It’s important to have money set aside in case of unplanned expenses and costs, but saving should also help you set up a better financial future. In this article, we show you how to tackle the difficult task of balancing these different needs with three tools: a rainy day fund, an emergency fund, and getting a guaranteed return on your savings with term deposits. Read on to find out more.
Saving is always made better and easier when you’re following a set plan with identifiable goals. If you know exactly what you’re saving for, it’ll be that much easier to ignore that new pair of shoes or cut out an expensive meal.
With that in mind, we introduce three key concepts that will make your savings journey more effective, allowing you to have cash accessible if you need it whilst also growing your savings for future financial security.
In order to make this happen, we suggest putting your money into these three pots:
- A rainy day fund that will cover any short-term unexpected costs such as car repairs
- An emergency fund which will provide support and security in case of bigger unexpected life challenges
- Term deposits that will provide you with a guaranteed return on your savings that means your money will grow in the future
Let’s explore the strategy in more detail.
Rainy day fund🌧️
The first pot you should set up is your rainy-day fund. This will help you cover your smaller expenses and help you get through to your next paycheck if needed.
The rainy-day fund will mean you can avoid taking out a payday loan or putting unexpected spending onto a credit card. To account for this, we suggest that the fund should contain between £500 and £1,000.
If a household appliance breaks down or your car starts stuttering to a halt, you’ll need to easily access a few hundred pounds of money so that you can take care of the problem. This fund should, therefore, be kept liquid, i.e. in cash, which means that the best place for it will be in an easily accessible bank account, for example, a savings account.
Whilst you’ll get very little interest on your savings account, and it might not even be enough to match inflation, the money is primarily there to be accessed quickly in time of need.
Once you do have to make a withdrawal from this fund, you’ll have to save again to fill it back up.
The rainy-day fund should act to give you peace of mind — if something unexpected happens, you’ll be covered.
After you’ve set aside enough money for your rainy-day fund, the next big savings target is your emergency fund. As the name implies, this pot of money will be for your bigger unexpected life challenges.
This fund should contain enough cash to cover your average expenses for around three to six months. In the case of illness or job loss, you’ll have this money to cover your outgoings and give you peace of mind over your immediate future.
To work out how much money needs to be set aside, start with calculating your average monthly expenses, and multiply this by the number of months you want to cover yourself.
The task of figuring out your average monthly expenses will prove useful either way, as it allows you to budget in your normal day-to-day life and understand how much you can afford to set aside each month.
This fund won’t have to be as liquid as your rainy day fund because you’ll be much less likely to need to access it. This means it doesn’t have to sit in a savings account earning low-interest rates that effectively means inflation eats away at the total sum.
It could be that this pot of money goes untouched even for a few years, meaning that you might as well consider how you can earn a decent return on this money to help it grow in the future, while still keeping it accessible.
Once you’ve saved for your emergency fund, you’re going to want to earn a decent amount of money on your further savings to help grow your wealth.
As we’ve touched on above, leaving large amounts of money in a bank savings account is a problem. You’ll currently get very low-interest rates that often don’t match inflation — meaning that over the course of a year you’re losing money.
Another issue with savings accounts is that they offer variable interest rates, which means the bank can make the interest rates higher or lower in the future. The result is that it’s difficult to plan ahead and know how much money you’ll make going forwards.
This is where term deposits come in. Once you’ve saved up for your rainy day fund and your emergency fund, you’ll want to be putting money aside that will grow by earning a decent return.
A term deposit is an investment deposit that is made for a predetermined period of time, ranging from a few months to several years, depending on the offer. Importantly, you’ll gain a fixed and guaranteed interest rate over this time period.
As your money is locked away for this period of time, the interest rates on offer are typically much higher than your typical savings account. With the guaranteed return, you’re also protected from any changes in the market over this time period. The longer you lock your money away, the higher the interest rate on offer will be.
The downside of typical term deposits is that it’s hard to withdraw the money should you need it.
Getting started with your savings plan🤔
So you’ve got the strategy all laid out — now how do you begin?
We recommend that you start by putting a small amount of money aside each month. This can be around £25 or £50 — the more the better! Once you’re comfortable with this, you can slowly start to increase how much you put aside.
As we mentioned earlier, if you take some time out to work out your average monthly expenses you’ll be better placed to set savings goals. Once you’ve done this, try putting your set amount of money aside as soon as you receive your paycheck, rather than at the end of the month. This way you’ll get rid of any temptation to spend it.
By kicking your savings plan into gear and following this strategy you’ll soon have the comfort and peace of mind of finances that can cover you in the short- and medium-term whilst also saving towards a more secure financial future.