Are You Saving For Something Big?

What’s your next big purchase? Is it a new car, holiday or boat? Regardless of what you are saving for you have many options open to you.

Why don’t we use a hypothetical situation of three people saving for a $20,800 around the world holiday? Let’s call them Brad, Tom and Angelina.  Let’s look at how each person approaches the task of saving for this dream holiday.

Brad is a patient man and works out he can save an additional $433 a month towards his holiday.

Brad currently has a home loan of $250,000 over 25 years at an interest rate of 6.50%.  He is paying $1688 minimum a month. He decides to up his home loan payment to $2121 each month for 48 months (or a full four years).

 At the end of these 4 years, he will redraw $20,800 on his home loan and take his vacation.

Tom is also a patient man, and decides he will save $433 a month for 4 years to go on a holiday.

However Tom opens up a savings account with his local bank and starts adding the $433 to this account with a 5.0% interest rate. Just by pure coincidence, Tom also has a home loan at $250,000 over 25 years at an interest rate of 6.50%.

Angelina is not so patient, and wants to take the holiday right now. She takes out a personal loan at her bank for $20,800 over 4 years at 15% interest. She starts paying back $579 a month when she gets back from the holiday.

And wouldn’t you know it; she also has a home loan for $250,000 over 25 years at an interest rate of 6.50%.

Now let’s fast-forward four years and see which person has done better financially after their holiday.

Angelina has paid back her loan over the four-year period. However, she has had to pay $579 a month. In total she has paid back $27,786. As she has not touched her home loan, she still owes $229,557.

Tom has now saved $433 a month for 4 years. And now he has $22,955 ($2155 interest earned). Due to Tom only putting away minimum payments on his home loan, he now owes $229,557 on his home loan, or the same amount as Angelina.

Just by adding $433 to his home loan, Brad has saved himself $3433 over four years in interest. This is money he will not have to pay going forward. His home loan now, prior to his $20,800 withdrawal is $205,324. But even after his withdrawal, his home loan amount is $226,124. A total of $3433 less than Tom’s & Angelina’s.

Brad has clearly won the race in terms of money. He has saved himself $3433 in interest on his home loan.

Tom has come second by earning $2155 interest on his savings.

Angelina has come last by forking out an extra $6986 on her money.

At the four-year point, Brad is better off than Angelina by $10,419.

At the four-year point, Tom is better off than Angelina by   $9,141.

However, this is not where it ends. Let’s pretend all three people continue to pay MINIMUM PAYMENTS off their home loan each year for the remaining 21 years. Let’s fast-forward 21 years.

Due to the fact that Brad saved an amount of $3433 on his home loan interest, he will now pay his home loan off 1 year and 1 month earlier. And he will save an additional $16,301 on his total interest bill for his home loan. Add this to the $3433 and over the course of the 25 years he has saved an astonishing $19,734 in interest.

At the 25-year point, Brad is better off than Angelina by $26,720.

At the 25-year point, Tom is better off than Angelina by $9,141.

As you can see, 19 years later, Tom is still no better off than Angelina at the four-year mark. Why is this? Why has Brad continued to benefit from his decision? Well, because Brad had a lower home loan at the four-year mark he has avoided paying additional interest over the next 21 years.

Three people with the same problem. However, due to a correct decision by Brad on how to save his money, while being more patient than Angelina; Brad has clearly beaten her. However by using the money to pay off his home loan and redraw, he has even beaten Tom. Not by a little but a lot.

Short-term decisions do have long-term outcomes. Make the most sensible decision for the long-term, as it normally saves you money.

This is a lesson in patience. People want it ASAP. A lot of people just can’t wait. You need to weigh up your options. There is an old saying, “A warrior’s best virtue is their patience.”

We are bombarded with offers to get what we WANT now. Car loans, personal loans, interest free loans and credit cards. They all allow us to get the instant excitement of what we desire without the hard part. Actually saving the money to purchase it outright.

As you can see in Angelina’s case, as she had little willpower to save it ended up costing her a fortune in the long run. Just by gaining willpower it will help your bank account no end.