No matter where you are on your journey toward financial freedom, there are two fundamental principles of personal finance that you need to get familiar with. These are savings and investments.

Often, most people confuse the two terms with one another or may be under the misconception that savings are the same as investments. The truth, however, is that they are not. Let’s take a closer look at savings and investments and how you can convert your savings today into your investments tomorrow.

What are savings?

The term ‘savings’ refers to the money you left in hand after subtracting all your expenses from your income. To put it more simply, it is the money left over at the end of the month.

For example, say your monthly financial statement looks like the details shown below.

Particulars

Amount

Total salary earned during the month

₹75,000

Total interest from fixed deposits

₹25,000

Gross monthly income

₹1,00,000

Essential expenses (rent, grocery, fuel, etc.)

₹50,000

Other discretionary spends

₹20,000

Total monthly expenses

₹70,000

In the example shown above, the monthly savings will be ₹30,000 (i.e., ₹1,00,000 minus ₹70,000).

Typically, the money that you save can be deposited in a savings bank account to preserve the funds. You will earn some nominal interest on the savings you make, but other than that, the primary goal of a savings bank account is to keep your money intact.

What are investments?

Investments, unlike savings, are aligned with the financial goal of capital appreciation rather than mere capital preservation. In other words, investing helps your money grow, while savings prevent you from losing your money. Investing involves putting your money in assets, plans, and schemes that are designed to offer a significant return on the principal invested.

The money that you save periodically can then be invested in various schemes and assets, such as the following:

  • Government bonds
  • Fixed deposits
  • Corporate bonds
  • Direct equity
  • Equity mutual funds
  • Debt mutual funds
  • Balanced or hybrid mutual funds
  • Real Estate Investment Trusts (REITs)
  • Real estate
  • Public Provident Fund (PPF)
  • National Savings Certificate (NSC)

How can you save up today to invest better tomorrow?

To put your savings to good use, you need to know how you can best convert them into fruitful investments.

  • Save a lump sum amount to invest

The conventional method to use your savings for investing involves letting a lump sum amount build up in your savings account and then withdrawing your savings to invest the entire sum in an investment of your choice. This kind of strategy works well for investment avenues like fixed deposits, annual PPF contributions of ₹1.5 lakh, and even the down payment on your home loan.

  • Start a Systematic Investment Plan (SIP)

You can also convert your savings into investments in small sums using a SIP. Here, you periodically invest a fixed sum of money (even as low as ₹1,000) in mutual funds of your choice. Clearly, you don’t need to wait to accumulate a lump sum to start investing via this method.

  • Make use of the power of compounding

The power of compounding holds the secret to how your savings today can act as investments for tomorrow. Compounding essentially means you earn returns on your returns. For instance, say you invest ₹1,00,000 at an interest rate of 8% per annum.

Without compounding, you will only earn ₹8,000 each year. So, at the end of 5 years, for instance, you will have ₹1,40,000 only. However, with compounding, here is a preview of how your money will grow over the same 5-year period.

Particulars

Amount at the beginning of the year

Interest earned during the year

Closing balance at the end of the year

Year 1

₹1,00,000

₹8,000

₹1,08,000

Year 2

₹1,08,000

₹8,640

₹1,16,640

Year 3

₹1,16,640

₹9,331

₹1,25,971

Year 4

₹1,25,971

₹10,078

₹1,36,049

Year 5

₹1,36,049

₹10,884

₹1,46,933

As you can see, with compounding, you earn interest on your interest, thus allowing your money to grow exponentially. To use today’s savings for investments that give you the benefit of compounding, you can choose investment options such as the following:

- Mutual funds

- Cumulative fixed deposits

- National Savings Scheme (NSC)

- Unit Linked Insurance Plans (ULIPs)

Conclusion

With the strategies outlined above, you can make the most of your savings and convert them into investments that make your financial goals easier to achieve. When you are planning to invest your savings, however, remember to align your investment portfolio with your financial goals rather than investing randomly. This will be extremely beneficial for your finances in the long run.

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Disclaimer: This Article is for information purposes only. The views expressed in this Article do not necessarily constitute the views of Kotak Mahindra Bank Ltd. (“Bank”) or its employees. The Bank makes no warranty of any kind with respect to the completeness or accuracy of the material and articles contained in this Article. The information contained in this Article is sourced from empaneled external experts for the benefit of the customers and it does not constitute legal advice from the Bank. The Bank, its directors, employees and the contributors shall not be responsible or liable for any damage or loss resulting from or arising due to reliance on or use of any information contained herein. Tax laws are subject to amendment from time to time. The above information is for general understanding and reference. This is not legal advice or tax advice, and users are advised to consult their tax advisors before making any decision or taking any action.