“Do not save what is left after spending; instead spend what is left after saving.” – Warren Buffett
Saving money, is like growing a plant from seed and in terms of financial freedom, it is by far the most important part of our mindset and actions.
6 years ago, I planted some date seeds in our garden - this year, in a few months actually, we will have our first harvest. I must confess, I'm super proud of this. I realize for most people this will be meaningless, but for me it is amazing. I watched a tree grow from seeds that I planted! It was a small act, that is bearing fruit 6 years later, and I'm here for it!
Our Date tree.
What's my point with this? Is that something very small can turn into something big and wonderful.
Quick recap:
We have mapped the financial landscape that we will traverse and make decisions in with "The Basics of Prosperity"
We have addressed the absolutely essential skill of budgeting, the need for an emergency fund and how to deal with debt with "Your journey to Financial Freedom" Today we talk about savings, you know; hiding your nuts for when winter comes, storing your grain for the seven years of famine, seeing your daughter becoming the first person in your family to graduate... all that stuff.
From the comments in general, I have noticed that most of the readers here are financially literate - understand the concepts and ideas. However, what still gets me is that most of us are not aware of the savings options that we can access. So, here are the most common types of savings accounts, their purpose and timeframes associated with them.
1. Traditional Savings Account
These are the savings accounts that immediately comes to mind when we think of a savings account provided by a bank. They allow you to earn a little bit of interest on the balance in the account. This account normally offers you the lowest interest rate available from all the savings options.
Pros:
Very easy to open with minimal red tape involved - these days you can easily do it online.
Most banks now allow you to manage your account online.
There are no restrictions on accessing your money.
There are no time restrictions applicable - you can have the account for 1` day or 10 years.
Cons:
The interest rates offered are very low, not really outpacing inflation. So, in effect, over time you are losing the purchasing power of the money in this account.
Monthly maintenance fees might be more than the interest you earn.
Can be used as part of your emergency fund where you keep 1/6th of the funds that you might need in a pinch. (See the previous post on Emergency funds if you want more clarity on this idea)
These accounts normally have small fees attached to them depending on how you use it and the institution.
2. Fixed Deposit Accounts / Certificates of Deposits
These accounts allow you to save money for a specific period of time at a set interest rate, e.g. 6month deposit at 3.5%
They are normally separated from other savings accounts because there is a time period involved. At the time of expiry, you can decide whether to roll your deposit into a new facility or whether you want to withdraw your funds.
The longer time period you choose the higher the interest rate earned.
It works very much like buying a sovereign or corporate bond, just at a smaller scale. You commit your money for a set time, earn some interest and at the end of the term get your capital and interest back.
Pros:
Good for people that doesn't need access to their money immediately. You are trading access for a slightly higher interest rate.
Great for storing the other 5/6th of your emergency fund. Banks normally require a notice period of a 24hours to a few days before you can access your money.
Usually small or no monthly maintenance fees.
Cons:
No immediate access.
Penalties with early withdrawal.
In a rising interest rate environment, you might suffer opportunity costs if you commit to a specific interest rate
In a falling interest rate environment longer, timeframes might not necessarily give you a higher interest rate.
3. High-Yield Savings Account
You will find these accounts normally with online banks. They are very good for someone who are looking for higher interest rates while paying minimal fees. These accounts are very appealing for people that are comfortable managing their accounts online.
Pros:
Higher interest rates compared to traditional bricks and mortar banks
Typically, lower minimum deposit requirement to open the account
Might not charge a monthly management fee. (Enquire about this).
Cons:
No physical locations that allow you to deposit directly into your account
Transferring money between accounts with different banks might take a few days. (but this can be said for most account transfers).
ATM networks might not be available - so physically withdrawing money might not be an option. Again, raises the question of access?
4. Specialty Savings Account
Now we are getting to the good stuff.
Specialty savings accounts, or goal specific accounts are where the rubber meets the road. The name says it all - these accounts are there to serve a specific purpose e.g. Your child's education fund, a house down payment fund, your healthcare fund, your second honeymoon fund, you can even count your retirement fund in this category.
These accounts exist to reach a specific goal.
As you have probably gathered already, these accounts don't have to be with a traditional bank. The most well-known alternative to the banks is the big insurance companies. You can have a savings account dedicated to a specific goal and capped to a specific time period that helps you to reach the goal you have in mind.
It might sound strange, but with these accounts you need some restrictions.
Remember - you are doing this to reach a goal you have set for yourself!
So, limited access is a good thing! (This is not your emergency fund)
Early withdrawal penalties are a good thing!
Patience is a virtue with these projects - notice that I call it a project, not a saving account.
Pros:
Helps you save for specific goals
You can add beneficiaries to these accounts which will help later with inheritance and estate planning.
Product returns are normally quoted with fees accounted for.
Less risky than high yield accounts.
Restricted access before maturity date.
Cons:
Might not offer the same high interest rate as a high yield account.
Limited access to your funds before maturity.
Depending on your nationality and jurisdiction you find yourself in there might be tax implications when you want to interact with the account. Be sure to find out if this will affect you.
5. Cash Management Account
Think of these accounts as a warehouse where you park money before distribution. They are not specifically designed for saving and are usually found with investment brokers. Sometimes there are a small interest attached to the cash balance and if you choose the right broker, you might even get a rate comparable to a bank. In addition, sometimes you might get the same transaction facilities you will have with a normal checking account like being able to write cheques and pay bills. This account is there to give you time to decide how you want to deploy your money.
Pros:
Cash management accounts give you the access you need to the stock market.
Great way to earn interest on money you are waiting to deploy.
Can offer the same or similar benefits to a traditional checking account.
Cons:
The interest you are earning here is normally less than what you will earn in a high yields savings account.
Usually, no access to brick and mortar branch banking.
These account balances are usually not covered by any bank account balance insurances.
Quick preview: Next week we cover one of the crucial parts of the journey to your 1st $100 000.00. - Investing! For this, you will need a cash management account.
Right, these are some of the basic savings accounts available to everyone. If possible, it is a good idea to try to save between 15-20% of your salary every month.
Important question: Are savings accounts an asset?
Answer: Only if the interest offered is higher than inflation.
Having or cultivating a savings mindset, is probably the most important part of becoming and staying wealthy.
Are you saving anything right now? If yes, great! If no........why not?
Feel free to reach out if you have questions or need help to implement any of this in your life.
See you later
Hendrik.
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