Is a 15% Savings Rate Really Right for You?
Photo courtesy of Jerry Huddleston
We all know that we’re supposed to be saving money. It’s no secret. But how much should we be saving? Now that’s the million dollar question.
You can find plenty of different rules of thumb out there, but for the most part they all give pretty much the same advice:
- Elizabeth Warren says that you should aim to save 20% of your net income (after taxes).
- Dave Ramsey (who’s investment advice is suspect, to say the least), recommends saving 15% of your gross income (before taxes).
- My college finance professor made us promise that we would save at least 10% of our first paycheck, and keep doing that for the rest of our lives.
Put it all together and 15% seems to be the standard target savings rate. So that becomes the goal. If you can save 15% of your income, society deems you to be “on track”.
But is a 15% savings rate really right for you?
Why is 15% the generic advice?
It doesn’t take much to see why a 15% savings rate is the standard advice:
- The standard “retirement age” in our country is considered to be 65
- College graduates are typically age 22
- At a 15% savings rate, it will take about 43 years to save enough money for you to be financially independent (we’ll get into this in more detail below)
So for someone starting in the workforce at age 22, right out of college, a 15% savings rate will put them on track for financial independence at age 65.
Ta-da!
Why the generic advice is irrelevant to you
15% may or may not be the perfect savings rate for you. We’ll talk more about that in just a minute.
But in any case, there’s one big reason why you definitely shouldn’t assume that 15% is your target:
The rule of thumb hasn’t even for one second considered anything about your personal goals.
Remember that exercise to help you define exactly what it is you want out of life? Where is that included in the rule of thumb?
What about asking you whether or not you actually want a traditional retirement? Did the rule of thumb do that?
Your personal goals, the life you want to build for your family, should be your guide. The rule of thumb is a useful place to start, but it does NOT have to define what’s right for you.
What happens if you choose to do something different?
I want to show you something that blew my mind a little bit the first time I saw it.
This is a chart I first saw in this excellent post from one of the best financial bloggers out there, Mr. Money Mustache. I would absolutely check out that post, and his site in general, but here’s the chart:
Here’s what this is saying:
- First, it’s assuming that you’re starting from scratch. That is, you currently have a $0 net worth (no debt, no savings). This is just to keep things simple.
- Then it’s telling you the number of years it will take to reach financial independence based on the savings rate you choose.
- It doesn’t matter what your current income level is. The math works no matter what.
If you look at the 3rd row, you can see that a 15% savings will get you to financial independence in 43 years. Just like we said above.
But the really mind-blowing part is what happens when you scroll down the chart. Every little increase in savings rate dramatically cuts off the number of years you have to work.
Jump from 15% to 20% and you can reach financial independence 6 years sooner. If you can get your savings rate all the way to 50%, financial independence is only 17 years away.
For a 22 year old fresh out of college, that means she could retire (or travel, volunteer, start a business, stay home with the kids, whatever) at age 39. 39!
The point here is not that you should be saving 50% of your income (although that would be pretty badass!). It’s just that you have choices beyond what the mainstream media likes to tell you. The menu of options is much longer than any single rule of thumb.
Quick note: If you want a slightly more personalized answer for how much you should be saving, here’s a calculator I made that will help you figure it out.
There is no “right” savings rate
A higher savings rate isn’t always better. A lower savings rate isn’t always worse. This isn’t about judging whether or not you’re doing things “right”.
This is about starting with your goals rather than society’s rule of thumb. What kind of life are you trying to build? What kinds of things do you want to be able to try? What does financial freedom look like to you?
The answers to those questions will lead you to the savings rate that’s right for you. Societal norms have no relevance.
You have options. Use them to your advantage.
I appreciate your examination of conventional wisdom and I totally agree. Just because people say you should save 10% or 15% doesn’t mean that you can’t save more. I think sometimes people hit that threshold and just stop saving! It’s amazing what a high savings rate can do for your future! We’re at approx 82% and it feels great!
Wow, 82%? That’s crazy! Nice work!
I think the 15% rule is out there because it’s a general rule that probably works for a majority of people. But as you point out, it’s important to step back and work with your own unique situation.
I agree. It’s a good rule of thumb based on what most of society views as the standard retirement goal. I would simply encourage people to think about what it is they really want from life and start there rather than aiming for the number that the media recites most often.
The main problem I have with advocating a certain small percentage, like 15%, is that the strategy actually gets you further from your goals if your income increases. This is the likely scenario for many workers…maybe most workers. The problem is that if your income doubles and you still just put away 15%, now the amount you’d need for financial independence has grown substantially. Before, you were spending 85% of a $40k takehome. Now you’re spending 85% of an $80k takehome. As such, your baseline spend is 85% of a much larger number, so you need a much larger nest egg to maintain that in retirement.
Well, I agree that you get further away from an absolute standpoint. From a relative standpoint it should stay the same though. With the caution that the more you need, the more variables could throw you off. So I agree with your implied point here that the best way to do it is to use raises as a way to actually increase your savings rate. Increase savings without decreasing lifestyle? It’s a win-win.
Hi Matt, when you mentioned a 15%-20% target savings of net income, do you consider 401k or anyother investment options as a partial of that savings?
Absolutely! The real key though, in my mind, is not to focus on hitting a target percentage, but to focus first on the goals you want to achieve and figure out how much you need to save to reach them. The percentage is really just a by-product of that.
I like having a percentage in there because each year I get a raise the amount I contribute also goes up automatically. However, people always look at minimums when we should look at maximums. No one ever looks back and really worries about having too much money. However they do look back and wish they had done more. There are only two options in life, financial freedom or regret.
“No one ever looks back and really worries about having too much money.” I think that’s partly true, but I do think there’s the possibility of regretting having saved so much and therefore not having taken as much opportunity to live life. I think that’s pretty rare though, and in most cases you’re right that people will end up being happier if that save a little more.