When I first started investigating my investment options, I wasn’t really sure what I was doing and didn’t even know the difference between saving money and investing it. That may sound like a fairly obvious concept, but what is the difference between saving and investing? They both involve setting up accounts, putting money aside that can’t be used for other purposes, and usually with a specific desired outcome.
Saving Versus Investing
It’s important to differentiate between things like savings accounts, which can earn interest but allow you to withdraw your money at any time without penalty, and other banking products that might seem more like a savings account (such as a Certificate of Deposit, bonds, or other time-based investments) but are actually investments.
What’s the big difference? Being able to pull your money out at your leisure and without penalty. If you invest in a Certificate of Deposit, you are obligated to keep that money tied up in the CD for the specified amount of time. If you cash out early, you risk penalties as described in your agreement with the lender.
The same is true for Roth IRAs and similar retirement funds–you can’t take money out early without facing potential tax liabilities or other financial penalties. Your savings account is set up to act as a safe place to put your money and even have it earn a little bit in interest, but sticking your cash in such an account is not a true investment.
Investments Carry Risk
Investments are tricky–there are ups and downs in the stock market, there are unforeseen circumstances that may make you tempted to cash out of a 401(k) or an IRA, and there are often the same circumstances that make people raid their savings accounts. But when you draw from savings, you don’t owe the IRS any money or explanations. Cashing out some or all of an IRA on the other hand…
Should I Save Or Invest?
Saving versus investing isn’t really a dilemma. You should do BOTH, but for the risk-averse, it may be best to search for investment opportunities that carry a much lower risk of loss of your principal investment. Savings bonds are what some turn to in such cases, but you can also consider banks that offer interest-bearing checking accounts or consider a risk-averse mutual fund that invests conservatively over a diverse portfolio.
Some investing costs more money than others thanks to transaction fees; stocks are a good example of this. It doesn’t do any good to trade very small amounts of stock unless you have calculated the fees associated with such trades and decide that the expense is worth it.
It is NOT always worth it in situations where you want to try an investment but don’t want to commit a large amount of money to it. Remember, there are broker fees, transaction fees, and other expenses that can all add up — know those expenses BEFORE you commit, and don’t be taken by surprise.