Investing vs. Emergency Fund: How to Balance Your Finances

October 13, 2021

There comes a time when most of us ask the same question: is now the right time to start investing? Or should I be focused on building out my emergency fund instead?

The truth is there is no “right time” for anything. Whatever we do in life is a balance between competing forces. The question of “do it now” versus “do it later.”

But, when it comes to our personal finances, there are pros and cons to both approaches. Here’s how investing is different from saving, and how to determine when it’s time to invest or time to set cash aside for later.

Saving vs. Investing

First, what is the difference between saving and investing, particularly if both are money set aside from your month-to-month finances? Can you “invest” your emergency savings, only to pull it out if you need it? The short answer is: no.

The process of saving involves simply putting money into an account of some sort little by little. Savings is ideal for short-term financial goals and needs, such as to buy a car or for a down payment on a house.

Saving may seem like investing because with certain savings accounts, like CDs, you can earn interest. However, saving is fundamentally different from investing. Whereas saving is putting money into an account that potentially earns interest for a specific big-ticket item or in the case of an emergency, investing is all using a chunk of money to buy assets such as stocks, property, or shares in a mutual fund, with the goal of increasing their value and in turn growing your investment to increase your capital.

In other words, saving is keeping money aside for later, and investing is trying to substantially grow a designated amount of money for later.

So, is it time for you to invest? There are a few reasons that you may want to wait:

You have high-interest debt.

If you have balances on high-interest credit cards, you should pay them off before investing. By eliminating high-interest debt, you will free up the amount of cash that you have to save or invest.

You aren’t contributing the maximum possible to a 401(k) or IRA.

Assuming that your long-term goals include retiring comfortable, it’s crucial to take advantage of employer-sponsored 401(k)s and otherwise, especially if they offer employee contribution matching. Employee matching programs help employees to increase their pre-tax income.

You don’t have 3-6 months of living expenses saved up yet.

Having an emergency fund ready is crucial, whether you have a family to provide for or not.

You aren’t okay with limited access to your money.

If savings is for short-term goals, investing is for long-term goals. When you save money, typically account terms allow for relatively quick access to your funds. Money that you’ve invested, however, is typically harder to access.

You aren’t okay taking a risk with the money that you have.

Losing your principal is always a risk when investing. If you are uncomfortable with the thought of risking the money that you are deciding whether to save or invest, you should probably save it.

If none of the above apply to you, it might be a good time to invest. If they do, then focus on saving and building up an emergency fund. Remember, no start is too small knowing that once you start, you will continue to build your portfolio over time.

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