Are you saving or are you investing? It’s easy to mix up the terms, saying you need to save for retirement when really you need to invest for retirement. So, what's the difference between saving and investing?
Saving generally involves putting money aside in a low-risk bank account or savings vehicle like a guaranteed investment certificate (GIC). This is a great way to save for short-term goals or set money aside in case of an emergency. Investing, however, involves putting your money into an investment vehicle that gives you better interest and growth, but which includes more risk. Investing is also usually a long-term project not focused on more immediate returns.
But it's not actually a question of saving vs. investing. Both are important and necessary for your financial well-being and future. We break down the differences between saving and investing, why they're each important and why you should focus on both.
What are the differences between saving and investing?
At its core, the difference between saving and investing comes down to a few key elements. They include the below:
- Type of vehicles: bank accounts, money market accounts
- Lower return on investment
- Little to no risk
- Best for short time horizons or emergency funds
- High liquidity – you can access your money at any time
- Types of vehicles: stocks, mutual funds, exchange traded funds (ETFs,) bonds, real estate, art
- Potentially higher return on investment
- Involves more risk
- Best for long time horizons and planning
- Lower liquidity – you might not want to take your money out prematurely or there might be penalties for doing so
How can I start saving?
Starting to save money is as easy as setting up a savings account with your bank. You can set up more than one account and name them different things so that you can have one account where you're saving for a dream vacation and another for a car.
Why do I need to invest?
How does investing differ from savings? Investing is great for medium to long-term financial goals or when you want your money to work for you by earning interest over time. Investments are as diverse as stocks, mutual funds, ETFs, bonds, real estate and anything else you might purchase in the hopes that it will increase in price like art or other collectibles. Many people invest in the stock market, where you can buy partial ownership of a company and get benefits like profits given out in dividends or an increase in value of the company through an increase in its stock price.
What is investing?
What is investing?
The benefit of investments is that their value often grows over time so that you end up with more money than you initially invested. Unfortunately, there is some risk involved in most investments and there is no guarantee that your investment's value will increase.
However, investments vary in their level of risk. So, depending on your risk tolerance, you can choose investment options that have lower risks like ETFs or mutual funds, which have historically performed well. Or you can choose riskier investments, which can sometimes lead to more growth. The money you earn from investing also starts to earn interest itself, something called compound interest. Over time, that compounding can help your initial investment grow significantly.
How to manage volatility?
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Because of the volatility of some investments, it's not a good idea to invest money that you might need or intend to use in the short term. While there are investments you can easily liquidate, meaning you can easily sell them when you need access to the money, if you had to do that during a downturn you might end up selling your investment at a loss. For that reason, it's best to invest money you can live without for now and allow to grow over time.
How can you invest?
You can buy stocks, bonds, mutual funds or ETFs through any brokerage account— an investment account that investors often use to buy and sell securities. But that's not the only way. You can also purchase those investments through a registered retirement savings plan (RRSP) and/or a tax-free savings account (TFSA).
What is the difference between an RRSP and a TFSA?
What is the difference between an RRSP and a TFSA?
A RRSP is an account that allows you to put money away for your retirement before taxes are removed and is only taxed when you take money out of it for your retirement. A TFSA is a registered account that allows you to invest after-tax money. When you take it out of the account you don't need to pay taxes. Unlike a RRSP that has age-related rules around when you can withdraw money, a TFSA allows you to do that and replace it at any time without penalty.
If you're now wondering when you should start investing, the answer is simple: As soon as you have the money to do so! The longer you invest, the more time your money has to grow.
An example of saving vs. investing
Let's say you get a raise at work and want to put it towards a future financial goal, what should you do with it? Should you save or invest it?
If you don't have an emergency fund or your financial goal is something like a trip or a big purchase like a car or a home in the next year or two, you're likely better off putting that money into a savings account. However, if you're looking to buy a home in five years or want to save for retirement, you're better off putting your money to work for you in some kind of investment.
Here is a high-level guide to help you get started on choosing which saving/investing options line up with your goals.
|TIME HORIZON||EXAMPLE OF FINANCIAL GOAL||RECOMMENDED OPTIONS|
|Short-term goal||Less than 3 years|
- Contributing to an emergency fund
- Savings accounts
|Medium-term goal||3 to 5 years|
- Saving for a down payment on a house
|Long-term goal||5+ years|
- Contributing to a retirement nest egg
- Registered Retirement Savings Plan (RRSP)
Get help! Deciding between saving vs. investing made easy
Now that you know the difference between saving and investing, you're ready to start making your financial plan. As you do that, your Scotia advisor can work with you to help you make a personalized plan that will build towards your goals.
Together with your advisor, you can decide whether to open investment accounts, savings accounts or both and set your financial future on the right track.
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