University of Idaho Extension

Savings

Savings goals

WHY SAVE?

Saving demands a purpose. Without a purpose, money saved too often becomes money spent on the first “bargain” that comes along.

It’s a great idea to save a certain percentage of your income every month. Often, saving is the only alternative to buying things on credit and paying a lot more for them when interest and fees add up. Not only can you avoid the high cost of credit by saving money instead, but you can get a much clearer idea of what you can and cannot afford.

Saving demands a purpose. Without a purpose, money saved too often becomes money spent on the first “bargain” that comes along. Make a list of your financial goals and build your savings with the intention of reaching them.

SAVING FOR FINANCIAL GOALS

Your financial goals can be anything you want them to be. Unless you’re an excellent bookkeeper, it usually makes sense to divide them into short-, intermediate-, and long-term goals and to establish separate savings accounts for each category. One method of categorizing these accounts is by how long it’s likely to take you to save up for a particular goal. For example:   

  • Short-term savings: less than 3 months
  • Intermediate-term savings: 3 months to a year
  • Long-term savings: more than a year

An alternative method for classifying your financial goals is by the dollar amount. Save up and pay for each goal out of its designated account. For example:

  • Short-term savings: $1 to $300
  • Intermediate-term savings: $301 to $1,000
  • Long-term savings: $1,001 or more

Yet another method is to simply categorize your goals by the names of the items for which you’ll be saving. For example:

  • Short-term savings: sporting goods, special dinners out, clothes, etc.
  • Intermediate-term savings: vacations, holiday expenses, new appliances, etc.
  • Long-term savings: vehicles, retirement, down payment for a home, etc.

THREE IMPORTANT SAVINGS GOALS

While most financial goals differ from person to person, some are important for everyone to consider.

Emergency Savings

One of the most frequently overlooked types of savings is emergency savings. Ironically, this is probably the most important savings account anyone can have. Cars and appliances break down, and unexpected trips to the doctor or dentist come up. Unfortunately, credit becomes your safety net when you don’t have emergency savings. Just as borrowing for goals leads to unnecessary interest costs and fees, so does borrowing for emergencies. For example:

  • If you lose your job and put $7,500 on a typical credit card for living expenses over the next three months, it will take you 108 months—at payments of $150 a month and an interest rate of 20%—to pay back that debt. The cost of the original debt will have more than doubled—to $16,200, including $8,700 in interest—by the time you’ve paid it off.
  • By contrast, if you withdraw $7,500 from savings during those three jobless months, you’ll be able to replace that entire amount by making $150-a-month savings deposits for only 39 months. Because your savings account will earn interest, you won’t even need to repay the entire amount, because the earned interest will take care of some of it.

Research indicates that an ideal emergency savings fund is one in which three to six months’ worth of expenses are available in a relatively high-interest, but liquid, account that can be easily accessed—but not so easily that you’re tempted to use it for other things. It should be a separate account that is used only for occasional emergencies.

Experts recommend the “Pay Yourself First” principle for emergency savings. You pay yourself first by placing 10% of your net monthly income into an emergency savings account  before paying any of your bills. (Your net income is what’s left in your paycheck after taxes and other employment-related costs have been deducted.)

If you can’t set aside 10% right away, simply start by setting aside $1, $5, or $10.  The key is to make saving for emergencies an automatic habit. The easiest way to do this is to set up the account so that the transfer of funds occurs automatically.

Home Down Payments

Most financial experts agree that it’s a good idea to eventually own a home and to build equity in it. In addition to your other savings accounts, plan to establish a separate one for the specific purpose of saving for a down payment. Having 20% or more of a home’s purchase price available as a down payment is an excellent way to save money. Without a 20% down payment:

  • You’ll be forced to pay an extra 0.5% for Private Mortgage Insurance, which has no benefit to you—only to the lender.
  • You’ll pay more in interest and fees because you’ll need to borrow a larger amount.
  • You may have to settle for a subprime mortgage product or an otherwise more expensive, non-traditional loan.
  • You may not be eligible for a home loan at all.

If you’re already in a home with a mortgage, it’s a good idea to pay extra on your monthly mortgage payment, whenever possible, so that it takes less time to own your home outright. Larger payments help by:

  • Reducing the amount of interest you’ll have to pay over the life of the mortgage
  • Ultimately giving you more security (you can’t lose a paid-up home to foreclosure, unless you default on property taxes)
  • Lowering your monthly income requirements (paid-up homes are especially great for retirees living on a fixed income)

Most Americans call themselves homeowners but, in truth, they’re simply mortgage-payers who don’t yet own their homes.

Retirement

Studies indicate that traditional sources of retirement income are diminishing steadily from year to year. The younger you are, the more likely it is that you’ll be relying on your own savings and investments for most of your retirement income.

A retirement investment can be as simple as a mutual fund 401(k) or an Individual Retirement Account (IRA). Sometimes these accounts require minimum investment amounts, such as an initial $3,000 to start them. If that’s the case, consider opening a separate savings account dedicated strictly to building up this deposit.

Just as with emergency savings, experts say you should “pay yourself first” for retirement by moving 10% of the net income from every paycheck directly into your retirement account. If you start early and do this your whole life, you should have plenty of investment income available for retirement. Start today! 

For more information about planning for retirement, see:

WHERE TO SAVE

The best place to keep savings depends on what you’re saving for. If it’s a down payment on a home, a Certificate of Deposit (CD) might be a very good place for a portion of your savings because the money won’t be needed for a while and can potentially earn a higher rate. On the other hand, retirement savings should rarely be held in a CD because CDs won’t produce a long-term return that beats inflation; instead, they should be placed in investment-account vehicles.

In saving for short- and intermediate-term goals as well as emergencies, it’s almost always a bad idea to use CDs or investment accounts: if you need to withdraw money early from a CD, you’ll pay penalties, and investment accounts may have a depressed value when you need them. What usually makes sense is to keep these types of savings in a relatively high-interest savings or money market account, where your funds will be liquid or accessible.

For more information on the pros and cons of different types of savings accounts and CDs, follow this link:

Online savings accounts are another alternative to traditional savings accounts. At first, these types of accounts were offered by nontraditional financial institutions that had no physical location but rather kept all of your financial records on the Internet. More recently, traditional brick-and-mortar establishments have begun to compete with online banks by offering their own online accounts on the Internet. The advantage to online savings accounts is that they have very low overhead and thus give the saver a relatively high rate of return.

Like any other product, it’s a terrific idea to comparison shop for rates on savings accounts and other banking products before choosing one.

YOUR NET WORTH

In his book The Millionaire Mind, T. Harv Eker said that poor people talk about promotions, salary increases, and bonuses, but rich people talk about increases in net worth. That’s because only increases in net worth show improvement in your overall financial picture, while bonuses and salary increases can quickly be spent with little to show for them. The accounting of your net worth includes both your savings and your liabilities (such as any debts you have). It’s also a measure of your investment decisions.

Calculate your net worth using our Net Worth Statement. Do this at least yearly. Make it your goal not only to save but to increase your overall net worth from year to year. 

Developed by:

Luke Erickson
University of Idaho Extension Educator
134 E. Main St.
Rexburg, ID 83440
(208) 356-3191
erickson@uidaho.edu

Marilyn C. Bischoff
University of Idaho Extension Professor and Family Economics Specialist
322 E. Front St., Ste. 180
Boise, ID 83702
(208) 364-9910
mbischof@uidaho.edu

2014 Update by:
Nancy M. Porter, Ph.D.
Extension Personal and Family Finance Consultant
University of Idaho
(864) 650-8289
nporter@uidaho.edu
 
Other credits:

Educational Communications,
University of Idaho College of Agricultural and Life Sciences:
Editing: Marlene Fritz, Communications Specialist, Boise
Web Design: Jacob Peterson, Web Designer, Moscow

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