So you're saving up for something big, but you aren't sure where to store that money. Maybe you want to invest it and let it grow, or maybe you want to keep it risk-free and accessible. Here are the best places to park that money, based on what you're saving for.
Keep Your Emergency Fund Accessible
Keep your emergency fund liquid. You should have immediate access to it in case of an emergency.
Finance site The Simple Dollar says your emergency fund should also be kept in an account that's FDIC-insured with low volatility. Consider a traditional savings account.
"In other words, the value of the item shouldn't vary much on a day-to-day basis...Because of that, I almost always encourage people to forego the potential of larger returns and stick with a savings account."
Your emergency fund isn't meant to be an investment. But if you want to see growth, find a savings account with a higher interest rate. Finance writer Robert Berger points to five "lesser-known places to stash your emergency fund":
- An online bank: Online banks like Ally offer better interest rates than brick-and-mortar banks.
- Mango Money Card savings account: Mango Money is a prepaid debit card. If you set up a direct deposit on the card, you can open a savings account that earns six percent interest on your first $5,000.
- No-penalty certificate of deposit: No-penalty CDs don't penalize you for withdrawing your money early, and the rates are still pretty high.
- Pay down revolving debt: Berger says he used an emergency fund to pay down his home equity line of credit: "The interest rate on the line of credit was higher than what we could earn on a savings account, and if we encountered an emergency, we could have easily pulled the money out."
- Money market account: Berger says banks have more freedom with investing funds in an MMA, and this means they often come with higher interest rates.
Interest rates not enough for you? Money site Daily Finance addresses a riskier approach: investing your emergency fund.
"Many dividend-paying stocks provide higher amounts of income than you can get from most income-paying alternatives. Of course, with stocks, a market downturn can cause substantial losses, and even with bonds and bank CDs, you can lose money or have to pay penalties if you end up needing to sell them in an emergency situation."
Daily Finance explains that some risk might be affordable. If you're financially prepared for six months' worth of emergency, you probably have time to move money around before you need access to the entire fund.
But they still suggest you keep some of your emergency fund in a risk-free and accessible savings account.
Park Your Down Payment According to Your Time Frame
We've talked about saving for a home down payment, but here's where you should park that money while you save:
Three Years or Less
A goal of homeownership in three years or less is considered a short-term goal. Keep your money accessible and safe. Park it in a high-yield savings account or CD. Again, your money should be FDIC-insured.
Three to Five Years
If you have more time to save, you can afford a little risk. For a time frame of three to five years, The New York Times Bucks blog recommends, "considering short-term, high-quality, no-load bond funds."
Five Years or More
Personal finance expert Laura Adams suggests index funds for longer-term saving:
"If your time horizon is longer than 5 years, consider investing your down payment in a low-fee index mutual fund or exchange-traded fund that offers broad market diversification."
She suggests four online brokerages:
Vanguard also offers LifeStrategy Funds. Each fund is designed with a specific time frame and risk in mind.
Pick Your Ideal Retirement Account and Allocation
Pick a retirement plan that works for you. You have a variety of options. Investing site The Motley Fool put together a "general pecking order of where you should deposit your savings."
- Employer plan with a match: The best option, because it includes free money.
- Roth IRA: Roths are great for tax-free growth. Account holders also have more control.
- Employer plan without a match: Even when you reach your employer's matching limit, it's good to invest in your employer plan. It's automatic, and you get the tax deduction.
- Traditional IRA: Contributions are tax-deductible if your employer doesn't offer a plan or your income is below a certain level. Funds are taxed as ordinary income when you withdaw.
- Taxable investment: The Fool says you should only consider saving for retirement in a taxable account "after you've maxed out the tax-advantaged vehicles at your disposal."
- Annuity: The Fool calls an annuity a "last-resort" investment. Annuities are restrictive and expensive. "Because of the large fees (read: commissions for your broker) associated with annuities, they are a favorite of brokers and planners."
After choosing your plan(s), pick investments that work best for your situation. Choose what percentage of your portfolio should be kept in stocks, bonds and alternatives. Your asset allocation may depend on:
- Your age
- Your age at retirement
- How long you've been saving
- Your desired lifestyle at retirement
CNN Money offers general advice:
"The old rule of thumb used to be that you should subtract your age from 100 - and that's the percentage of your portfolio that you should keep in stocks. For example, if you're 30, you should keep 70% of your portfolio in stocks. If you're 70, you should keep 30% of your portfolio in stocks….However, with Americans living longer and longer, many financial planners are now recommending that the rule should be closer to 110 or 120 minus your age. That's because if you need to make your money last longer, you'll need the extra growth that stocks can provide."
Use the site's handy calculator to help find your ideal allocation.
Save for College Depending on Time Frame
You'll probably open a tax-advantaged 529 plan to save for college. These plans offer investment options. Your choices depend on when you plan to withdraw. Here's how you should park your money, depending on your time frame.
Bankrate says saving early means you can invest aggressively:
"Experts recommend putting at least 80 percent in equities at this point, with 20 percent of a college-savings portfolio devoted to fixed-income investments, such as bonds, CDs and Treasuries. Many 529 plans offer age-based portfolios with this type of mix for long-term investors."
At this point, avoid trying to grow your savings using "market momentum," Bankrate says. They suggest to avoid risk and focus on more conservative investments.
With college in the short-term, your portfolio "should be almost entirely in conservative instruments." According to Bankrate:
"'In my opinion, you have to be very conservative with at least 80 percent in fixed-income investments — whether CDs, municipal bonds or good-grade corporate bonds,' says Michael Gaer, president of Gaer Financial Group. 'I hate to say it, but even cash or savings,' he says."
Keep Your Car Fund Liquid
Your car fund is probably a short-term goal. If you're planning to buy within the next five years, your savings vehicle should have little risk. Savings site Affordable Schools Onlinesuggests you go the traditional savings route:
"Instead of dabbling in a risky market, I would suggest parking the savings in an online savings account or money market account, and possibly a CD."
Where to Park Other Short, Medium and Long-Term Goals:
Have another savings goal? Your time frame will determine where you keep your money. The Motley Fool offers a general guide for parking your money:
- "Any money you need in the next year should be in cash."
- "Any money you need in the next two to five (or even seven to 10, depending on your risk tolerance) years should be in a safe fixed-income investment, such as certificates of deposit or bonds."
- "Any money you don't need in the next five to 10 years is a candidate for the stock market."
Choose your savings vehicle wisely. The shorter your time frame for saving, the less risk you should take.