What plan should you follow when saving? First you now know from the stock taking and financial plan stages how much your monthly living expenses are going to be. Now you need to start accumulating money or saving and allocating funds to various accounts to cater for:
- Living Expenses (Current or Savings Account) – This is for scheduled monthly expenses that you identified. It is usually in a bank ‘Current Account’ where you can withdraw with no restrictions. This is the account that we receive our wages and salaries through before we start spending. It earns no return and rather comes with periodic maintenance charges that you pay to the bank. Some Savings accounts come with no withdrawal restrictions, these can be good choices too.
- Emergencies (Savings Account) – This will cater for any emergencies that arise beyond your scheduled living expenses. This should be in the safest and most liquid form, with minimum restrictions on withdrawal. A bank Savings Account does the job and earns you some small interest in the process, but some banks may have restrictions on how often you can withdraw from such an account, so do check the terms. Some insurance policies can also provide additional safeguards here and are worth considering.
- Living Expenses Coverage (Government Treasury Securities & Bank Fixed Deposits) – Here the focus is to have enough funds to ‘keep you on your feet’ in the event that your income flow is unexpectedly interrupted for any reason, such as the loss of your job or primary income source. The goal here is to be able to still pay-off scheduled living expenses whiles you readjust. Funds here can be invested in near-money or liquid securities, that carry minimum risk of loss of value but at least keep the ‘buying or purchasing power’ intact over time (that is, it caters for inflation to possibly ensure that your money can still buy in the future, the same things it will buy now). Government treasury bills will do the job here as well as some Money Market Mutual Funds and other money market products. But note that the further away you move from government securities, the more risk of loss you will be facing. Here too, insurance may add additional layer of protection. The returns you earn on the treasury bills or other money market investments begin to accumulate with time.
How Much Should You Allocate to Each Stage?
That depends on your particular circumstances and whether you have taken additional levels of protection, such as insurance coverage for certain life emergencies (insurance is a topic for another time), a starting point is:
- Month-to-Month Living Expenses – Comes directly from your monthly income or pay cheque as you are paid. Keep what you need for monthly expenses here
- Emergency Fund – Allocate from your monthly income and save up to three (3) months living expenses, depending on the reliability of your income source and other insurance you may have
- Living Expenses Coverage – After meeting your Emergency Fund requirement, begin allocating funds from your income to accumulate between three (3) to six (6) months living expenses cover, depending on whether you have insurance coverage too or not.
You can start saving as little as you can afford now, even if it is just 5% (if you earn about GHC500/US$125 a month, that will be just about GHC25/US$6.25 a month) of your income, but if you are really feeling up to it and think you can make some expenditure cuts to jump start this habit, consider saving between 10% to 20% of your monthly income. Most banks require a minimum amount to open a savings account, so keep that in mind.
Whew! Now you can begin to say ‘I’m a Saver’, in fact chances are, you already own some assets that already qualify as investments that we identified in the stock taking exercise; and if not, take heart, by the time you get to the third stage, you can even say you are now an ‘Investor’, albeit a beginner. And you also just made the life of your financial advisor much easier when he or she begins to help you prepare your Investment Policy Statement for your investment portfolio!
As always, I look forward to hearing how you will be or are implementing this in your own way, your challenges and questions, please do send them through the comments box below.
Next we will take a look at the money market instruments that you can consider as you get to the third stage of savings accumulation and beginning of investment journey.
Check out this Video by Shlomo Benartzi to see the impact on your wealth of increasing your savings rate from a mere 3.5% of your income to about 15% of income (do watch to the end).