When you think of savings, you probably think of a traditional savings account. You put money in the account, and it earns a low rate of interest because it’s guaranteed safe. It’s a way to build an emergency fund, but it’s not that great for anything else.
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Money goes into a savings account because it’s meant to be liquid and accessible.
But your savings strategy doesn’t just have to be about giving up yield in the name of safety and liquidity. You can actually use a taxable investment account as part of your savings strategy. Here’s how to change things up, so you are making the most of your savings dollars:
Tiered Emergency Fund
The point of having an emergency fund is quick access to money. So, it seems like a bad idea to put your emergency fund into a taxable investment account. It can take several days to liquidate investments into cash.
But you can adopt a tiered strategy to make this work.
First of all, will you really need access to all the money in your emergency account at once? Probably not.
Instead, you can keep three to five weeks’ worth of expenses in your high-yield savings account. Amounts beyond that can be put into a taxable investment account. Maybe you split it so that you have more bonds than stocks if you aren’t comfortable with an all-stock emergency portfolio.
Now, you are potentially earning a higher yield over time.
If you need access to money, you can get what you need for a couple of weeks from your more liquid traditional savings account. While you use that money, you can begin selling shares. By the time you are ready for those additional funds, they should be in cash and ready to go.
Plus, if you do end up selling during a down market, you can take a tax deduction for any loss. You still get the capital you need, and it’s a tax-deduction to boot. Consult with a financial professional to see how you can set this up.
Short-Term Savings Goals
One of the things I like to do is travel. Saving up for travel can be a long process. However, it doesn’t have to be.
I use a taxable investment account as my travel fund. I keep it in a mixture of 70% stock index funds and 30% bond index funds. Every month, I put a set amount into this account, and it grows.
When I’m ready to travel, I can use my credit cards for the rewards, and then come home, sell some shares for cash, and pay off the credit card. Thanks to the higher returns on the account, it’s possible for me to travel more.
And, once again, if I end up selling some of my shares at a loss, it becomes a tax deduction. When was the last time you took a tax-deductible vacation?
This approach works for other short-term goals as well. You can start a car repair fund, or save up for electronics. However you decide to do it, you can incorporate a taxable investment account.
The main downside is the fact that you have to pay taxes on your gains. So, if you sell for more than you bought, you need to be ready to pay capital gains tax. If you start this process early on and then save for more than a year before you sell your investments, though, you can enjoy a favorable tax rate on your capital gains.
Saving up for a year can help you build a solid fund for your goals (whatever they are), while at the same time helping you potentially pay less in taxes.
If you have to access the investments before the year is up, know you will pay taxes on your gains at your regular marginal rate. It’s a risk, but one that can be worth taking because your money is earning more over time.
Consider using a taxable investment account as you save for your desired lifestyle. You might be pleasantly surprised by the results.