The content has been provided by a third party not affiliated with E*TRADE. The material is for educational purposes only.
If you don’t earn much and you can barely pay your bills, the idea of saving money might seem laughable. When you only have $5 left at the end of the month, why even bother to try saving? Because everyone has to start somewhere, and if you work at it, your financial situation is likely to improve over time. Saving money is worth the effort. It gives you satisfaction, it gives you choices, and the more you save, the easier it becomes to accumulate additional savings.
Who hasn’t lain awake at 3:00 a.m. wondering how they were going to afford something they needed? If money is really tight, you might be wondering how you’re going to pay the rent next week. If you’re a little further up the financial ladder, you might be worried about how many months you could pay the bills for if you lost your job. Later in life, the money thoughts that keep you up at night might center around paying for your kids to go to college or having enough money to retire.
As you accumulate savings, your financial worries should diminish, as long as you’re living within your means and not always looking for new things to worry about. If you already have next month’s rent taken care of by the first week of the current month, if you know you can get by without work for three to six months, if you have savings accounts for your children’s education and your own retirement that you’re regularly funding, you’ll sleep better at night. The reduced stress from having money in the bank frees up your energy for more enjoyable thoughts and activities.
The more money you have saved, the more you control your own destiny. If your job has you on the verge of a nervous breakdown, you can quit even if you don’t have a new job lined up yet and take time off to restore your sanity before you look for new employment. If you’re tired of living in an unsafe neighborhood, you can move to a safer area because you’ll have enough for a deposit on a better apartment or a down payment on a nicer home.
If you get sick and need expensive healthcare that your insurance doesn’t cover, you’ll have a way to pay for it even though you can’t work while you’re getting treatment. And knowing that you have more potential opportunities because of the money you’ve socked away can help put you at ease.
No, money doesn’t solve every problem. It you are laid off, it might take as long as two years to find a new job. Some illnesses won’t go away no matter how many procedures you can afford, and random crime can happen even in a supposedly secure gated community. But with more money in the bank to deal with issues like these, you give yourself better odds of coming out on top.
Money working for you
Most of us put in hundreds of hours of work each year to earn most of our money. But when you have savings and stash your funds in the right places, your money starts to work for you. Over time, you’ll need to work less and less as your money works more and more, and eventually, you might be able to stop working altogether.
What does it mean to have your money working for you? When you’re first starting to save, you’ll want to put your money somewhere safe, where you can access it right away for unforeseen expenses. That means an online savings account, where you might earn less than 1% interest annually and not even keep up with inflation, which tends to run around 2% to 3% per year. You’ll even have to pay taxes on your meager 1% earnings. Anything is better than earning 0%, though, or not having savings and going into creidt card debt, which will cost you 10% to 30% in interest per year.
Once you’ve saved at least three to six months’ worth of expenses in your emergency fund, you can start saving money in a tax-advantaged retirement account. These accounts, such as a Roth IRA or 401(k), allow you to invest in the stock market. If done right, it is possible to earn about 8% per year on average over the long run. You won’t pay any taxes on those investment gains along the way, which will help your money grow even faster. With a Roth IRA, you contribute after-tax dollars, and everything that’s in the account after that is yours to keep. With a 401(k), you get to contribute pre-tax dollars, giving you more money to invest up front; you’ll pay taxes when you withdraw the money in retirement. (If you’re not sure whether it’s better to pay taxes now or later, you can contribute to both your employer-sponsored retirement plan and a Roth IRA.) The third choice, a traditional IRA, allows you to contribute pre-tax dollars as you do with a 401(k).
If you have a high income and low expenses, you might accumulate enough to retire in 10 years. For most people, it takes closer to 40 years. But at some point, if you save and invest regularly, you should be able to live off the income generated by your investments—the saved money that’s working for you. The earlier you start, the more time a small amount of money has to grow large through the miracle of compounding.
The bottom line
Saving money is incredibly important. It helps give you satisfaction, expand your choices for decisions that have a major effect on your quality of life, and eventually gives you the opportunity to retire. Most people who are wealthy got there through a combination of their own hard work and smart savings and investment decisions. You can become one of those people, too.
Copyright 2017 Investopedia, LLC. All rights reserved.