What is the retirement savings waterfall?

The retirement savings waterfall is a financial planning technique that allows you to prioritise different financial goals by allocating money into different ‘buckets’ based on your goals.

Originating in the US but just as applicable to UK savers, a savings waterfall refers to a systematic approach to managing your savings and allocating your funds in a specific order or priority.

It involves dividing your savings into different categories or 'buckets' based on their purpose or timescale.  

How to create a savings waterfall 

Your ideal ‘waterfall’ will look entirely different depending on your financial goals and personal circumstances.

However, the elements shown in the below framework will apply to most people looking to make the most of their savings and investments: 

1. Create an emergency fund 

The priority in a savings waterfall is typically to establish an emergency fund.

This fund should cover unexpected expenses or financial emergencies, such as medical bills or job loss.

It is recommended that you save three to six months' worth of living expenses in an easy-access account, such as a high-interest savings account. 

2. Pay off debts 

Your debts are the hole in the bucket. This is because the interest on your debts is likely greater than the returns from any savings and investments.

There is little point in diverting funds towards, for example, a savings account with a 4% interest rate if your debt has a 7% interest rate. Pay off the debt first. 

3. Agree on short-term financial goals 

Once you have established your emergency fund and paid off debts, the next step is to save for short-term goals that you plan to achieve within the next one to three years.

These goals might include saving for a holiday, purchasing a new vehicle, or building a deposit on a house.

Allocate funds to a separate savings account or investment that matches the timescale and risk tolerance for these goals – an easy-access cash individual savings account (ISA), for example. 

4. Set medium-term goals 

After addressing short-term goals, you can focus on saving for medium-term goals you plan to achieve in three to 10 years.

These goals may include saving for a wedding, home renovations, or starting a business.

Consider using savings accounts or investments that offer a balance of growth potential and liquidity. 

5. Look ahead to long-term goals 

The next step in the savings waterfall is to allocate funds towards long-term goals, such as retirement savings.

It's important to contribute regularly to retirement accounts, such as a workplace pension, to ensure long-term financial security.

Take advantage of any employer matching contributions or tax advantages available with retirement accounts. 

6. Make additional investments 

Once you’ve addressed your emergency fund, short-term, medium-term, and long-term goals, you can consider allocating additional savings towards other investment opportunities.

This may include investing in stocks and shares, bonds, property development, or other asset classes based on your risk tolerance and investment knowledge. 

By following a savings waterfall approach, you prioritise your savings goals and ensure you allocate funds in a way that aligns with your financial goals.

It's also important to regularly review and adjust your savings strategy as your goals and circumstances evolve over time. 

Seek financial advice

Unbiased can match you with the right financial adviser for your personal situation and individual goals – get in touch to find an expert.