Saving Money for a Goal: Pros, Cons, and How to Do It
Whether it is learning a new skill, buying a new car, or exploring foreign countries, we all have goals in our life. Sometimes, though, these goals have monetary costs that we can’t cover right away. Becoming fluent in a foreign language may require paying for a course, and that minivan we’re so eager to buy may cost a couple of thousand dollars more than we can afford.
While taking out a loan is probably the quickest way to finance these expenses, saving money undoubtedly has many advantages. After exploring the pros and cons of saving money for a goal, we will give you the best tips to do so in the most effective way.
The Pros of Saving Rather Than Borrowing
Earning Interest Instead of Paying It
Most banks pay interest on the money you deposit in your account. Over an extended period, you will profit from compound interest and increase your overall final savings. That’s why you should always take the time to look for an attractive savings account. In contrast, taking out a loan means paying interest (and fees) to your lender, thus adding costs to whatever purchase you are planning. Unless your credit score is very high (or you have valuable assets to use as collateral), the rate on your loan is likely going to be sizable.
Avoiding a Negative Impact on Your Credit Score
Taking out a loan can affect your FICO score negatively. A low credit score harms your chances of obtaining another loan in the future and increases the interest you would have to pay on it. You don’t have to worry about this scenario when saving money to reach your financial goal.
Staying Away from Debt Traps
One risk when contracting a loan is not being able to repay it in time. As a result, you may have to continue taking on new debt to repay the old one. Such a situation is known as a debt trap and can have a prolonged and limiting impact on your personal finances.
More Negotiation Power When Paying Cash Upfront
Saving enough money allows you to pay cash upfront when buying expensive items or services. As a result, your bargaining power will increase. Let’s say you are negotiating how much to pay for a used car. The current owner might prefer a buyer who can pay the entire sum in cash, even if it means accepting a discounted final price.
Peace of Mind
Debt can have a very negative impact on a person’s life and psychological health. If you accumulate too much debt, you’re not just sacrificing other expenses to pay off your debt. You also risk facing higher anxiety, stress, anger, and a sense of helplessness. Such a scenario can significantly reduce your quality of life and that of those around you. In contrast, setting a realistic savings goal and putting a bit of money aside every week won’t harm your peace of mind.
The Cons of Saving Rather Than Borrowing
It Takes Longer
The main and obvious drawback of saving money compared to taking out a loan is that it can take some time before you accumulate the sum you need. This is especially true if you are planning an expensive purchase. That’s why setting a savings goal is usually not the best option for sizable short-term expenses. The same applies to limited offers (like a temporary discount on a product you plan to buy). Competitive loans like those offered by Level Lending are probably a better solution in this scenario.
Your Current Income May Not Allow It
Saving is not always possible from a practical point of view. Your income may be barely enough to cover your current expenses, let alone put money aside for a financial goal. Similarly, you may already be saving for more essential things (like medical treatment or your kids’ education). In the latter scenario, putting aside additional money for less indispensable expenses may be neither feasible nor desirable.
Even when your income is high enough to save money, it usually means sacrificing other expenses until you reach the desired sum. You may have to eat out less often, travel for shorter periods, or stop going to the gym. Therefore, you should ask yourself if the goal for which you are saving many is worth giving up other things in your life.
You May Have to Retire Funds from Other Investments
Sometimes the only way you can use savings to finance your goals is to withdraw them from current investments. If you are enjoying the good gains on your existing assets, retiring funds to finance other expenses may not be the most convenient thing to do. In this scenario, borrowing money at a competitive rate may be the most clever move.
Tapping Your Emergency Savings
Many of us have emergency savings to deal with unexpected negative scenarios. These range from unforeseeable medical bills to a son or parent needing assistance. It’s therefore risky to resort to these funds when planning for a less essential savings goal.
Saving Money for a Goal: How To Do It
Clearly Define What You Are Saving For
There is a difference between generically saving money and putting money aside for a specific goal. Right from the start, you should have a clear idea of the reason (or reasons) you are saving for.
Multiple Goals? Define Priorities and Percentages
When saving for more than one goal, you should determine their scale of importance. Let’s say you want to save for both a trip to Australia and a new motorbike. Which of these two things do you wish for the most? You may decide that the trip can wait and allocate 70% of your monthly savings to the motorbike fund.
Make a List of Expendable Expenses
There are costs we can’t get rid of, such as rent, utilities like water, sewer, gas, and electricity, food, or medical insurance. Next, there are those expenses we could cross out, but we’d rather not. For some people, it may be a gym subscription, while for others, it may be Friday evenings out with friends. Removing every cost that does not belong to these two groups can help you increase the amount of money you save weekly. Let’s say you’re saving money to buy a boat. Is having three internet streaming service subscriptions instead of one worth delaying your dream of enjoying the sea with your own speedboat?
Look for Cheaper Alternatives to Your Current Expenses
Let’s say you don’t want to give up taking online language courses to save money for a boat. Is there an alternative, cheaper course you can take? Similarly, is there a gym that offers a cheaper subscription than your current one? Or a hairdresser that charges less for a quality haircut? You’ll find it surprising how much you can save every month by looking for more affordable alternatives to your current expenses.
Look for Saving Opportunities By Planning Your Expenses
Not everybody budgets in a planned and structured way. Many people have an approximate idea of how much they’re going to spend each month on specific goods, services, or activities. Yet taking some time to write down how much of your income you are going to allocate for each expense has its benefits. It can help you uncover opportunities for saving money that you didn’t consider before. Start by separating fixed expenses from variable ones. Fixed costs are always the same month after month (e.g., rent or internet). Variable costs vary based on your decisions or unforeseen events (groceries, unexpected medical bills, or dining out). Highlighting variable costs allows you to determine which ones can be reduced to increase your monthly savings.
Increase Your Saving Rate Gradually
Saving money usually implies a change in certain habits and sometimes in your general lifestyle. For this reason, you shouldn’t try to save everything you can immediately. You need some time to adjust to these changes. If you go out eight times a week with your friends, you may reduce the frequency to 6 for the first couple of months. When you’re comfortable with the new situation, you can try and bring the frequency down to once a week.
Not in a Hurry? Consider a Long-Term Savings Tool
If you’re saving money for the long run, it’s wise to consider some type of long-term investment or savings account. For example, a CD (Certificate of Deposit) can considerably boost the interest on the money you save compared to a basic savings account. Based on data published on Forbes, the highest yield in August 2022 was
- 2.25% for 6-month CDs
- 2.85% for a 1-year CDs
- 2.96% for 2-year CDs
- 3.25% for 5-year CDs
To Sum It Up
To wrap it up, here’s a quick summary of the topics we discussed in the article:
- As opposed to taking out a loan, saving money allows you to profit from compound interest and doesn’t impact your credit score. It’s also safer as it prevents you from falling into a debt trap.
- Saving money is also better for your peace of mind and allows you to pay cash upfront, which increases your bargaining power.
- Yet saving money also has its drawbacks. It takes longer, and it may require sacrificing current expenses or investments.
- To save more effectively, define your goals clearly, make a list of expendable current costs, budget in a planned manner, and gradually increase your savings rate.
- If you can take your time to save money, consider long-term investments, such as a certificate of deposit.