Why a penny saved is worth more than a penny earned

Why a penny saved is worth more than a penny earned

We’ve all had people encourage us to save money by telling us that ‘a penny saved is a penny earned’. It turns out they were wrong – but in a good way.

Thanks to our income tax system, a penny saved is actually more than a penny earned.

That’s because, if you’re a typical worker, you give some of your salary to the taxman, which means that every time $1 appears in your bank account, you’ve actually earned more than $1.

Imagine, for example, that you lost 30 per cent of your salary to income tax. In that case, every time you earned $1.30, the taxman would pocket 30 cents and only $1 would make it into your bank account. So if you could find a way to reduce your monthly spending by $100, you’d save $130 of pre-tax income.

How much you really earn when you save money

To properly understand this concept, let’s have a look at the different tax brackets in Australia:

Taxable income Tax on this income
$0 to $18,200 0c
$18,201 to $37,000 19c for each $1 over $18,200
$37,001 to $87,000 $3,572 plus 32.5c for each $1 over $37,000
$87,001 to $180,000 $19,822 plus 37c for each $1 over $87,000
$180,001 and above $54,232 plus 45c for each $1 over $180,000

The table below makes use of the Australian Taxation Office’s simple tax calculator to calculate how much money you’d ‘earn’ for every dollar you saved.

First, let’s quickly explain the methodology, so you can understand the ‘saving ratio’ column.

Imagine your annual salary (or pre-tax income) was $30,000. Therefore, your take-home pay (or post-tax income) would be $27,758. That would mean that every $1 of post-tax income would require you to earn $1.08 (because $30,000 ÷ $27,758 = $1.08). So if you found a way to save $1, you’d ‘earn’ $1.08, giving you a ‘saving ratio’ of $1.08.

Here are some different saving ratios for different salary levels:

Taxable income Tax on this income Post-tax income Saving ratio
$30,000 $2,242 $27,758 $1.08
$40,000 $4,547 $35,453 $1.13
$50,000 $7,797 $42,203 $1.18
$60,000 $11,047 $48,953 $1.23
$70,000 $14,297 $55,703 $1.26
$80,000 $17,547 $62,453 $1.28
$90,000 $20,932 $69,068 $1.30
$100,000 $24,632 $75,368 $1.33

As the table shows, if you had a salary of $50,000 and found a way to save $100 per month, you’d ‘earn’ $118. If your salary was $100,000, you’d ‘earn’ $133.

So the next time somebody tells you that a penny saved is a penny earned, tell them they’re wrong – because it’s actually more.

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Learn more about savings accounts

Do I have to claim interest on my savings account?

When you lodge your income tax returns, you must include in the documentation all your sources of income, including bank interest. Your bank will report any interest you earn on the funds in your savings account to the Australian Tax Office (ATO). When the ATO then compares this information with your tax returns,  you also need to have mentioned the interest earned. If there is any discrepancy, you’ll receive a letter from the ATO. 

Avoid this situation by ensuring you receive your bank statement with interest noted. Then declare the interest in your tax returns and pay the tax that’s applicable based on the income tax rate.

You only need to claim your share of the interest earned for joint accounts. If you manage an account for your child and receive or spend money via this account, you will also need to report any interest earned from said account.

Can you direct deposit to a savings account?

Yes. You can make one off payments or set up regular direct deposits into a savings account. This can be organised easily through online banking or by making deposits in a branch. Talk to your lender to find out the easiest way for you to set up direct deposits.

Can you set up a savings account online?

Yes. Several large and small banks offer online applications for savings accounts, and there are also online-only financial institutions to consider.

Online-only savings accounts are often less expensive than other savings accounts, though they may not offer the same flexibility, features, or face-to-face service as more traditional savings accounts.

Who has the highest interest rates for savings accounts?

As banks frequently change their rates, the most accurate way to know who currently has the highest interest rate is to use a savings account comparison tool.

How does interest work on savings accounts?

The type of interest savings accounts accrues is called compound interest. Compound interest is interest paid on the initial deposit amount, as well as the accumulated interest on money you have. This is different from simple interest where interest is paid at the end of a specified term. Compound interest allows you to earn interest on interest at a higher frequency. 

Example: John deposits $10,000 into a savings account with an interest rate of 5 per cent that he leaves untouched for 10 years. At the end of the first year he will have $10,512 in savings. After ten years, he will have saved $16,470.

What is the interest rate on savings accounts?

As banks frequently change their rates, the most accurate way to look at interest rates on savings accounts is to use a savings accounts comparison tool. When you look at the savings rate check what the maximum and minimum rates are. Often banks will offer you a promotional rate for the first few months which is competitive, but then revert back to a base rate which can sometimes be less than inflation. Ongoing bonus rates are often a safer bet as they will keep rewarding you with the maximum rate, provided you meet their criteria

What is a savings account?

A savings account is a type of bank account in which you earn interest on the money you deposit. This makes it one of the easiest and safest investment tools.

Can I overdraft my savings account?

A lot of savings accounts won’t let you overdraw. Some will allow this feature but you’ll need to apply first. It’s best to read the fine print and check with your lender whether this is a feature they offer. It can be a helpful addition, but as your lender can charge you a fee as well as interest for going into negative numbers, it’s best to avoid overdrafting when possible.

Can you have a joint savings account?

Yes. Joint savings accounts can be useful for two or more people wanting to combine their savings to meet shared financial goals, including spouses, flatmates and business partners.

Some joint savings accounts require all parties to sign before they can access the money. While less convenient, this extra security can help encourage all parties to meet their shared financial goals.

Other joint savings accounts allow any of the account holders to access the money. These accounts can be convenient for financially responsible couples that trust one another implicitly. 

What is a good interest rate for a savings account?

A good rule of thumb to keep in mind with savings accounts is to look for a rate that is higher than the CPI inflation rate. This number is constantly changing, so check the Reserve Bank of Australia’s page. If you aren’t earning interest above this then the value of your money will go backwards over time.

How to make money with a savings account?

Savings accounts make you money by earning interest on your savings. The more money you deposit, the longer you leave it in the account, and the higher the account’s interest rate, the more interest you’ll be paid by the bank or financial institution, and the more your wealth will grow.

To make sure your savings account makes money and doesn’t lose money, it’s important to maintain a large enough minimum balance that the annual interest earned exceeds any annual fees charged on the account.

How much money should I have in my savings account?

A good rule of thumb when working out a minimum balance for your savings account is to make sure that you’ll earn more in annual interest on your savings than what you’ll be charged in annual fees.

If you’re saving with a specific goal in mind, prepare a budget so the interest you earn on your deposits will help you efficiently reach this goal. Online financial calculators may be helpful here.

Do banks run credit checks on savings accounts?

When you apply to open a new savings account, some providers may conduct a credit check, meaning that they will ask a credit bureau for your credit history. This isn’t always the case on savings accounts though and depends on the provider, as you aren’t borrowing money. 

As you are opening a savings account and not borrowing funds, this credit check is considered a soft inquiry and should not affect your credit score. If the bank has run the credit check, you can often still open a savings account even if you have a poor score, provided you meet other requirements. 

How do I open a savings account?

Opening a savings account is a relatively simple process. If you’ve found an account with a suitable interest rate, you’ll just need to get in contact with your chosen lender via a branch, phone call or hop online to begin the process. 

You may be required to provide:

  • Personal details, including identification (driver’s license, passport etc.)
  • Tax file number
  • Employment details