When you’re determined to start saving money for an emergency fund, a future dream vacation or especially for retirement, you may not know how much to save. How much to save each month is actually crucial with retirement planning in particular.
If you’re not saving enough each month, you may reach retirement age and realize that you don’t have enough money to live on. This situation can force you to continue working when you’re older.
I’ve put together this guide to help you figure out the amount of monthly savings that is best for your budget and long-term goals. Once you have this plan together, you can move forward with stockpiling your nest egg with confidence.
Most of this post will be dedicated to teaching you about saving for retirement. However, it is worth briefly mentioning other reasons you may want to save money. When you figure out a percentage of your earnings to save for retirement, you’ll need to increase that amount even more to contribute to other savings. If you take away from your retirement savings, then you simply won’t have enough during your golden years.
I highly recommend having a money cushion in your bank account. This cushion is to help you avoid living paycheck to paycheck. It’s simply extra cash in the main account you use for paying bills and everyday expenses. Try to keep at least a couple of weeks worth of extra expenses as your cushion.
It can also be a very good idea to keep an emergency savings fund. This money should be kept in a separate account so it doesn’t get used. You should view this money as a last-resort backup fund that you can use if you lose your job or have a major spending emergency that your budget can’t handle. Emergency savings should be at least 6 months of your annual income, although one year is best. Don’t invest this fund, but you can keep it in a high-yield savings account to gain some interest.
Your number one goal with saving money should be to build a retirement fund. By retirement age, you’ll want to have about 25 times your annual earnings saved. This should give you enough money to live on for the rest of your life, especially combined with social security income.
Beyond saving, this retirement fund should also be invested to maximize earnings. When you can get started at a young age, you’ll be able to take advantage of compounding interest rates to build your nest egg. Any interest or dividends earned from this account should also be reinvested.
If you have many years left until retirement, you can invest with a more aggressive stock portfolio. I’d recommend most of your funds going into index funds, but you can choose some individual companies to directly invest in as well. As you get closer to retirement, you’ll want to reduce your risk by selling some stocks and trading them in for bonds
50-30-20 Savings Rule
Senator Elizabeth Warren wrote a book called All Your Worth: The Ultimate Lifetime Money Plan. In this book she details her advice for how much you should save each month. She calls this the 50-30-20 rule.
With this savings system, your take-home pay after taxes is divided three ways: 50% goes towards your bills and living expenses, 30% is expendable income to buy anything you want, and the remaining 20% is designated for savings.
The general idea of the 50 30 20 rule works, but this exact formula won’t work for everybody. You may need to adjust these numbers for your specific situation. Maybe 50% of your income just isn’t enough to cover your basic expenses each month. If that’s the case, you’ll need to change your numbers. However, you should try to avoid changing the 20% savings number unless there’s a good reason to do so.
Initial Savings Age
How old you are when you begin saving money for retirement can drastically alter how much you should save each month. For anyone born in 1960 or later, the earliest age you can retire and begin to draw social security benefits is 67. If you begin saving for retirement at 30 years old, you need to save 20% of your income each month to reach your goal by 67.
If you’re older than 30, you simply wait too long to start and need to get aggressive now to catch up. Waiting until 35 years old to begin saving will force you to save 25% of your income. If you don’t begin until you are 50 years old, you’ll need to save 50% of your income! As you can see, the longer you wait the more difficult it is to reach the ultimate goal by retirement age.
Any early birds that are thinking about retirement before the age of 30 will have a major advantage. Get started at 24 years old and you only need to save 15% of your income. If you are 16 years old and getting your first job, you probably won’t be thinking about retiring unless your parents gave you advice to start early. Anyone fortunate enough to begin saving for retirement at 16 only needs to save 10% of their annual income.
Obviously, your age makes a huge difference when it comes to retirement savings. You can’t go back in time and start earlier, but you can get started today to not waste any more time. If you waited too late, pass along this advice to someone close to you that is younger and would benefit from the early knowledge.
Additional Savings Goals
The percentage of your paycheck that you’ve designated for retirement savings shouldn’t be used for other purposes. Maybe you have a dream vacation you want to take in the future and want to start saving for it. Perhaps you have kids and you want to begin saving for them for college. Any additional savings goals like these that you may have should come out of the 30% of your income that is designated for expendable cash.
Ultimately, if you use your 20% retirement savings for anything else, you’ll shortchange that fund and have to save for more years to reach your goal. The 30% in the 50-30-20 rule is money you can spend any way you want. This is the most ideal part of your budget that can be altered for other purposes without leaving your short on bills or retirement.
Calculate some numbers to figure out how much you need to save each month to reach your additional savings goal. If you need to take 5% of your income for a couple of years to save for a big vacation, simply reduce the 30% of expendable income accordingly. This means that other savings goals will lower your monthly expendable income, so only you can decide whether it is worth the sacrifice.