Does less avocado toast = happy retirement? (Spoiler alert: No.)
Whether it’s saving up for emergencies or growing your retirement savings through investments, it’s pretty easy to understand the importance of saving money. What’s more difficult though is how much we should be saving. Even though I know why saving is important, having a clear goal or concrete number that I’m working towards makes it easier to motivate myself to save consistently. Of course, the amount you need to save is going to change based on your income, lifestyle, and goals, but today I’m sharing some guidelines we can all use to figure out what amount of savings will help you live your best life!
I’m going to start with the very basics: An emergency fund. This should be, at minimum, three months worth of living expenses. Currently, with the layoffs and economic uncertainty that continues due to the pandemic, some are even recommending having six months worth of rainy day funds saved up. This doesn’t just mean three to six months of rent, but the total amount of money you’d need to live for that length of time.
This means figuring out your monthly housing cost, bills like utilities, internet, and your phone, health, auto, and other insurance, car payments, gym memberships, gas money, student loan payments, food, and anything else that you need to spend money on each month. If you already have a budget, then you probably already know what your monthly expenses are, or can use this as an opportunity to make sure your budget is up to date! If not, we can use this as a reason to start one. If you’re worried that you’ve forgotten something, you can look at your most recent bank statements to make sure everything is accounted for. This last part is easy: Just take your monthly expenses and multiply it by 3 or however many months.
Now, this is money that you have saved in cash, in, for example, a high yield savings account. Not in an investment account. This money is for emergencies, so you want to make sure that you can easily access the full amount as soon as you need it.
This is an extremely important part of being financially healthy! By having an emergency fund, you’ll know that whether you get a flat tire, need to take your pet to the vet, or lose your source of income, you’ll have some financial cushion to alleviate at least some of the monetary stress during that time. This also means that you won’t be forced to put an unplanned expense on your credit card that you can’t pay off right away, resulting in high interest debt.
So. Step one. Build your emergency fund and, to reiterate, this is your fund for emergencies. Not a last minute vacation. Or a purse. Or a Tesla.
Which brings us to the next point of saving: spending it!
Saving for a specific goal is, in my opinion, the most fun part of saving. These will be savings for a short or medium term goal. This can be anything from a vacation or a new couch, to a larger expense like a house or a car. Depending on how far away and how big of an expense this is will change whether you want to tuck that money away in a savings account, or let it grow for a few years with the rest of your investments. For example, I’ve talked about budgeting and saving for the holiday season. Most likely, these expenses will come from your savings account, whether it’s flights, a celebratory meal, or gifts. On the other hand, if you’re saving up to buy a house in the future or putting money aside to have a family and pay for expensive things like tuition, you might put that money in an investment account that will allow you to grow that money over time.
Being very clear on the amount of money needed and when you’ll need that money is key to knowing how much money to put away each month. If I’m planning a trip to Italy, I need to be honest about flight and hotel costs, what activities I want to do, how long I’ll be staying, and how soon I want to go on this trip to know whether I need to put, for example, $50 away each paycheck, or $100 each week. While I know this next part is more about budgeting than saving, I do want to point out that setting these goals might also help you realize that maybe it’s more important to you to be able to afford to stay at a nice hotel and eat more pizza in Italy, which means spending less money right now on new clothing.
This doesn’t mean that you can only have one goal! But by being clear about what your priorities are and how much money you actually need to spend each month, this can help you decide whether you’re willing to put off that extravagant vacation for a year and do something closer to home instead in order to be able to put more money towards your house fund. Or, maybe you realize this means you need to find ways to increase your income. Whatever your goals are, this is how we can save money for things that are valuable to us and will be enjoyed in the future!
And that brings us to my final point, the ultimate long term financial goal: Retirement.
I admit that it’s hard to pinpoint a specific formula for retirement, because it really does depend on each person’s situation. And I know that for a lot of us, retirement feels really far away. But…we need to start thinking about it now! Almost half of Americans that are 55 years or older don’t have any sort of retirement funds, and many others who do have funds don’t have nearly enough. Even if you plan on having some form of income for the rest of your life, I think we can all agree that we at least don’t want to have to work when we’re in our 70s! It’s so much easier to put some money away every paycheck now, then be scrambling to put thousands and thousands of dollars away in your 50s. Right? So. How much do we need?
How much will you need in retirement? Typically, it’s suggested that you should aim to replace 70 to 90% of your income through your retirement funds. For example, if you earn $100,000 a year before you retire, you should expect to need $70-$90K per year of retirement.
Typically, it’s suggested that you should aim to replace 70 to 90% of your income through your retirement funds. So, for example, if you earn $100,000 a year before you retire, you should expect to need $70-$90,000 per year of retirement. Let’s say that you retire at age 63, the average age of retirement, and live until the average life expectancy of age 79. That means you have 16 years of retirement to enjoy! Taking 70% per year of your $100,000 pre-retirement income, times 16 years of retirement, equals $1.1 million you’ll need in your retirement fund.
I know that was a lot of numbers, but stay with me. Now, with that example, note that you were making $100,000 per year but are now living off $70,000 per year in retirement. Of course, you’re probably no longer putting money aside for retirement but you’ll still have less money per year and will probably need to adjust your lifestyle. Especially because most people are going to be spending longer than 16 years in retirement! This means that if you want to be able to retire with a similar lifestyle to how you’re living now, you’ll want to save closer to 90 – 100% of your pre-retirement salary. Taking that same example as before – where you make $100K and enjoy 16 years of retirement – you would need over $1.4 million dollars saved before you retire.
I know those feel like big numbers but don’t get overwhelmed! The important thing is to start saving for retirement right away and if you’re lucky enough to work at a company that will match your 401(k) contribution, absolutely most definitely max out that company match! I know that putting money aside for an emergency fund or retirement can feel tedious, but thinking about these things ahead of time will make sure that you’re financially ready for emergencies. And, it’ll be so worth it to be able to treat yourself to a hard-earned vacation or your ideal retirement. I promise.