The closer you come to your retirement years, the more you want the assurance that you have planned appropriately. Will you have enough set aside when the time comes? What are the best ways to build your retirement savings? The answer depends on a number of factors, including how close you are to retirement, and what your personal goals are. Aol.com breaks down the best approaches, along with their pros and cons:
Saving vs. investing: What’s the difference?
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Saving |
Investing |
|
|
Risk level |
None to low |
Moderate to high |
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Access to money |
Immediate or within a few days |
Within a few days to liquidate and receive funds |
|
Typical annual returns |
4% to 5% APY in high-yield accounts |
7% to 10% historical average |
|
Insurance |
FDIC insurance protects up to $250,000 per depositor, per bank against bank failure |
SIPC insurance protects up to $500,000, including up to $250,000 in cash, per customer against brokerage failure |
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Income potential |
Fixed interest payments |
Dividends and capital gains |
|
Tax treatment |
Interest taxed as ordinary income |
Various tax treatments, including short-term and long-term capital gains taxes |
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Best for |
Emergency funds and short-term needs |
Long-term growth |
With savings accounts, your money stays protected — a $10,000 deposit remains $10,000, plus the interest you earn… Investing works differently. The same $10,000 invested in a diversified portfolio of stocks and bonds can gain or lose value over time…
The taxes you pay for savings and investments are different. Interest from your savings account gets taxed as ordinary income. Investments offer more favorable tax treatment. While profits from investments sold within a year (called short-term capital gains) face the same ordinary income rates, holding investments longer than a year can slash your tax bill... This makes investing potentially more tax-efficient, especially when you also invest through tax-advantaged accounts like 401(k)s and IRAs.
The benefits and drawbacks of saving
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Pros |
Cons |
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Predictable interest payments |
Smaller growth potential than investments |
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Immediate or quick access to funds |
APYs typically react to Fed decisions |
|
FDIC insurance of up to $250,000 per depositor, per bank, on most accounts |
Interest taxed as ordinary income |
Let’s say that you set aside $10,000 in a high-yield savings account that earns 4.50% APY. You’ll earn about $450 in guaranteed interest over the first year while keeping your money protected. If your car breaks down on a Sunday afternoon, you can quickly take money out of your savings account. Plus, even if your bank runs into trouble, the FDIC insures your savings at member institutions for up to $250,000 per depositor, per bank.
However, keeping too much in savings can cost you over time. The same $10,000 kept in savings over 10 years, even at a near-record APY of 4.50%, would grow to about $15,530. While this might sound good, if inflation averages 3% annually, your money’s purchasing power wouldn’t grow much…
And don’t forget about taxes: If you fall in the 22% tax bracket, you’ll owe $99 in taxes on the $450 you earn in interest, leaving you with $351 in actual earnings. That’s why savings work best for building an emergency fund or storing money you might need soon.
The benefits and drawbacks of investing
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Pros |
Cons |
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Potential for higher returns that can beat inflation |
Risk of losing money |
|
Potential tax advantages |
Access to funds isn’t immediate and requires selling assets |
|
SIPC protection of up to $500,000, including $250,000 in cash, on several investing platforms |
Managing investments may require knowledge and experience |
Investing opens doors to potentially higher returns that can help your money outpace inflation and grow meaningfully over time. For example, if you invest $10,000 in a diversified portfolio earning an average annual return of 8%, your investment can grow to about $21,600 over 10 years.
Investment returns can also come with tax perks. For example, qualified dividends and long-term capital gains can get taxed at lower rates that range from 0% to 20%...
However, investing comes with trade-offs that can feel especially challenging in retirement. Your portfolio's value can drop significantly… When you need money, you'll typically wait two to three business days to sell your investments and transfer the cash to reach your bank account.
And managing investments may require more attention. You may need to research your investments, monitor performance and understand when to buy or sell.
You can read the full article here.
One thing is certain, you want to have multiple ways to build long term wealth. Assessing risk and understanding your personal comfort level with the various methods is important. When it doubt, consider consulting with a financial advisor.