Saving vs. Investing: What’s the difference and why it’s important
Saving vs. Investing
What’s the difference and why it’s important
Many people may think of ‘saving’ and ‘investing’ as synonymous terms, but they play completely different roles when it comes to financial planning. Understanding the difference between the two is essential in your journey to financial independence and building your overall personal wealth. This can lead to improving your net worth in the long run.
In simple terms and as it pertains to building wealth, saving is the act of storing aside a certain amount of cash into an account. Investing is the act of putting that cash you just stored into use.
For example, you save $500 into your 401(k) each month. That $500 remains as cash in the account until you put that money to use (i.e., invest the $500). You may decide to invest it in a mutual fund offered as an investment option in the account. Most 401(k) plans will automatically invest the funds for you once money transfers into it based on the investment option you selected when you were initially hired by your employer.
During the on-boarding process with new clients, I always ask: “What investments do you have?” Most of the time, their answer is “I don’t have any.” As I dig deeper, I discover that they own retirement accounts such as 401(k)s and/or IRAs with investments in them.
Most people don’t realize that they are already investing; they don’t know what investments they own nor understand why they own them.
Furthermore, don’t misunderstand that the only way to invest is to open an investment account, also referred to as a retail or brokerage account in the financial world. You can invest in similar investment vehicles such as mutual funds, stocks, bonds or ETFs in an investment account as those are options that already exist within your retirement accounts. The major difference between the two are the tax implications and consequences associated with each when you sell or withdraw the money.
An investment account is not superior to a retirement account such as a Roth IRA, nor vice versa.
For example, if you bought 100 shares of Apple stock on the same day using the cash you saved in each account, both accounts will perform the same. Your overall investment portfolio, assuming you don’t own any other investments, is that you own 200 shares of Apple. That is, you own 100 shares of Apple in the Roth IRA and another 100 shares in the investment account. The major difference between the two accounts is how you will be taxed when you sell those shares later and take out the money.
The Bottom Line:
Saving is the act of storing away cash into an account. Putting that money to use once it is inside the account is investing. But keep in mind, there are many different investment vehicles you can explore that may already be options within your existing 401(k) or IRA account.
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