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This is a guest post by Mehdi, author of StrongLifts.com.
How much do you save? I hope you put money aside. You don’t? Neither did I until a few years ago. How do you become a money saver? I’ll first tell you how you don’t: Not by using discipline or willpower. Discipline and willpower only work in the short-term.
What works in the long-term is understanding your spending habits. Once you understand, you can change by building new habits. That’s how you become a money saver. And that’s the topic of this post — ten ways to build the habit of saving money.
1. Set a Goal. What do you want?
- Do you want to have your own place?
- Do you want to be financially independent?
- Do you want to get out of debt?
A goal will give you a reason to save money. If you have multiple desires, start with one goal. Once achieved, set a second one.
2. Set a Deadline. Set a date by which you want your goal achieved. Write both on a piece of paper. Put it somewhere you can look at it multiple times a day — your nightstand, for example. Look at your goal and deadline on waking and before sleeping. It will remind you why you’re saving money.
3. Track Expenses. You probably have an idea of how much you spend, but unless you keep track of every cent, that idea is inaccurate at best. Here’s a simple way to track your expenses. You probably carry a phone wherever you go. Note everything you spend in your calendar. When you get home, copy everything to your personal finance tool. At the end of the month you’ll know exactly how much money you’ve spent and on what.
4. Analyze Costs. Check where your money goes. Reduce and remove costs. The first time you analyze your expenses can be shocking. The more the better. This is your first wake up call.
5. Make a Budget. Calculate how much money you need for:
- Food
- Rent
- Bills
- Clothes
- Leisure
- Etc
Remove costs from income. Now you know how much you can save each month. Even if it’s not much, it’s better than nothing.
6. Pay Yourself First. Make the first bill you pay each month the one to your savings account. Just like all your other bills, there’s no way around. You must pay it month after month, unless you’re in debt. Then the rule becomes: “Pay Your Debts First”.
7. Earn More Save More. Save a fixed percentage of your income. This way, as your income goes up, so will your savings. 20% is a good start. You can’t? Then you’re living beyond your means. Time to wake up.
8. Think Saving. If you have money left at the end of the month: save it. You don’t need to spend every cent earned. It’s okay to buy things. But make sure you really need them — don’t spend just for the sake of spending.
9. Wake Up. I wrote in the introduction that you need to understand your spending habits. You need to understand why you buy things. Do you buy things:
- To impress people?
- To be part of the group?
- To fill other’s expectations?
Next time you buy something, ask yourself: Why am I buying this? What are my real motives? Don’t judge. Just notice.
It takes time, but once you get it, it’s eye-opening. Your life will be simpler and you’ll avoid many financial headaches. Trying to keep the pace with others is a never-ending game, one you can’t win. Wake up.
10. Read Get Rich Slowly. Your environment influences your personality, and thus your habits. If you want to build the habit of saving money, surround yourself with people who save money. Get Rich Slowly is a good place to start. Subscribe. Read it on a daily basis. J.D.’s tips will become your second nature. You’ll become a money saver in no time.
Bonus Tip: Write this next to your goal and deadline: If I don’t save now, I’ll never have money. No matter how much I earn.
Mehdi is author of StrongLifts.com, a blog helping you build muscle and lose fat through strength training. Popular articles include the Beginner Strength Training Program and the Anabolic Diet.
This article is about Basics, Hints and Tips, Money Hacks Monday, 8th October 2007 (by J.D. Roth)
October 8th, 2007 at 2:49 pm
For sure, getting started is the hardest part. My savings account traditionally never topped about $25. Since getting serious about paying off debt and budgeting I have saved a $1000 emergency fund, started saving for a vacation, and I’m actually having fun saving money. Also, opening an account with a bank like ING really helps. Most traditional, large banks are going to give you a poor interest rate and the daily interest counter on ING is fun to look at.
October 8th, 2007 at 3:23 pm
Great post, I still have trouble with buying things I don’t need. In the beginning they seem like a need but its actually a want, such as my desire for an xbox 360. My excuse is that its entertaining to its worth it, I’m trying to stop myself from buying one.
I think a very dangerous reason is when people buy to impress others, such as a high end car. You end up making huge monthly payments and your saving ability is gone. Then the cycle repeats itself with other aspects of life, it becomes a competition.
Good post, thanks.
October 8th, 2007 at 4:19 pm
I’ve started leaving my wallet at home.
I was in the habit of surfing the web at work and buying things out of boredom - racking up huge credit card bills. I also headed out every lunch hour to wander the local shops and pick up things I hadn’t planned on buying. Sometimes I’d even try to think up things to buy.
So, now I have two wallets. One has my credit cards and cash in it, the other has $10 for the day, my i.d., a fuel card… and that’s it.
I have been caught short once or twice, but it’s been worth it.
October 8th, 2007 at 4:41 pm
Great post! I wrote earlier today on a similar topic, on the need to have patience with ourselves when we are trying to transform our relationship to money and our saving and spending habits: http://blog.boulevardr.com.
October 8th, 2007 at 10:34 pm
FinanceandFat,
What’s ING?
I haven’t heard of them before.
Got a link?
October 9th, 2007 at 3:28 am
[...] of the post is 10 Ways to Build the Habit of Saving Money. Different content of what you’re used to on StrongLifts.com, but an interesting topic [...]
October 9th, 2007 at 3:50 am
Tracking expenses and analyzing costs are the two things that affect my budget the most. It’s so easy for my spending habits to get out of hand I’ve been shocked more than once when i realized how much I’ve been spending. Now i leave most paycheck in the bank.
Great post.
October 9th, 2007 at 5:40 am
@FinanceandFat:
I couldn’t have said it better myself. The biggest step - is starting ASAP!
With dieting and money management - so many of us are waiting for that “Perfect Monday” to start. Life is going to happen - and there will never be a perfect time -so start immediately.
October 9th, 2007 at 6:27 am
[...] I think the best habit of saving money would be to keep a track of it. Observe your saving trends for a few months and then keep that as your target. Remember that your target shouldn’t become a nuisance to your family and yourself. People need clothes, food, education and other stuff to live so don’t start saving money by investing on these necessities less. Just re-orient your spending. Click here to read more. [...]
October 9th, 2007 at 6:35 am
Having my daughter was my wake up call. It is like when I looked down into the pretty life face as the nurse brought her to me…I decided I need to secure both of us as fast as I can. I grew up the day my daughter was born.
October 9th, 2007 at 9:59 am
Ugh. What simplistic tripe! Continually tracking each and every expense is time-consuming and annoying, and people just won’t do it for the long-term. For a month maybe, but not more.
The author thinks people should save 20% of their income? How much does he think they make?! I’m in the process of paying down my debt, and my debt-free calculations certainly do not include 20% to savings. Though, maybe the author means to include things like 401k/IRA in that number. In which case, my opinion changes — but this needs to be made crystal clear, because honestly, I know people who make a lot more than I do and who are cc debt free, and they certainly can’t save 20% when they’re paying a mortgage.
Let’s look at the 20% in numbers:
50k salary
13k taxes
=37k
11,1000rent/mortgage (based on 30% rule — and people, this is LESS than 1k/month)
=26k (rounded for ease)
10k 20% of salary for savings
=16k
=1333/month left over
Now, that 1333 will have to cover utilities, food, car payments, daycare, pocket money, whatever miscellaneous expenses come up.
Is this reasonable at this median salary rate? Certainly not. Imagine if the salary is less! And these calculations do not even take cc debt into consideration, though theoretically that would be paid from the 1333 left over per month. Yeah, the article said if there was debt then that would be payment #1. But what about striking some kind of balance between debt paydown and saving??
This is really an awful article. There is absolutely nothing new, and there are no insights that you can’t find on any other basic finance website. Though, this article does have some questionable advice and recommendations.
October 9th, 2007 at 10:13 am
Another tip: Setup part of your paycheck to auto deposit into a separate high interest saving/checking account. A lot of real world and online banks offer these at 4-5%. The best way to save money is really to delay your access to it!
October 9th, 2007 at 10:30 am
20%? Who are you kidding?
October 9th, 2007 at 10:33 am
SR, I’ve been tracking my expenses for 4 years now. I can show you to the cent what came in & went out up to 2003. It just a habit that you build, nothing more. You write it in your phone, once a week you put everything in your excel sheet, done.
If you can’t save 20% of your income, you’re living behind your means. Track your expenses & analyze your costs. There are always costs you can cut, it quickly adds up.
Oh btw, I live in Belgium, Europe, we pay 55% tax on our salary.
Good luck.
October 9th, 2007 at 10:50 am
I think the “Pay yourself first” concept might be the most interesting ones. When I first heard of it, living right at my means (i.e., no debt, but no savings), I thought, “I can’t afford that!” But I opened the ING account and set up the auto-deduct from checking. It’s amazing how my spending will adjust to my paycheck. I still need to cut things from my budget, but I’m slowly working on it.
Also, I like INGdirect because I like the daily update in how much interest I’ve earned. I keep my annual expenses in savings accounts there (insurance, travel money, etc.), but the main bulk of my savings in higher-interest account. The .7% isn’t really enough for me to panic about for the smaller amounts.
October 9th, 2007 at 11:37 am
[...] Rich Slowly offers 10 Ways to Build the Habit of Saving Money. Definitely a good thing to be in the habit [...]
October 9th, 2007 at 12:17 pm
I agree, 20% is far too much to save in the US.
Mehdi, if I had to pay 55% income tax I would move or find a way to not pay taxes. How can you let your government do this?
October 9th, 2007 at 12:55 pm
Josh. There are many ways to get tax deductions which I use of course.
Belgium is heavily taxed because we have a strong social system. If you don’t know what I mean, check out Michael Moore’s movie “Sicko” which compares European’s social system with American’s system.
To give you an example: when I go to the doctor I pay a symbolic 3€. Tooth care is free. If you work one year full time & lose your job: you get 1000€ a month from the government while you seek another job. Etc.
Great system, but it has a price: 55% tax.
October 9th, 2007 at 2:26 pm
To SR, I save 33% of my gross salary ($3500 a month) and I live in Canada where taxes are higher than the US.
Too often, people who say something can’t be done are just looking for an excuse.
October 9th, 2007 at 7:45 pm
Chris@ComicHacks.com, The website URL is simply http://www.INGDirect.com. They have the best savings account the Orange account, and they even offer an electric orange checking/debit account. Setup an automatic monthly withdrawal from your checking and your savings will grow automatically. I love it.
My girlfriend didn’t think she could afford $50 a month, and she never even noticed it. She’s got over $1600 socked away now earning interest and boy has her attitude changed. I never let her see her balance until it was over $1000 and she was SHOCKED. She had forgotten all about it…
p.s. I agree that RDJ is going to be awesome as IRONMAN!!
October 9th, 2007 at 8:40 pm
I’m not making excuses, I’m being realistic and practical. I’m also NOT a believer that living a meager and uber-frugal lifestyle is healthy or interesting (and no, I’m not an uber-consumer — not by any stretch of the imagination). I also save a higher percentage of my income than anyone I know, and I know people that make upwards of twice what I do. I actually saved about 23% of my income last year, but there were factors that most Americans don’t have (e.g. living abroad for part of the year in a poorer economy, but still earning US dollars).
A quick summary of where I’m coming from: I expect to pay off my cc debt and student loan within the next year. Then, I’ll be saving to buy property. I live in an area with v expensive property values, and I’ve already figured out that at the bottom of my range (and really, the bottom of the decent market in my city), I will likely be paying $1400 per month for mortgage, dues, insurance. Sure, if some (family member) bought a place for me to live, saving 20% of what I make would work (the 50k is an example, not what I actually make). And telling me I should move just so I can have a lower mortgage is a bad move, I can tell you now.
If, however, someone is making 100k per year, then I could see them easily saving 20%. I think it’s very, very dangerous to say that’s how much someone *should* save, regardless of their income. Mehdi, are you really saying that a single working mom making 30k a year should think she is inadequate because she can’t save 6k per year? A single mom in the US pays a great deal in daycare each month.
Yes, different countries outside the US have higher tax brackets. You also have other benefits that Americans have to pay for (hospitals, dentists are the primest examples). I am self-employed, and have to pay for my own medical and dental, and there is a lot that is not covered by my policy. Should I not get my teeth cleaned just so I can save that bit of money?!
Mehdi, stating that your tax is 55%, and making that sound insanely high, and then saying that you get lots of tax breaks (without revealing what your actual tax rate is) is mis-leading and entirely unhelpful. It’s also unhelpful that you don’t state how much you make, so there is a little more perspective. There is a lot of qualification that you need to be able to make, before making sweeping generalizations about how much someone should save, when using yourself as an example. Sure, there are freegans who exist on very little, and they’re also “grocery shopping” in dumpsters. And as someone who is not an American citizen, working and earning and living in the US, using yourself as an example is not a viable way to justify your habits. There are people with ongoing medical conditions that have to pay a fixed amount for medications each month, and you don’t even touch on anything that goes beyond your over-simplified generalizations. You don’t even talk about the difference in saving between single people and couples, and people with children — and that is SIGNIFICANT. If someone is splitting a mortgage and basic bills with someone else, that dramatically changes their expenses.
As to the expense tracking, I can only sarcastically say “good for you.” I don’t know anyone anal enough to care about every single penny they spend. Myself and the people I know give ourselves budgets, and work within those. Occasionally we’re under budget and we save that extra money, and sometimes we’re overbudget and have to tap savings. Personally, I give myself a certain amount of pocket money each week, and that’s that. It’s my experience that being so anal about writing everything penny down is that the majority of people will not keep it up. To me, it also indicates a scary, unhealthy obsession with money. As long as someone can create a budget and stick to it, that’s enough. It’s not enough to be able to say “well, *I* spent 35.61 on ice cream last year. I mean, really, is that really a useful figure at the end of the year? Tracking, say, petrol is one thing and can be quite useful.
October 9th, 2007 at 8:56 pm
Oh, and Matt, according to the Canada Revenue Agency, you are not paying more income tax than an American. By your statement, you earn 3500 per month (42,000/yr). According to the CRA website, that means you are paying about 6541.10 in income tax per year. A typical, single American (with no kids) would pay 10,5000 in income tax, before standard deductions.
I’m not convinced that with your basic income tax rate, in addition to your higher sales tax rates, are higher overall than in the US.
But then again, going on about how you pay more for taxes, when medical care is subsidized is not a valid argument. If Americans had the option of paying more in taxes, in order to have free healthcare, I imagine the majority of Americans would agree to that.
October 9th, 2007 at 9:15 pm
Hani,
Thanks for telling me more about IGN. I need to check them out now!
Thanks for reading my blog! Iron Man can’t get here fast enough!
Maybe JD will do a review of the movie here? One can hope!
October 9th, 2007 at 11:21 pm
SR. I stand behind my words. You should be save at least 20% of your income, no matter what. The whole point of setting a 20% rule is that it sets constraints. And most people start to get creative when they set constraints. Frugality is great for your bank account, but it’s also hard when you have to say “no” to things you’d like to have.
I would never have started to look into tax deductions, savings account with higher intrest rates & second stream of incomes, if I didn’t had set the 20% constraint first.
You think it’s hard or impossible to save 20% income? That’s the whole point SR.
October 9th, 2007 at 11:43 pm
Mehdi,
I’m going to agree with SR on this one: 20% seems a bit irrational for a beginner saver.
I think people should start with 10% first, then try to increase the percentage over time. Besides, going from no savings to 20% a year is like jumping from high school football to the NFL. Frugality takes time to make sense, and saving 20% during your first month of expense tracking is pretty absurd.
So my 2 cents is to do everything Mehdi said, but try 10% (like mentioned in The Richest Man in Babylon) instead of 20%.
I’m not saying 20% isn’t possible. I’m saying it’s too farfetched for the first time saver.
Anyways, Awesome article!
October 10th, 2007 at 7:45 am
[...] On a related note, J.D. at Get Rich Slowly offers 10 Ways to Build the Habit of Saving Money. [...]
October 10th, 2007 at 9:59 am
I find it’s most helpful when people speak from their own experience–”I save x% of my income by having a roommate and not eating out”; “I can only save y% of my income because I choose to buy organic food/have very high alimony payments/[whatever].” Trying to predict what mythical other people can and can’t or will and won’t do is much less helpful.
I save a very high percentage of my income–at least 20%–by having very clear goals, and a roommate, and being frugal in all the usual ways. And I am on track to achieve my goals, and I am very happy with my finances and my life.
October 10th, 2007 at 10:16 am
> SR wrote: Now, that 1333 will have to cover utilities, food, car payments, daycare, pocket money, whatever miscellaneous expenses come up.
First off, “car payments” is nothing else but paying off debt, so it should be excluded from this list.
Also, I think $1333 is plenty for one month to live on, that’s more than $40 per day!
My current plan is to live on $700 for misc. expenses per month, therefore being able to save about 50% of my net income.
October 10th, 2007 at 12:45 pm
Investor Trip. 20% is perfect. It’s not too low, it’s generally too high. And to most people that’s what they need: setting constraints.
Setting constraints is, as I posted above, the best thing you can do. It breeds creativity. It pushes you to cut drastically into costs.
SR wrote 20% savings is too much, but she also wrote she doesn’t track her expenses. First mistake. You don’t track expenses, you don’t know where your money goes, you can’t cut costs.
October 10th, 2007 at 1:17 pm
20% is perfect for most people as Mehdi has said. Plenty of people will say that it’s too hard, it’s impossible, unrealistic, etc. Those people are also the ones who aren’t willing to put in the time to keep track of expenses, etc.
Now I believe that 20% does include 401k, and paying down debt (long term capital debt, not car loans, electronics loans, etc). The idea is that that 20% is going towards your future value, not current expenses.
So if you’re putting away 20% in a 401k, you’re already there. If you’re putting away 10% in a 401k, and 10% towards paying down a student loan, you’re already there as well.
The simple idea is that if you’re not able to put away 20% of your salary for your future, you’re living above your means. For your own good, you should move to a smaller place, get a new job, get roommates, eat out less often, etc. Of course that’s a generalization, but something plenty of people just don’t understand.
Thinking long term, you eventually will need to retire (unless you die first, which is a sad thing to hope for). So you eventually will need funds saved for retirement. Spending 100% of your income just means you’re slowly walking towards being a broke old person.
October 10th, 2007 at 1:26 pm
Oh, and someone said having personal examples is good. I recently figured out that my wife and I are saving somewhere around 40% of our net salaries.
In percentages:
25% towards 401k
5% towards company stock purchasing
10% towards after tax savings
We make a lot more than the average person, but we certainly save more than almost anyone in our salary bracket. The more you pay attention to your spending, the more you notice things that aren’t “needed”. If you do keep track of everything you spend, you quickly notice how fast coffee adds up, how much a certain vacation set you back financially, or how that gym membership ended up costing $15 per workout when you weren’t using it much, etc.
Being very aware of how much everything costs, how much that money would be worth if it was invested for 20 years, etc.. the more aware you are, the better you will be financially in the long term.
October 10th, 2007 at 4:43 pm
I follow a detailed budget, so don’t even try to be snarky about my lack of being able to tell you how much I spent on shampoo last month. My money management is very healthy, sane, and goal-oriented. In fact, I’ve saved a significant amount of my income in the last eight months, in addition to contributing to an IRA, and paying down about 35% of my debt in the last six months. So see, you don’t have to track every little penny (imagine!) – just create a budget and stick to it. It’s really not that hard.
Part of the point of “pocket money” is to not have to itemize every little thing. If it’s in my pocket, I can spend it, if it’s not, I have to wait until I have more pocket money. If there’s a high ticket item/vacation I want, then I save specially for it. It’s really quite simple. It’s not necessary to be a money nazi in order to keep yourself on a budget and meeting financial goals. It just takes a bit of discipline.
What Ruth says is spot on.
Making sweeping generalizations about how much someone should save, regardless of their income, is very dangerous. Telling someone on a limited income that they are living “wrongly” because they can’t save 20% will not inspire them to try and save even 5%. I’d *really* like to see you have that discussion with a single parent on a limited income or someone living on the poverty line with an unstable income. A superior, narrow attitude will not successfully motivate people.
I would love to see other comments from parents, or other people with recurring expenses, and whether or not this is feasible in their world on their income.
October 10th, 2007 at 5:57 pm
I think that the context for the 20% savings recommendation is this: In order to be able to live off one’s savings for a comfortable retirement, 20% of a decent income is a good guideline. There will always be many who cannot afford to do this. For most of those, “independent retirement” won’t happen. They will either be forced to continue work to earn income or become dependent on others/society. Nevertheless, the advice to save 20% (or more) is good advice. If you aren’t following it, there will be consequences later, whether the choice is out of your control or not.
October 10th, 2007 at 11:42 pm
[...] 10 Ways to build the habit of saving money [...]
October 11th, 2007 at 10:08 am
Kris, while there is merit to what you say, there are still difficulties in statements like that. If you have a low income or you have a low income for a long time (before starting a higher income), 20% savings probably isn’t going to cut it. It’s much better to work with target goals.
It’s really easy, with online calculators, to figure out how much to save in order to retire with a million (or another amount). If someone is 23 and wants to save 2 million, it takes less savings per month than for someone starting at 33.
This is the problem with sweeping generalizations about finances. What works for someone making 30k is different from someone making 50k, and someone making 150k. This is without even taking personal goals into consideration.
Finally, you assume that the 20% is for retirement purposes. The purpose of the 20% was never made clear, except in a derogatory “you’re bad/incompetent if you can’t save 20% regardless of your income” manner.
October 11th, 2007 at 1:31 pm
yes 20% does seem abit out of whack for most people, I’d suggust $50 a month as a good starting point and go from there. Also get in the habit and yes it’s a habit of spending less and saving more each week.
October 11th, 2007 at 3:26 pm
Everyone can have their own opinion about it, but I have a personal belief that thinking something is impossible makes it almost impossible to achieve.
Part of the problem I’ve seen with people who don’t save much, is that they think it’s impossible to do so. They’re often shocked at the amount we save (even though we could do much better)
So personally, I’d like to tell people “You should be saving 20%”. If they say “Oh my lord, 20%, you must be joking”, I would want to say “It is possible, but perhaps you could start on something easy, like 5%, and increase it monthly”.
Anyway, it’s my opinion that saying 20% is way too high, out of whack, etc, is self defeating.
October 12th, 2007 at 5:24 am
[...] 10 Ways to Build the Habit of Saving Money ? Get Rich Slowly (tags: money productivity Finance lifehack) [...]
October 12th, 2007 at 10:53 am
Saving 20% is not an impossible goal if your goal is to reach finical freedom while you still healthy to enjoy it. I am a single Mom with an eighteen year old and I have a net worth of high six figures with no debt. I would say my average savings rate for the past 25 years is around 25%. I don’t own a home because I like to travel, but I do own a well diversify portfolio that is making more money for me now then my annual salaries. I think I can reach my freedom day within five to seven years and I am still young and healthy.
Live within the means is to think carefully on every expense item. Live within budget does not mean that you are going to eat cat food or live in a crazy neighborhood. What budget does for you is to allocate your limited resource to what you really want in life. Housing is a need, but owing a big house is a want. Through out the years, I’ve lived in a studio, a two bedroom house with an in-law unit, and even share a room with a friend of mine. I live in the space that I can afford without compromise my goal. I kept my housing cost under 20% of my gross income. Currently the housing cost is at 16%. It’s a small studio in a decent neighbor. It’s not an easy task living in the San Francisco bay area but can be done.
I don’t earn six figures income and through out the year I’ve earned from low five to mid five figures. But no matter what I make, I’ve never have any debt and I’ve always managed to save. Once I lived in New York (1979) and I have $100 a week take home pay job, but I managed to save $1,000.00 within three months.
The key of financial freedom is to focus on your goal and know the difference between needs and wants. I update my balance sheet every morning the same way that I step on the scale every morning to manage my weight. I live in a small studio with my eighteen years old. I have very few furniture so my living space is quite roomy and comfortable for both of us. I have one dresser for my self and the other for my child and all the cloth we own has to be fitted into the dressers. Yes! I do own a HD flat screen TV and wii game at home. I don’t buy any cloth unless I am giving up an old one. I am very careful with any material thing I purchase, because I realize the price of owing too much thing is the freedom you lost. I can not tell you the freedom I felt when I moved from a two bed room house to a small studio a couple years ago. I am so much happier with so little things.
I enjoy my life and budget about 2,000 to 3,000 a year for traveling. I love the Alaska cruise I took in the summer and am planning a trip to Mexico within six month. I still enjoy a small cup of latte from Pete or have a great dinner with my friend from time to time.
I truly think the attitude is very important in everyday life in everything you do. If you think you are going to have a great day, you will do everything you can to make your day beautiful. If you think 20% is an impossible goal, then it will be impossible.
October 12th, 2007 at 11:35 am
Several people are very resistant to saving 20% (or more). SR, was very vocal on this point. On the one had, I have been there, believing that I could not possibly save a large amount. On the other I did jump from debt and living paycheck to paycheck to saving 20% or more.
When arguing that 20% is unrealistic, SR made several points.
In one example he gave a figure for rent and cited “the 30% rule”. I presume he did so in order to make a claim to authority, and lend justification to his argument. As far as I know, this 30% rule is a heuristic used by real estate professionals and lenders to gauge how much debt for housing that a person can carry. In this context citing “experts” whose goal is to maximize the amount of money they can safely lend to consumers is not compelling.
He also said, that by using on-line calculators it is easy to find how much to save in order to retire with 1 or 2 million dollars. This argument also seems strange. Even at a rather tame inflation rate of 3%, using the examples he gave. 1 million in 35-45 years will only be worth between about 250K-350K in todays dollars. 5% income derived from 350K is only $17,700/yr. This is hardly a recipe for financial independence.
Gripe all you want about how 20% is unrealistic, or not possible for many. It is not. Do you “need” to live alone in a larger place? No. You just want to. And that is fine. If that is a high priority goal for you, it is your choice to pursue it. But take responsibility for that choice. Don’t hide the fact that you make that choice by claiming that it is necessary or that higher savings rates are unrealistic.
You also said that single mother’s had no choice. That, too, is false. In fact, the goal of raising children alone on small wages is what is unrealistic. The best strategy is often overlooked. In many small cities outside of urban cores (especially college towns) there are often a large number of old victorian houses split into 2 large rental units. After college I lived for several years with groups of off campus students and young workers. We shared rent, utilities and contributed to a communal food budget. We took turns cooking and doing chores. Many single parents can do a similar thing. By renting a large house with 5-10 bedrooms, several small families can lower their costs dramatically, and save 10%-20% even on low wages. This is how many people lived for hundreds of years. In America either in extended families, in boarding houses, or cooperatively as I describe, this was how most people were expected to live until after WW2. They save not only on rent and expenses but have more free time, better child-care, and camaraderie along the way.
You may still object because 20% just seems high to you. I suggest that you put that in perspective. A rule of thumb for several centuries was to put 10% of every dollar earned aside. The typical working life was about 30-35 years. Workers retired at 50 (much later at 55) and on average spent only 10-15 years in retirement before death. Assuming 10% savings rate and a real rate of return of 7% (accounting for inflation) A worker would put aside only 10-15 years of salary. Just enough to die broke or leave a very small inheritance.
Advances in health care, have dramatically increased life expectancy, so planning live only 10-15 years after leaving the work force is too conservative. Also, instead of spending the day reading, whittling, and rocking on the front porch, we now want to travel, golf, buy a boat, or do other things in retirement which are expensive. Health care costs have outpaced core inflation for over 50 years. It costs more money to live in retirement than it used to. We need to plan for longer lives. At a rate of 20%, and the same 7% rate of return, a worker will have 20 times a year of salary after 30 years of saving, and 29 times after 35 years.
This is where 20% comes from. If you save for 35 at this rate, you can have fairly good odds of being able to support yourself if you live 20-25 years in retirement. At 10% or less you cannot expect to do so. It is as simple as that.
I did not pull 7% return out of thin air (or a bodily orifice). It is the historical inflation adjusted average return of investing 100% in the stock market. Thus, it is more likely to be an optimistic expectation than a pessimistic one.
On a personal note. I was 33 years old before I wised up about finance. I was $20K in debt with no significant assets. I moved a few mile away to reduce my expenses, and began devoting 20% of gross income to pay down debts. In 2 years, I was debt free, and put 20% toward maximizing retirement contributions and had a bit left over to build a cushion. I advanced quickly in career, and had a 50% higher income. I gave myself a raise of only 10% and was now saving almost 1/3rd and putting it towards investments.
It was painful for the first 6 months or so to adjust to a smaller effective income. However, since that time, my income has slowly and steadily risen. So, my standard of living keeps rising and I am quite happy. However, my savings rate advanced much more quickly than my true income, allowing me to build wealth. 6 years ago I lost my job when the company went under. Instead of being forced to find work quickly I had the luxury of taking several years off for study and travel. I could afford to do so because I had low expenses (a low burn rate), and I was ahead of my goals for retirement. In fact, at the end of 2 years, I still had enough wiggle room to take a risk of becoming self employed as an independent investor. I could try and even fail at a second career because I could support myself for a while, take a risk, and then take time to find a job I would like if I needed to return to one. Unless I had learned to be frugal, and saved earlier, none of these opportunities would have been open to me.
Now, I make far more than I ever did as an employee. However, my expenses are still modest, and I pay myself a relatively small salary. Larger than before, to be sure, but my savings rate over the past 4 years has averaged 75% of gross (YTD it is 94% of gross). Why? Doesn’t this seem extreme? Well, I am in a far riskier profession, thus I must save more to cover the probable down years when I may make no money or likely lose a lot of money. However, the real reason is simple. saving 75% is no hardship. The salary I have given myself since 1993 when I started saving, has steadily risen. Each year my disposable income rises and my quality of life improves. Thus, the idea that I am being stingy and depriving myself of enjoyment is illusory. I always have more than before! There is no loss here.
I maintain my slow rate of growth in expenses because my goal is to be financially independent. I do not want to have to work for my money (even if that means continuing to work for myself). I want to build my wealth until I can migrate to a lazy portfolio, consume 3% or less of capital, and have an income larger than I am used to. Instead of spending 40-50 hours per week investing, I want to wander, to study, to sail, to build a home. I want to spend time with people I care about doing things that I enjoy: to do anything with my time that I choose. I won’t be able to buy a ride into orbit, own a private jet, or live the lifestyle of rich and famous. I simply want the freedom to be where I choose, whenever I choose, and support myself comfortably while doing so.
October 12th, 2007 at 1:43 pm
Jim, where I live, real estate is expensive, and 30% is a good basis for most people. I, in fact, live in shared housing, so I’m far below 30%. However, when people are looking at rentals/mortgages, it is still the rule of thumb — especially when you live somewhere with expensive real estate (e.g. in my city, it’s generally difficult to find a decent 1br condo in a non-ghetto neighborhood for under 200k).
As to housing shares for single parents, it’s a great idea. My (single) mother actually did that for a little while with a friend of hers. However, unless this kind of thing is advertised one way or another, single parents may not even consider this. It sounds like a potential, fantastic non-profit org idea.
And like I believe I’ve written previously, I’ve saved 20+% last year, and this year, too. People need to stop thinking I’m objecting to the 20% because *I* find it “impossible.” I know it’s possible – for ME. I also think I’m the only one of my friends who accomplishes this, and I have friends that make far more than I do (and I’m not exactly at poverty level).
Oh, and the “million dollars at retirement” was merely an example. The Motley Fool has a really great comparison table (complete with projections for different inflation rates) in their article “A Million Bucks Ain’t Enough” and I really recommend the article. Me desiring $3mn minimum for my retirement (I’m 37), is far different than someone 23. OBVIOUSLY, someone 23 will need far more than $1-3mn. This ties back to identifying and planning for GOALS, not merely percentages.
Instead of saying “so and so, you should save x%” I am a STRONG advocate of sitting down with the online calculators and A. figuring out how much you will need at retirement, based on your desired lifestyle, and B. figuring out how much the value of the dollar/your currency will change by the time you retire, and C. figuring out how much you personally need to save to achieve those goals, and D. what, if any, social security or other government benefits you can realistically expect to receive. If someone living in NYC wants to retire there, they better have a helluva lot of money at retirement, IN ADDITION to being able to own some property outright. If someone wants to retire in a rural area, they obviously will need less money. If someone wants to retire and travel a lot (even just in the US), they will need more money.
In addition, I think it’s interesting everyone has just assumed that the 20% postulated is for retirement *only.*
See, this is another problem with crass generalizations about how someone “should” save. To my recollection, Medhi only said “save 20%” — not “save 20% for retirement” or “save 20% so you can do things like buy a home before you’re 40.”
Ergo, since many people here have taken the position that THE ENTIRE 20% should be set aside for retirement, how is everyone then supposed to save for a home/travel/kids/etc??? Because that is just going to make the calculation of what “should” be saved far higher. So, if 20% of a condo is what I’m aiming for as a downpayment, I then need to save 20% of my income for retirement, IN ADDITION to saving roughly 40k for a condo? People, I make good money, but I don’t make 150k per year, and saving 20% to retirement AND saving 40k [in a reasonable amount of time – e.g. before the prices go up and I need 60k for the same place when I have the 40k saved] for a condo just isn’t going to happen. Everyone needs to step back and REALLY look at this advice. If someone is 25, they probably want to save for retirement and a home – and that is much easier to plan for. If someone is 37 (like me) and wanting to save for both retirement AND their first home, things must shift.
Is it just me who can see the baldly bad advice of a generic “save 20%”? I can do this, sure, and yes, for other people it’s quite difficult. I can also agree that it’s a generally nice goal to have. Medhi didn’t even explain what this money was for, or how he earmarks his 20%. That’s simply weak and incomplete financial advice. And if I’m being criticized for citing the generally accepted housing industry 30% rule, why is Medhi repeatedly being backed up when he has no financial experience and authority outside of what he claims to do himself, and a rehash of uber-basic financial advice found in any number of online sites or books. Is he a financial planner? No, he’s a weightlifter.
Finally Jim, I am a woman.
October 12th, 2007 at 2:06 pm
A few things.
1. You seem to think that the housing industry 30% rule is better than Medhi’s suggestion. Perhaps you’re not getting the idea behind this kind of website. We’re not looking for generally accepted standards. We are looking for better than normal, we are looking beyond the average person. The average person doesn’t save 20%, and they spend 30% or more of their salary on housing. I think this is too much, and so do other people. I don’t care if it’s generally accepted, it’s also generally accepted that people should take out loans for their cars, which I think is a terrible idea.
2. You say that you’re requiring 3M minimum for your retirement (you’re in your later 30’s), and those in their 20’s “OBVIOUSLY” need more than 1-3M? I highly disagree. If a 20 year old had 2M dollars, I think they could require extremely well immediately. If they started with a 3% withdrawal (60k) and increased it yearly with inflation, they would be extremely wealthy by the time they hit 65.
I’m 30 at the moment, planning on retiring before age 40, and I have no intention of sticking around until I have 2M or more. There are plenty of calculators out there (Firecalc is an obvious one, you can find it in google), that will allow you to see that retirement doesn’t necessarily cost as much as you think.
3. Finally, I don’t see anything wrong about generic advice of “save 20%”. Giving specific advice is unlikely to be followed by mainstream blog readers. Sure, it might be more accurate to say “Save 20% towards retirement or towards an asset that will appreciate in value, such as a home or rental property”, but that also takes a bit longer. We’re often looking for simple rules, not highly detailed rules. Yes, it is incomplete financial advice, but if someone says “Ok, save 20%, I can try to do that”.. they’ll eventually learn all they need to know. Taking that first step is the hard one.
October 12th, 2007 at 6:54 pm
Dave, you misread. The implication was not that a 20 year old had $2mn *now*, but that as a [65yo] retirement goal, it’s not enough. Obviously, most anyone with $2mn in the bank right now could retire. Theoretically it could be done with $1mn.
Retirement doesn’t cost as much as you think, hmm? I’ve seen a variety of conflicting information on this.
Did I miss where Medhi talks about how much to spend on rent/mortgage? Because it’s certainly not in the article he wrote.
As to the proclivities of the readers of blogs, I’ve found that people tend to take what is written and go with that without vetting the writer. There’s also a lot of invalid and dangerous information in blogs. I read financial blogs with a grain of salt, and look for serious “I know I can trust it” advice from established financial writers (e.g. Motley Fool). I don’t agree with everything JD posts, but most of it is good/interesting, so I read.
No, there is nothing wrong about “save 20%” *generic* advice. However, when the person who says that ALSO says things like “You can’t? Then you’re living beyond your means. Time to wake up.” or “First mistake.” is not someone that really inspires confidence or leadership. Sweeping statements need qualifications. Maybe you like a bully attitude when someone gives you advice. I don’t trust bullies.
Blindly following percentages is just lemming behavior, and that is particularly dangerous. People need to know what works for their income and their needs *before* taking any financial action. Anything else is just foolish behavior and likely to get someone into trouble.
Why should I believe Medhi when he says 20%? What authority does he have to hand down this percentage? He says it worked for him? Great. But why not 25%? And no, I don’t think it’s too much information to say “x% for retirement, x% for buying a house, x% for [kids college/whatever].
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