easily accessible. The key objective is not the return on the money placed into savings, but the return of the money when needed.

Investing may require taking on of some additional levels of risk with an individual’s funds and may include, for example, the purchase of actively traded assets including securities, such as stocks, bonds or mutual funds as well as land, gold or fine art with the goal of earning higher, long-term returns on funds placed into these investment vehicles. Investments generally do not offer the safety or the regulatory required insurance of a traditional financial institution’s savings account so please note the amounts invested are many times considered “at risk” or have the possibility of loss without the funds being regained.

In exchange for accepting a higher level of risk, there is the potential for a proportional greater gain or return. The key objective is a return on funds, but not necessarily the return of the funds.

Setting aside money, whether for short-term needs, long-term needs, or emergencies is one of the most important financial moves any consumer may make.

There are many approaches to saving money, but the five steps noted below are a good place to start a personal savings approach:

1. Save now. Just start. Regardless of age, income, or life situation, one of the hardest things about saving money is actually getting started. It may seem like it’s never the right time to save. But the fact is, the sooner savings starts the better. Even if meeting a personal savings goal is not being immediately achieved, start saving something, even a bare minimum amount today so that the habit of saving can be established. The key is to establish a disciplined savings plan that increases savings in the future and is a plan that can be sustainable over time.

2. Save first. Pay yourself first. Even the most committed may choose to put off savings if given the choice. Like paying taxes, allow personal funds allocated to savings to come out of paychecks and be set aside to accumulate. With time, the accumulating savings funds set aside consistently over time will capture the saver’s attention.

3. Save or invest 10-15% of your gross pay. A beginning goal for savers in their 20s, is to strive for a savings rate of at least 10-15% of monthly gross pay (the amount made before taxes or other deductions are taken out). This amount should allow for good accumulation whether setting aside funds for a traditional savings account or building an emergency fund or accumulating savings for some other goals. The right mix of how much money to put where will depend on saver-specific situations and goals. Sometimes it will make sense to direct most of this money to short-term savings goals while at other times, it may make more sense to allocate a larger portion of funds to future investments. If 10-15% of gross pay into initial savings is beyond reasonable, then save as much as possible now and increase contributions whenever possible. For example, when receiving pay increases, bonuses, federal income tax refunds or any extra money, consider putting aside some or all of the additional earnings toward savings goals. The key is to begin saving now. The longer a saver waits, typically, the more that will be needed to be set aside to make up for any goals or savings plan shortfalls.

4. Save automatically. By far, the most foolproof way to save money is to make it automatic. Set up a deduction from personal wages or pay before the paycheck is ever received. Alternatively, have an automatic funds transfer set up whereby funds earmarked for savings are removed automatically from checking to a savings account (or if paycheck is being automatically deposited into savings, then have an automatic funds transfer amount established to transfer the desired amount into a separate savings account).

5. Save separately. Mixing intended savings funds with day-to-day spending money will almost guarantee the funds to be set aside for savings will not be saved. Instead, set aside savings dollars in separate account(s) and label them for their intended use e.g. an emergency fund account, a car repairs account or a vacation account to name a few.

Becoming a saver doesn’t always require a bigger personal paycheck, instead, make a bigger commitment to savings by paying you first.

Of course, the decision to set some money aside for savings means having a plan that helps determine funding for long and short-term savings goals. Money for long-term goals can many times be placed into investments – remember investments can come with additional risk – but short-term and emergency fund moneys need to be kept liquid (easily accessible), safe and secure.

In the end, saving money can be a life-changing decision because it could be the difference between confidently being able to do the things dreamed of or wanted versus continually repeating, “I don’t have the money for….”

Where to Save?

The types of accounts used for saving often pay less interest than investments but it’s just as important to have this money available when you need it than to have it locked into an asset, inaccessible, yet earning a great deal more. The following are traditional accounts and programs with the intended purpose of helping consumers save. Please keep in mind, not all of these options may be easily accessible:

Traditional Savings Account

  • Saves money while often earning a low level of interest. o Highly liquid – funds can be withdrawn whenever needed.
  • Insured by the National Credit Union Administration (NCUA) up to $250,000* for each account.
  • Rates of return may be lower than investment options.

Money Market Accounts

  • Savings option whereby funds generally earn a higher rate of return than regular savings accounts.
  • Highly liquid – funds may be withdrawn whenever needed and options exist to write checks against the balance
  • May require a minimum balance to earn interest.
  • May charge service or transaction fees.

Certificates of Deposit (CDs)

  • Savings option whereby funds generally earn a higher rate of return than traditional savings and money market accounts.
  • Money is invested for a specified period – from 30 days to 10 years.  Substantial penalties may be charged for early withdrawals.
  • Considered a low-risk investment

U.S. Savings Bonds

  • One of the safest investments as it is backed by the U.S. government.
  • Pays a fixed amount of interest.
  • Interest can be paid from one to 30 years.  It is generally best to hold savings bonds until they mature.  Selling them earlier generally results in a reduced return or penalty.

• U.S. Treasury Bills (T-Bills)

  • One of the safest investments as it is backed by the U.S. government.
  • Earnings are exempt from state and local income taxes, but not federal income taxes.
  • Considered a loan to the federal government.
  • Maturity dates vary and are one year or less.  Generally, the longer the maturity, the higher the rate of return. 

*The standard NCUA insurance amount is $250,000 per depositor, per insured institution, for each account ownership category.

Bright Idea: Saving money is typically about safety and availability, not high returns. Mix savings options initially to determine which options work best for any personal savings plan.

Importance of an Emergency Fund

Because life has a way of throwing financial curveballs from time-to-time, it’s important to have money set aside for unexpected expenses: a so-called emergency fund or emergency savings. Ultimately, an emergency fund should build up a balance equal to 3-6 months’ worth of an individual’s or family’s committed expenses however, starting smaller and slowly building the fund over time is also a great way to build balances in this account. They key is to remain constant with the purpose of these funds: to build a fund for life’s surprises or to eliminate consumer debt. An emergency fund will help consumers avoid going into debt or being forced to possibly sell assets in order to manage life’s unexpected surprises.

The list of possible needs for emergency cash is nearly endless. Some common examples are:

  • Car repairs;
  • Unexpected family travel needs;
  • Replacing a damaged smart phone or computer;
  • Home repairs; and,
  • Insurance deductibles.

When discussing emergency funds, it’s important to understand the difference between true unexpected needs for cash – actual emergencies – and other big expenses for which can be planned and/or budgeted for over time. Let’s look at holiday spending. Plan for upcoming holiday spending by planning in advance and setting aside a certain dollar amount each period for the anticipated spending need. On the other hand, keep emergency funds for true emergencies that are unplanned and unknown. So the rule for holiday spending is to save a certain amount each period for the known big expense called holiday spending because amounts are largely predictable, can be budgeted and the need for the funds can be known in advance. True unexpected needs for cash, requiring an emergency fund, do not have any of these above noted measurables.

Think Outside the Box

If normal payroll cash flow alone isn’t going to provide the necessary level of funding for an emergency fund or isn’t going to fund it fast enough consider the following:

  • Save a portion of any tax refunds;
  • Selling unwanted items on-line or through a garage sale;
  • Consider seeking additional employment or money making activities outside of any regular employment; and,
  • Set aside gifts of cash received for special occasions into the emergency fund for a rainy day.

Remember creating a balance between saving and spending is important to a consumer’s overall financial well-being.

Save or Pay Down Debt?

Not all debts are equal in terms of their potential negative impact on a consumer’s overall financial condition.

Does it make sense to set aside money in a savings account if a consumer is carrying a high-interest rate debt?

Yes. It always makes sense to have at least some money set aside even while paying down debt. When the unexpected happens, the funds will be there to manage the situation without necessarily increasing any debt load. An emergency fund balance beginning target balance of $1,000 is often a good initial goal. Once the debt is paid down or off, then a renewed emphasis on fully funding an emergency savings can take place.

After reading the above overview of savings options, take some time to investigate the options available at local financial institutions, a financial advisor or contact one of DuTrac’s financial services consultants to discuss which savings and investment options may make the most sense for you.

This information is not intended to be, and is not legal, tax or investment advice.

Source: The USAA Educational Foundation

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