Building a Pyramid of Savings
It’s nice to earn dividends on your savings account, but it’s smart to diversify those savings. With the increase in cost of living, a savings account alone may not be enough.
Visualize a pyramid. It’s built from the bottom up starting with a secure base. Your financial plan is built similarly. Though personal finance is not a one-size-fits-all, there is a method to applying the building blocks to a secure financial future.
Start your savings plan with an emergency fund. The idea is to have enough saved to cover any unexpected circumstances so you’re not taking out a loan or charging it to your credit card. Set a goal to save an amount where you would feel most comfortable should something happen to your income. In general, it’s a good rule of thumb to save three months’ worth of expenses.
Once you’ve established your savings, redirect your focus to your high-interest debt. This should be a priority before other investments. The average interest rate on credit cards is 16 percent. That compared to an eight percent rate of return on investments makes it a no-brainer to pay down debt first. To make your money work harder, you have to work smarter.
Saving for something far away is difficult. The bonus is most retirement plans are automated so the money that comes out is rarely missed. Once you’ve secured your emergency fund and you’re actively paying down your high-interest debt, it’s time to build your future wealth. You may be presented with a retirement plan by your employer before you’ve accomplished the other two steps. If so, don’t miss the opportunity to contribute. You can increase your contributions as you accomplish the other two building blocks.
Once you’ve established a comfortable savings in the above accounts, you can begin to explore other means of investing. The other means of investing may include additional low-risk savings vehicles such as certificates, an investment in real estate or a company, or possibly stocks. This is entirely up to you. Before making additional investments, be sure you understand where you are in your accounts currently and their projections for the future.
Your financial journey may present opportunities that follow a different order than the ones suggested above and that’s okay. The idea is to put yourself in the best possible financial position by starting with a strong foundation which includes little to no high-interest debt and a robust savings for now and the future.