What Is Saving

In a nutshell, saving is income not spent. It involves setting aside a portion of income for future use. Most of us are generally bad at saving; with 1 in 3 adults in the UK having less than £1000 in savings. Over the years the government has introduced various schemes to promote saving, such as ISAs, auto-enrollment pensions and “help to save” accounts. Below we share more details on saving methods available.

Here are a few reasons for saving part of your income:

These are to cover unexpected expenses such as medical emergencies, car repairs, or job loss. It is generally recommended keeping 3 to 6 months of income saved to cover these scenarios. Ideally you want to ensure this fund is easily accessible, and, of course, earning you interest. If you do not have an emergency fund, you can start off small and build gradually. It can help reduce financial stress and provide a safety net.

For planned expenese like buying a house, car, or a holiday. By saving, you can buy items outright without relying on credit cards or loans. This can also reduce interest payments and therefore overall cost of purchases. Saving for specific goals can help you budget and prioritise spending, and can also help reduce impulse buying and encourage making thoughtful purchasing decisions.

To ensure financial security in retirement when regular income ceases. Firstly, the earlier you start saving the more time your money has to grow thanks to compound interest. And during retirement, it can help maintain your standing of living in retirement, or even the potential for earlier retirement if desired.

Saving can provide the capital needed for investments which can generate returns and grow wealth over time. Savings can be invested, without the need to borrow money, which allows you to diversify your financial assets across various classes. This can help spread risk and potentially increase returns.

A straightforward deposit account offering modest interest rates. These are provided by banks and building societies.

The most common accounts are easy access accounts and regular saver accounts. These accounts generally have lower interest rates than other types of accounts, but offer easy access to funds. Many accounts have low or no minimum deposit requirements, but some may require regular deposits to maintain the account or to earn the advertised interest rate. Savings up to £85,000 per person, per banking group are protected by the FSCS.

A tax-free savings account that allows individuals to save up to a certain limit each year without paying tax on the interest earned.

ISAs have a £20,000 deposit limit per tax year, and Cash ISAs come in various forms; from easy access to fixed- and variable-rate. Junior Cash ISAs also exist for under 18s. Cash ISAs generally offer higher interest rates than standard savings accounts, and some allow withdrawals without losing any of the tax benefits. Banks and building societies offer Cash ISAs as well as other financial institutions. Like savings accounts, Cash ISAs are FSCS protected up to £85,000 per person, per institution and you have the ability to transfer ISAs between providers without losing tax benefits.

Similar to Certificates of Deposit (CDs) in the US, these offer a fixed interest rate for a set term, with penalties for early withdrawal.

Bonds generally have higher interest rates than savings accounts, but you typically hold onto bonds between 6 months and 5 years. Longer terms usually offer higher interest rates and your money is locked away for the full term. Whilst early withdrawals may be available, they may incur penalties or loss of interest. Some bonds have an upper limit on how much you can invest. Bonds are protected by FSCS too, but any interest is subject to tax unless held within an ISA wrapper. Whilst they are less flexible than easy access accounts, they are good for savers who won’t need access to the money during the term. It is important to note that the fixed interest rates provides certainty but may not keep up with inflation.

Savings accounts that require notice before withdrawal, usually offering higher interest rates compared to easy access accounts.

These notices are usually 30, 60 or 90 days and they may impose interest penalties for withdrawals without proper notice. These accounts are better suited for savers who can plan ahead and don’t need immediate access.

Often offering higher interest rates but requiring regular monthly deposits and limiting withdrawals.

These accounts usually also have a fixed term, e.g. 12 months, during which withdrawals may be restricted and penalties incurred for missing deposits. However, these accounts can be good for building a savings habit or reaching short-term goals.

Provides a buffer against financial uncertainties.

When you have a healthy savings account, you don’t have to worry as much about being caught off guard by a medical emergency, job loss, or other unplanned expenses. This peace of mind is invaluable and can significantly reduce stress and anxiety around money matters. Beyond just emergency funding, consistent saving enables you to work towards bigger financial goals, like buying a home, starting a business, or enjoying a comfortable retirement. The more you’re able to tuck away each month, the faster these dreams can become reality. It’s all about developing the discipline to pay yourself first and make saving a non-negotiable part of your budget. 

ISAs allow savings to grow tax-free, making them an attractive option.

Many common saving vehicles, such as ISAs and pension plans, offer tax-advantaged growth that can supercharge your savings journey. With an ISA, for example, your investment earnings and withdrawals are tax-free. This means your money can compound without being eroded by taxes, allowing your balance to grow faster over time. High-income earners can particularly benefit from this tax protection, as it shields a larger portion of their savings from being taxed at the higher rate.

Similarly, pension plans like workplace pension and personal pensions offer valuable tax relief on contributions. When you put your money into a pension, the government essentially matches a portion of your deposit through tax breaks. This not only boosts your overall savings but also reduces your taxable income in the present. 

Savings can grow through earned interest, although rates have been historically low.

One of the key reasons why saving is so powerful is the compounding effect of interest earnings. When you put money into a savings account, that balance starts earning interest, which then earns interest on top of itself. Over time, this compounding effect can turn a relatively small initial deposit into a substantial nest egg. The higher the interest rate, the faster your savings will grow. In today’s environment of rising interest rates, saving accounts and other low-risk vehicles are starting to offer more attractive yields. This presents an opportune time to maximise your interest earnings and let your money work harder for you.

For example, let’s say you’re able to save £500 per month and your account earns an interest rate of 3% per year. After 10 years, your total savings would be worth over £75,000 – and that’s with the interest compounding monthly. If you can find an account paying 4% or 5%, the growth would be even more impressive.

Enables significant purchases without reliance on credit.

The heart of this blog is about reaching financial freedom – it’s literally there in the title! This is all about the ability to live your life on your own terms, without being beholden to a traditional job or income source. Saving plays a critical role in making this dream a reality. When you have a healthy savings cushion, it gives you options and flexibility that aren’t available to those living paycheck to paycheck. You’re not tied down to a particular career or employer, since you have the financial resources to weather periods of unemployment or transition into entrepreneurship. You can make bold moves and take calculated risk, knowing that your savings will support you. Furthermore, the more you’re able to save, the sooner you may be able to reach a point of financial independence where your passive income (e.g. from interest returns) exceeds your living expenses. This is the holy grail – the ability to live off your assets rather than having to work for a living. It’s a level of freedom and control over your time that most people can only dream of.

Creating and maintaining a budget to manage income and expenses.

Budgeting is the bedrock of any successful savings plan. By meticulously tracking your income and expenses, you can identify opportunities to cut back on spending and direct those freed-up funds straight into your savings. The key is to approach budgeting with a level of detail and intentionality. Start by listing out all your fixed expenses – things like rent, utilities, loan payments, etc. Then look at your variable expenses, such as groceries, dining out, entertainment, and discretionary spending. Be honest with yourself about where you can trim the fat. Many find it helpful to use the 50/30/20 rule as a budgeting framework. This allocates 50% of your income to necessities, 30% to discretionary spending, and 20% to savings and debt repayment. While the exact percentages may vary based on your situation, the principle of prioritising savings is crucial.

One of the most effective budgeting tactics is to automate your savings. Set up recurring transfers from your primary account into a dedicated savings account as soon as you get paid. This “pay yourself first” approach ensures your savings goals are met before you have a chance to spend that money elsewhere. 

Prioritising saving by setting aside a portion of income before spending on other things.

This simple but powerful approach involves prioritising your savings contributions before allocating money to anything else. The logic behind paying yourself first is straightforward – if you wait until the end of the month (or pay period) to save whatever is left over, chances are high that little to nothing will actually make it into your savings account. Bills, discretionary spending, and other financial obligations have a way of consuming the entirety of our income. By flipping the script and automating savings transfer as soon as you get paid, you’re ensuring that your savings goals come first. This “forced savings” approach prevents lifestyle inflation from eroding the money you’ve earmarked for the future. Over time, as your savings grows, the habit becomes ingrained and you’ll barely notice the money leaving your account.

Beyond just the practical benefits, paying yourself first also has a profound psychological impact. It sends a powerful signal to your brain that saving is a non-negotiable priority, not just an afterthought. This mindset shift can help you make more intentional spending decisions and stay motivated on your path to financial freedom. The key is to start small and steadily increase the amount you save over time. Even if you can only spare £50 or £100 per month at first, that’s still progress. The compound growth of those consistent contributions will add up quickly.

Setting up automatic transfers to savings accounts to ensure regular saving.

By setting up recurring transfers from your current account to your dedicated savings account, you can ensure that your savings contributions happen automatically – without requiring any manual effort on your part each month. The beauty of automation is that it removes the temptation to spend that money on other things. When the funds are moved before you even see them in your main account, it’s much easier to adjust your spending to account for the lower available balance. This “out of sight, out of mind” approach can be a game-changer for those who struggle with the discipline of manual saving.

Many banks make it incredibly easy to set up these automated transfers. You can typically schedule the transfers to occur on a specific day each month, tied to when you receive your paycheck. This allows you to build your savings in a systematic, hands-off way.

Identifying and cutting unnecessary expenses to increase savings.

While automating savings and paying yourself first are powerful habits, the other side of the equation is finding ways to trim your expenses. By reducing the amount of money going out each month, you free up more funds to direct towards your savings and investment accounts. One of the most impactful areas to focus on is your fixed monthly expenses. Take a close look at your rent, insurance premiums, loans and other recurring bills. Are there any opportunities to negotiate better rates, switch providers, or make lifestyle adjustments that could lead to meaningful savings? For example, can you downsize your living space, refinance your mortgage, or shop around for cheaper car insurance? Even small reductions in these fixed costs can have a big impact on your savings potential over time.

Next, turn your attention to variable expenses like groceries, dining out, entertainment, and discretionary spending. Challenge yourself to find creative ways to cut back in these areas without compromising your quality of life. Perhaps you can meal prep more, limit eating out, or find free / low-cost alternatives for leisure activities.

The key is to approach expense reduction with a balanced, sustainable mindset. You don’t want to deprive yourself to the point of burnout. Instead, focus on gradual, incremental changes that you can stick to over the long haul.

Defining clear, achievable saving goals to motivate and guide saving efforts.

When it comes to building wealth through savings, having a roadmap of specific, measurable goals is essential. These targets provide crucial motivation and accountability, helping you stay on track even when the savings journey gets challenging. The first step is to get crystal clear on your “why” – the overarching purpose behind your savings efforts. Is it to establish a robust emergency fund? Save for a deposit on a home? Build a comfortable retirement nest egg? Knowing the deeper meaning behind your goals will make them much more compelling. From there, you can start translating that big-picture vision into concrete, time-bound targets. How much do you need to save each month to hit your 6-month emergency fund target? What’s the timeline for reaching your retirement savings milestone? Breaking down the overall objectives into smaller, measurable steps makes the journey feel much more attainable.

The Bank of England’s low base rate means savings accounts may offer minimal returns.

The UK has experienced a prolonged period of historically low interest rates, which poses a significant challenge for savers. With savings accounts and other low-risk vehicles earning meagre returns, it becomes much harder to grow your wealth through passive interest earnings alone. This is particularly problematic for those aiming to build up a sizable nest egg for the long term, as the compounding effect is muted. While the Bank of England has been gradually raising rates, savers still have to contend with yields that often lag behind the rate of inflation.

The purchasing power of saved money can decrease due to inflation, impacting long-term savings.

The UK has grappled with rising prices across many sectors in recent years. This erodes the purchasing power of your savings, making it difficult to maintain your standard of living, let alone grow your wealth. High inflation rates mean your money doesn’t go as far, necessitating larger savings contributions just to keep up. This dynamic can be especially demoralising, as it feels like you’re running just to stand still. Navigating this inflationary environment requires savvy investment strategies and a keen eye on optimising your savings for real returns.

Consistent saving requires discipline and the ability to delay gratification.

In a consumer-driven society like the UK, the temptation to spend rather than save is ever-present. Developing the habit of putting money away consistently, even when finances are tight, requires a high degree of focus and willpower. This is particularly challenging for younger savers who may be facing the dual pressures of establishing a career and managing lifestyle expenses. Maintaining that discipline over the long term is crucial, but can be easier said than done.

Emergencies can deplete savings, necessitating rebuilding efforts.

No matter how diligent you are with your savings plan, life has a way of throwing curve balls. Medical emergencies, car repairs, job losses, and other unexpected financial shocks can quickly deplete even a well-padded savings account. This unpredictability makes it difficult to plan with certainty, and can jeopardise your long-term wealth-building goals if you’re not adequately prepared. Building a robust emergency fund to cushion these blows is essential, but doing so while also saving for other objectives adds an extra layer of complexity.

Saving typically involves low risk with guaranteed returns, while investing carries higher risk but the potential for higher returns.

There is a fundamental difference between saving and investing. Savings accounts and other low-risk vehicles like high-yield savings accounts or short-term government bonds are characterised by relatively low risk and modest but steady returns. The tradeoff is that the potential for growth is limited. Investing, on the other hand, typically involves taking on greater risk in pursuit of higher long-term returns. Assets like stocks, real estate, and mutual funds can deliver more substantial growth, but also come with inherent volatility and the potential for losses. This risk-reward spectrum is a crucial consideration when deciding how to allocate your financial resources.

Savings are generally more liquid, making it easy to access funds when needed. Investments may be less liquid depending on the type and terms.

Savings accounts and similar vehicles are designed to provide easy access to your money, allowing you to withdraw funds quickly and with minimal friction. This liquidity is essential for emergency funds and short-term financial goals. Investments, however, tend to be less liquid. It may take days or weeks to cash out of certain assets, and you may incur penalties or fees for premature withdrawals. This reduced liquidity is the tradeoff for the potential for higher returns. Investors must be comfortable with this lack of instant access to their money.

Savings are often used for short-term goals and emergencies, while investments are aimed at long-term wealth growth.

Savings are typically earmarked for near-term financial goals and unexpected expenses – the proverbial “rainy day” funds. The focus is on preserving capital and maintaining easy access to the money when needed. Investing, on the other hand, is geared towards long-term wealth accumulation. The goal is to grow your assets over time through compounding returns, with an eye towards funding major life events like retirement, a down payment on a home, or generational wealth transfer. This difference in time horizon is a critical factor in determining the appropriate asset allocation.

Striking the right balance between saving and investing is crucial for building a comprehensive financial plan. Savings provide stability and liquidity, while investments unlock the potential for greater growth. By understanding the unique characteristics of each approach, you can optimise your strategy to align with your specific goals and risk tolerance.

Strengthening impulse control can improve saving behaviour by reducing unnecessary spending.

Closely tied to behavioural economics is the challenge of impulse control when it comes to saving. In a world of instant gratification and pervasive consumerism, resisting the urge to spend can be tremendously difficult. The part of the brain that craves immediate rewards often wins out over the longer-term, more rational thinking required for effective saving. Developing techniques like mindfulness, pre-commitment devices, and self-imposed limits can help strengthen this impulse control muscle over time.

Knowledge about financial management and the benefits of saving can motivate individuals to save more effectively.

Ultimately, improving one’s financial literacy and understanding of savings and investment principles is a powerful antidote to the psychological barriers. The more informed and empowered individuals are about personal finance, the better equipped they are to make wise decisions and stick to their savings goals. Financial education can come from a variety of sources – formal classes, personal finance books, online resources like this website, and one-on-one coaching. Arming yourself with knowledge not only boosts your confidence, but also helps you navigate the complex landscape of savings products, tax implications, and wealth-building strategies.