Barbara O’Neill, Extension Specialist in Financial Resource Management
Rutgers Cooperative Extension
How to Build a Base of Savings
Before you can become an investor, you must become a saver. Savings provides a pool of money with which to set up an investment account. For example, different types of bonds require certain minimum amounts to purchase and mutual funds might require a $500, $1,000, $2,500, or $3,000 initial deposit.
Once an investment account is set up, even small dollar amounts of regular deposits can grow to 5-, 6- or 7-figure sums with decades of compound interest. Math genius Albert Einstein was so impressed with this concept that he called compounding the “8th wonder of the world.”
Below are seven action steps to take to build a base of savings and investments to achieve your financial goals:
Save a Dollar a Day- Every day, put a dollar, plus pocket change, into a jar. At the end of each month, there will be about $50 to deposit into a savings account (30 or 31 days x $1, plus coins). Financial planners advise saving 3 to 6 months expenses for emergencies, but any amount of emergency savings is better than none. The same thinking applies for savings used to provide money to invest with. When the jar gets full, roll the coins or take them to a coin counter at your bank or credit union and deposit the amount saved.
Kick It Up a Notch- As your income increases, consider saving $3, or even $5, a day, plus loose change in your jar (about $120 and $180 monthly). Larger deposits to employer retirement savings plans like a 401(k) are another good option. The best times to increase savings are when income increases or a household expense such as childcare or car loan payments ends so cash flow remains unchanged.
Live Below Your Means– Track expenses for a month or two to identify spending leaks and to “find” money to save and, later, invest. David Bach, author of The Automatic Millionaire, calls these expenses the “Latte Factor™” because many people spend $5 (or more) a day on fancy coffees, fast food, and similar “impulse” items. This calculator can help users identify their personal “lattes” so they can save this money instead. Everyone has individual spending leaks that can be reduced to free up money to save.
Make Savings Automatic– Automate savings deposits because people are less tempted to spend money if they do not see it. Automated strategies include: transferring a set amount from a checking to a savings account on a certain date (e.g., $150 on the 5th day of every month), making payroll deposits to a credit union available to employees at your workplace, and transferring a set amount directly each month from a bank account to a mutual fund or stock dividend reinvestment plan (DRIP).
Complete a Savings Challenge– Aim to finish savings challenges, like the 30-Day $100 Savings Challenge, 15-Week Savings Challenge (basic or hard-core versions), 52-Week Money Challenge, and 50-week $2,500 Savings Challenge. Challenges provide a savings goal, a designated time frame (e.g., a month or a year), and suggested daily or weekly savings deposits. People generally feel a great deal of satisfaction when a challenge is completed and they have met their savings goal.
Contribute to Tax-Deferred Retirement Plans– Contribute as much as possible to an employer retirement savings plan and/or an Individual Retirement Account (IRA). The earlier people start saving for retirement, the more time their money has to grow, even if it is a small sum. Tax-deductible traditional IRA deposits and earnings are taxed upon withdrawal. Roth IRAs have no up-front tax deduction but earnings are tax-free after age 59 ½ for accounts open at least 5 years.
Earn “Free Money”- Try to save at least the maximum amount of money that can be matched by an employer. This is “free money,” which should not be passed up. Matched savings is like getting a guaranteed return on an investment. When pay increases, raise your savings contribution, which can raise your matched savings (up to your employer’s maximum limit). Employer retirement savings plans offer four benefits: a federal income tax write-off, ongoing tax-deferral, automatic deposits via payroll deduction and, at many worksites, employer matching of workers’ savings deposits.
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