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Business investments

What is the difference between saving and investing?

Saving generally refers to putting money in an interest-bearing account such as a savings account, checking account or certificate of deposit administered by a bank and insured against failure of the banking institution by the Federal Deposit Insurance Corp. (FDIC) up to the maximum allowed by law.

Investing, unlike saving, can entail significant risk. When you invest, you risk the potential loss of some or all of your money. Investors hope to generate higher returns on invested dollars than on savings account deposits because they are taking a greater risk with their investment money. This is the concept behind the tradeoff between risk and potential reward. Higher-risk investments have greater potential to pay higher returns, but they are also more likely to result in losses.

How do I understand risks, rewards and investment planning?

Investing is about taking calculated risks in return for potential financial rewards such as being able to afford a secure retirement or sending your children to college.

On average, investments such as stocks, bonds and mutual funds have historically (past performance is no guarantee of future results) delivered higher returns over time than interest paid on regular savings accounts. But the risks of investing compared to a savings account are greater: There is no guarantee of higher returns, and it’s possible to lose your principal (for example, the amount you originally invested). Yet even in a savings account, money is vulnerable to the risk of inflation.

As a result, investment professionals generally suggest that diversifying your investments based on your goals and needs should be considered. But investment planning is a lot more than just dividing your money across different types of investments. The key aspects of most investment plans, whether they’re done on your own or with the guidance of an investment professional, include:

  • Outlining short- and long-term life goals and translating those goals into financial objectives (for example, how much money you’ll need to meet your objectives)
  • Understanding the ways you incur debt and putting a plan in place for reducing debt if necessary
  • Determining tolerance for assuming risk and establishing the time frame you have to pursue your goals
  • Designing an investment plan with a diverse mix of investments (asset allocation) that can help your plan succeed. One key to successful investment planning is developing a plan that guides your investment decisions over time and helps keep pace with changes in your life.
What is diversification?

Diversification is the spreading of risk by putting assets in several categories of investments: stocks, bonds, money market instruments and a mutual fund with a broad range of stocks in 1 portfolio. “Don’t put all your eggs in 1 basket” is a common way to characterize diversification. If you have a well-balanced portfolio, you should be protected against various market swings.

How do taxes affect my rate of return?

Depending on your tax bracket, a lower-yielding tax-exempt investment at 5% may make more financial sense than a higher-yield taxable one that pays 6%. It pays to do the math. While it might seem logical that an investment that yields 6% is better than an investment yielding 5%, this is not always the case. Your tax bracket can affect your rate of return.

Use the chart below to make simple comparisons. For example, in a 36% tax bracket, a 6% tax-exempt bond is equal to a 9.38% taxable investment.

Tax-exempt yield5%6%7%8%
Tax Bracket