Finding financial benchmarks and milestones

In last Wednesday's link round-up, I pointed to an article over at Gen-Y Wealth in which RJ has listed 20 financial milestones you should reach in your twenties. “I like this list,” I wrote, “and I'd actually love to see similar lists for different age ranges. People could use it as a sort of road map to where they ought to be.”

What sorts of milestones were on the list? Things like:

  • Pay off your student loans.
  • Build an emergency fund.
  • Learn to negotiate.
  • Set a target retirement date.
  • Learn to give.

Like me, a lot of GRS readers found RJ's list of financial milestones useful. Often, there's no real way to know if you're doing things “right”. How much should you be saving for retirement? How much should you have in your savings account? How soon should you buy a home? Get married? Have children?

Obviously, there's no single right answer to any of these questions. Everyone is different. We all have different strengths and weaknesses, and we all have different goals. Because of that, no single list of milestones is going to be applicable to everyone.

Still, it's helpful to have some sort of road map. A road map lets you gauge your progress, and can help you know when you've lost your way. In fact, I think a lot of folks — including me — would love to be able to compare their financial progress to some sort of standard checklist like the one RJ provided.

One way to do this, I suppose, would be to sort through the economic data collected by agencies like the Federal Reserve and the U.S. Census Bureau. (Every three years, the Fed conducts its survey of consumer finances, which is a gold-mine of info about how Americans spend money.) But this only works if you're resourceful and like digging through data. Besides, you'd have to construct your own benchmarks from the numbers you found.

One Useful Benchmark

I may have encountered other lists of milestones in the past, but I can't remember them. The one benchmark that's stuck with me — and it's not really a milestone like the kinds RJ describes — comes from The Millionaire Next Door by Thomas Stanley and William Danko [my review].

The authors suggest a simple way to gauge where you should be on your financial journey:

Multiply your age times your realized pretax annual household income from all sources except inheritances. Divide by ten. This, less any inherited wealth, is what your net worth should be.

Some of that sounds like jargon, but it's actually fairly easy to understand. Here's my attempt at a translation:

  1. Calculate your annual pre-tax household income.
  2. Divide your age by ten.
  3. Multiply these two numbers together.

Ignoring inheritance, your expected household net worth is the product of this calculation. So, if you and your spouse are about 35 years old and you make $80,000 a year, your calculation would look like this:

$80,000 x (35 / 10) = $280,000

If you're 35 years old and your household income is $80,000 per year, your expected net worth is $280,000.

Prodigious Accumulators of Wealth

Based on this equation, Stanley and Danko classify folks into three categories:

  • A prodigious accumulator of wealth (or PAW) has more than twice the expected net worth for her age. In the above example, her net worth would be over $560,000 instead of $280,000.
  • An under accumulator of wealth (or UAW) has less than half the expected net worth for his age. In our example, his net worth would be $140,000 or less.
  • And an average accumulator of wealth (or AAW) falls somewhere in the middle.

The interesting thing about this formula is that it adjusts based on life circumstances. Somebody working minimum wage at a coffee shop can still be a prodigious accumulator of wealth if he manages to set aside a large portion of his paycheck. And a highly-paid doctor can still be an under accumulator of wealth if she spends every penny she earns.

When I first read The Millionaire Next Door, I dismissed this formula as silly. “It leaves so much out!” I thought. Part of the problem was that I was an under accumulator of wealth. (I was 35 years old and earned about $50,000 a year. My net worth ought to have been $175,000. It was much, much less.) I didn't want to like any rule of thumb that basically told me, “You suck at saving!” — even if it was true.

In time, though, I've grown to like this benchmark. I think about it often, and I now believe it's a useful barometer for gauging financial health. I wish I could find more useful benchmarks like this one.

Note: Unsurprisingly, by getting out of debt and learning to save, I've improved my net worth — and left behind my days as an under accumulator of wealth. Whew!

Benchmarks vs. Milestones

As I say, Stanley and Danko's forumla isn't really a milestone. It's not an event like buying a house or paying off student loans or starting a Roth IRA. Instead, it's more of a benchmark, a standard you can judge your progress by.

I'd love to find more financial benchmarks like this, and more milestones like those that RJ listed last week. (I'm not really looking for financial rules of thumb, which I consider a different beast entirely.) In fact, I've started a text document to collect these milestones and benchmarks. So far, though, the document contains only a link to RJ's blog post and the quote from The Millionaire Next Door.

Do you have a favorite financial benchmark or milestone? How do you use it? How has it helped you? (Or do you find these sorts of things useless?)

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LifeAndMyFinances
LifeAndMyFinances

My wife and I are in our 20s and are newly married. The “Millionaire Next Door” equation didn’t seem to work for us. Say we make $70,000/yr. Take that times 25/10. That’s $175,000!! Who has $175,000 coming out of college?!

I like the points earlier in this article though. Pay off debts, save up an emergency fund, etc. Those are realistic goals that my wife and I can shoot for.

We are currently digging our way out of debt and should have it paid off in 4 or 5 months! Then I will finally feel like we’re on track.

Chickybeth
Chickybeth

That milestone basically assumes that you save every single extra penny from every raise you ever got. It might make people feel good to be an above-average saver, but I think it is unrealistic for most people.

In Money magazine a couple months ago, they had a retirement section that was helpful. It had recommendations for different age groups. For the 30’s it said you should have 1.5xSalary saved and then save 10%/year to achieve 70% of pre-retirement salary in retirement. It seemed reasonable.

Jan
Jan

The ‘Millionaire Next Door’ equation is flawed. Most people won’t be able to build any net worth in the first 20 years.

To adjust for this, i would propose:
Net worth = (age-20) / 6 * income

At age 50, the figures are the same.

JRR
JRR

Heh, I’m 46 and I’m just getting started on that list. Other than getting my degree at 24 and not having any student loans, I’ve pretty much messed up the rest of it. Trying to catch up though. Working like hell to get rid of 20 years of consumer debt, if nothing unexpected happens it should be gone by February, then I’m starting on my emergency fund. I have been funding my 401K at 15% for a number of years, but that’s totally all I’ve done for investment. I haven’t even kept money in savings, let alone done any actual… Read more »

leslie
leslie

I too found that this formula did not work very well when I was younger. And not because I wasn’t a good saver or good with money. Frankly, we had good salaries and were saving quite a bit of money but we also had just bought a house and owed a large mortgage. Our retirement accounts were not very large even though we were adding to them regularly. Now that I am 41 though, it makes more sense to me. Our retirement funds have had time to gain some traction and grow and we have paid down our mortgage significantly.… Read more »

Paul S
Paul S

The equation is a little frustrating for me as well. I live in a high income area. I make over $100k at 30. So my net worth should be $300k or so. I’m ok with the number (as I am doing a fair job building up to it) but I guess technically I should take into account my mortgage debt? If you take in to account my mortgage debt then I have a LOOOONG way to go to get to $300k.

I think most net worth calculations should take into account mortgage debt right?

Janette
Janette

Wow- that equation worked perfectly! We actually times it by two since there are two of us @ 53&60. We used our old salary since we retired last year.

Nicole
Nicole

When I ran that equation last year we were AUW… which I thought was pretty good considering we spent our first 6 years out of college living on graduate stipends in an expensive city and had only been making a real salary for 3.

Benchmarks are fun, especially if you are meeting them or have good reasons not to. They’re good to think about.

Stephen
Stephen

I agree with LifeAndMyFinances. The closer you are from leaving school/collage, the less likely you are to be close to the figure put out in the formula.
What is worse is that raises completely throw it off. At age 25, any raise I get would need to be saved 5 times over to rebalance the number after taking into account losses in the raise due to tax.

getagrip
getagrip

Part of the problem with the Millionare next door number is that it doesn’t necessarily favor someone young for two reasons. The first is that you haven’t likely had time to accumulate enough assets to meet the “average” (e.g. someone 25 years old and three years out of college but earning $40K a year is unlikely to have anywhere near the $100K in net worth assets per the formula) and the second is that hopefully, being more willing to move and take risks, your salary will increase substantially over the first ten years of your working life so the formula… Read more »

Pablo
Pablo

The benchmark or ratio that I like using is the passive income ratio which is annual passive income (income from investments, bonds, and dividends) divided by annual living expenses. The goal is to get the ratio to at least 100%. This ratio is great because it applies to people from all different backgrounds and it reminds you to work on both sides of the equation: increase passive income and decrease living expenses. Interestingly enough, a monk or nun who has taken a vow of poverty with $0 worth of annual expenses would be infinitely wealthy using this benchmark!

DreamChaser57
DreamChaser57

The benchmark in TMND presupposes that building wealth should be a lifelong exercise. In my estimation, this is the antithesis of what is ingrained in the minds of working and middle classes, including myself. I was taught to pursue higher education at all costs even at the expense of my net worth. That dreams and passion will sustain you when the numbers are arguably overwhelming. High school counselors and often parents are ill-equipped to steer children away from schools with exorbitant tuition rates. What I love about the TMND benchmark is that it challenges the conventional wisdom that it’s okay… Read more »

KM
KM

I more useful blog post would have had you actually digging through the census data to come up with real benchmarks. Or perhaps you could ask someone who has actually studied the data and let us know what they think?

I’m disappointed that you chose to present a formula that is basically pulled out of the air. It has the ring of science and statistics (ooooo–it’s a formula!) but actually it isn’t any better than asking 5 random people on the street what they think. What good is that?

KC
KC

Our household income has more than doubled in the past 2 years, tripled in the past 5 years. This formula doesn’t work for fast income increases. We’ve never had any debt in the past 10 years other than a mortgage and we’ve always had a 3 month emergency fund (currently we have 12 mos.) in those same 10 years. I’d say we are AAW or better, but not according to this calculation. Apparently I need to save about $500k this year to get up to par – better go get those lottery tickets now 🙂

Mike Piper
Mike Piper

For anyone interested in seeing how much others in your age group actually have saved (which is naturally different from how much one should have saved by a given age), this report from the Employee Benefit Research Institute may be of interest:

http://www.ebri.org/pdf/surveys/rcs/2010/FS-04_RCS-10_Age.pdf

(Specifically, the chart on page 3.)

Mark
Mark

My problem with this formula is I have just now, at age 41, started making a good salary. I was underpaid for a long time, but finally got promoted, and recently switched companies to get another nice raise ($44k to $100k in four years). For someone that has zero debt, I’m still miles away from where this formula says I should be. I feel a better formula would be one that averages your salary over the past 10 years, and also needs to take into account children. The only people I know who would approach the numbers in this formula… Read more »

HollyP
HollyP

I also have difficulty with the Millionaire Next Door formula. My family is fairly low on that scale, approx half of where we “should” be, despite having not debt and saving as much as we could. In our early 30s it didn’t apply well because my husband and I were wrestling down our grad school loans. In our mid/late 30s we were paying for two kids in child care. Now, in our early 40s we’ve been hit by the downturn in the economy and in RE values. By the time the economy revives, we’ll be in the last push of… Read more »

partgypsy
partgypsy

The formula doesn’t work as others have stated if you salary has changed over the years. for example. In the past 10 years I went from being a postdoc for 3 years at 25K, then went to 35k for a year and 1/2 then the 40K for another few years, I now make around 65K but that’s only been in the past couple years. However the formula assumes I have been making 65K every year for the past 10 years. An average is closer but still skewed, because it assumes I had the same amount of money to save for… Read more »

Linda in Chicago
Linda in Chicago

Well, that was depressing. And I thought I was doing pretty good. The only debt I have is a mortgage and I really thought I was doing quite well in the savings area, too. According to this formula I’m an underachiever, though. Since this formula is looking at net worth, I can see how it actually *could* fluctuate quite a bit for those of us with real estate in our calculations. If I had a similar benchmark number back before the real estate bubble burst I could have been much closer to that AAW category. But now that the market… Read more »

Bruce
Bruce

The only milestones that matter are your own. Personally, I figured out mine by working backwards. First, I figured out when I wanted to retire. Based on that age I calculated what after tax net worth I would need at that age to retire based on my lifestyle adjusted for inflation over the retirement years. Once I had figured out the desired net worth I would need at retirement age I then calculated my current net worth. Then I figured out what amount each year I would put towards retirement. Between these ongoing yearly contributions and my existing net worth… Read more »

crs
crs

J.D., will you have a follow up post discussing why the formula is flawed? Having unrealistic targets, based on what one’s net worth ‘should’ be, merely sets people up for failure. I don’t get the impression that the original goal of this site was to set people up for failure.

Matt
Matt

Consider me joining those who think this formula is, at the very least, not accurate for the young. Maybe it’s because I feel that I’m doing well and it calls me an under-accumulator. All I know is, according to the formula, my net worth should be equal to about 130% of my total take-home income since I started post-college work two and a half years ago. It could be higher if I didn’t make mistakes (new car with loan), but it would be difficult to get that high. I’m fine doing what works for me, taking the victories I get… Read more »

Adam
Adam

JD, that formula is seriously flawed. I switched jobs last year and got a raise of about 40%. If I used the formula a month after I switched, my net worth expected value increases a HUGE amount. Why not an average salary? And for young people, say those under 35, how would we have saved that much of our salary (baring inheritance or lottery win)? I didn’t even make any money until after 25 as I was doing a Masters degree? So I was an underperformer all those years I was getting a higher education? I have a LOT of… Read more »

Jackie
Jackie

I find them useful for getting me thinking, which is always a good thing 🙂

Dan
Dan

I believe I read on Dr. Stanley’s blog that he admitted it doesn’t work as well for younger folks. I think it depresses younger readers (like me). I’ve studied the formula and think it is dialed in for someone in their mid-40s, which I speculate is the average age of his typical audience. For example, at 30, I make $80,000. I’m supposed to have 240K saved up but at 35, I only need an additonal 40K to reach 280K. FWIW, I have $200K saved up and think that if everything keeps going well, I’ll be a PAW by 35, Shouldn’t… Read more »

Adam
Adam

(“Current Age” – “Age when graduated school and began working fulltime) * weighted average salary / 10 = what your net worth should be.

Look I’m a scientist, too! Where’s my book deal?

Mike Piper
Mike Piper

Interestingly, the formula likely understates how much money somebody should have saved by retirement age. For example, by age 65, the formula would say the investor should have saved 6.5 times his/her pre-tax income. If we assume that the commonly-given advice of a 4% withdrawal rate is appropriate, that means that an investor needs 25-times his/her spending needs saved. In other words, for TMND’s formula to hold true, (6.5 x pre-tax income) must be equal to (25 x annual spending from portfolio). So the investor’s spending from his portfolio must be equal to only 26% of his pre-tax annual income.… Read more »

Kate
Kate

…and this is why people always shy away from posting benchmarks. There’s always going to be somebody saying “but it doesn’t apply to me!”.

Yes, there are exceptions. No, the benchmark isn’t perfect. But that’s why it’s a benchmark. Personally, I prefer a flawed benchmark to the constant refrain of “well, it depends”.

Chris Parsons
Chris Parsons

I find any “rule of thumb” to be generally worthless. They are so broad that they aren’t applicable to anyone.

Milestones seem pretty straight forward. I like RJ’s list because it is easy to decide whether they are applicable to you or not.

Benchmarks should really be determined on a personal basis based on your ability, goals, etc. I want to be a millionaire by the time I’m 40, so my benchmarks would just be whatever small steps help me get there.

honeybee
honeybee

Hey guys, lay off JD, I think it’s a valid point he makes that it’s natural to react badly to a rule of thumb that you’re not succeeding at. It’s not malice, though. He’s just a human guy, after all 🙂 That said, I agree that the formula is flawed. I consider myself a “prodigious saver” and at 27 have $35K in a 401K, eliminated a $30K student debt, a $6K emergency fund another 10K in savings for personal goals. This, I feel, is pretty good for 3.5 years in the workforce, but nevertheless far short of the $170K I’m… Read more »

Anonymous
Anonymous

Yeah, I’m seriously unimpressed by the linearity! The formula implicitly makes some very narrow (and potentially damaging) assumptions about people’s career trajectories and associated income. It utterly fails for PhDs and MDs (until maybe age 40 or so) and is likewise lousy for anyone pursuing a 2- or 3-y degree or anyone right out of college.

@honeybee: These aren’t personal attacks on J.D., but since this is a finance blog, it seems appropriate to criticize any promulgated advice.

C Spicer
C Spicer

I have a negative net worth currently, due to student loans and one credit card but its so great seeing the number move up in quicken each time we make a debt payment or move money to savings…last week we went from being in the -18000.00 range into the -17000.00 range and it felt good! Seeing the progress of all this hardwork is awesome. This was well into the 20s last year…….i feel like anyone in their 20s that has no debt, and a very signifigant emergency fund is well on their way to seeing a large networth in their… Read more »

Kevin M
Kevin M

I have a couple benchmarks/long-term goals for my 40s (or before I turn 50, I’m 35 now):

1) pay off our mortgage
2) cover 1/2 our living expenses with investment income

The amount of freedom those 2 goals would give our family are truly exciting to think about.

retirebyforty
retirebyforty

I like the millionaire next door benchmark. I’m doing ok, not quite a PAW though.
My milestones
– graduate college
– no consumer debt
– six figure income
– million dollars net worth
– two million net worth. 🙂
Plenty of work to do yet.

Adam
Adam

“Yes, there are exceptions. No, the benchmark isn’t perfect. But that’s why it’s a benchmark. Personally, I prefer a flawed benchmark to the constant refrain of “well, it depends”.

How about a benchmark that at least ATTEMPTS to take into account fluctuations in earnings by using an average salary instead of current salary? Or takes into account that people don’t start accumulating wealth until they graduate from school? Every benchmark will have it’s flaws if you apply it to everyone but surely no benchmark is better than one that is inherently ignorant of basic realities that apply to everyone.

ib12541
ib12541

The way I read the formula it should be
(age*pretax income)/10 = net worth.

The article’s example showed
pretax income * (age/10) = net worth.

You should get the same result though.

Tyler Karaszewski
Tyler Karaszewski

I would guess that 90% of the American public comes in well below “average” based on this formula, which means that it’s not even close to being accurate. The formula’s based on nothing at all. I could spend ten minutes and come up with a more accurate formula than this one, and that wouldn’t mean it’s a useful benchmark for anyone. Unless the author’s actually done a real study where he calculated net worth vs. salary/age for a large, representative sample of the population and plotted this formula as a line-of-best-fit (I guess surface-of-best-fit since there are two independent variables)… Read more »

J.D. Roth
J.D. Roth

No worries, folks. I don’t take any of your comments as attacking me. Besides, I agree with most of the comments. The formula I shared here is interesting, and I like it, but it’s flawed. Originally I had a long section in my post about how forumlas like this have problems because they’re like the Body Mass Index. For those who don’t know, the BMI is the ratio of your body weight to your height. It’s supposed to indicate how healthy you are. For the most part, the BMI does a good job of giving you a barometer of your… Read more »

chris
chris

I think it’s a good benchmark especially if you are past your 20’s. If you don’t think it takes into account recent changes in salary or some natuaral variability in your salary use a five year average not just this year. I first read The Millionaire Next Door in my mid twenties when I had a negative net worth (big student loan balance) and a small salary. I didn’t find it depressing, but it did point out the fact to me that I needed to stop spending all of my take home pay if I ever thought I was going… Read more »

WM
WM

As a young person who’s earnings have increased a lot over the past 3 years since graduating university I find the millionaire next door equation to be a little hard to swallow. My gross income increased substantially this year as I took the next step in my career (and of course I increased my savings as well) but this number tells me that I should have more than 3 times my current gross salary saved…which is actually more money than I’ve even made (net) in the past three years since graduating university! My thought is that a good rule of… Read more »

john
john

There should be an exponent in the formula. As written, networth is linear with age and salary. Compounding value in investments requires an exponent.

The linear formula will over-estimate for the young and under-estimate for the older. This seems to mesh with the comments.

Katelyn
Katelyn

I think that the equation should take two things into account: (1) How long have you actually worked? and (2) What is the average wage you earned for that period of time? These two factors eliminate the rapid pay increase issues, and the “I just graduated from college” issues previously stated in the comments. Really what the equation is trying to do is give you a quick and dirty estimate of what your savings should be assuming you saved 10% of you income. There are all sorts of ways to fiddle with the equation to make it more accurate for… Read more »

SophieW
SophieW

I’m reading ‘Millionaire’ right now and I find it makes a lot of suppositions…

My first year working I earned $20,000 when I was 20. According to their formula I should have had $40,000 saved by then! Absurd lol

The problem is the formula is too simplistic. their attempt to keep it from being daunting is it’s biggest downfall. Just as the age quotient is on a sliding scale, the salary needs to be adjusted for as well.

The Other Brian
The Other Brian

Seems to me a lot of people have the “Old JD” mindset when it comes to this formula: It says I’m not doing well so, therefore, the formula is flawed.

Instead of justifying why the formula is bad, why don’t you view it as a goal to work towards. If you have read the book, you will see the formula is actually based on REAL millionaires, not opinions by finance journalist who are most likely poor.

Bin
Bin

I agree with Jan’s observation. But, would like to define

Net worth = (age-25) / 5 * income

assuming you start earning at 20’s. You will have study loans and other liabilities when you start earning and it may take 3-5 years to have a real zero net worth. You start accumulating after that.

This equation matches the above 2 equations at 50 and infact crosses them beyond 50.

bethh
bethh

I’m not sure I’m clear on the difference between a benchmark and a rule of thumb – maybe that a benchmark has some hard numbers attached to it? I read an article in the New York Times sometime between 2002 and 2006 that said that at age 40, a person should have 2x their salary in retirement savings. If you can achieve that goal (according to this article), you’re in good shape. I certainly noted that and made it a goal. I’ve got under a year to go and am not going to make it (mostly because I got a… Read more »

HollyP
HollyP

JD, that absolutely makes sense.

The board of my company has a dashboard that provides a snapshot of where the company is at any given time. The dashboard is just that, a dashboard, that assesses the company’s performance in a number of areas that the board believes is key to our success. It looks at more than just profit.

A person seekign to assess their achievement towards a goal or goals would want to do the same thing. Mine might include net worth, debt, health, and some item that would be a surrogate measure for family happiness.

bob
bob

This benchmark helps those starting out get an idea of where they could be in 20 – 30 years. Play with the numbers a little, do some “what ifs” and see what CAN happen. I am 57 and have reached MND status. I can verify that spending less than you make is the key. I had student loans, 2 divorces, and a spouse who battled cancer for 7 years before passing. I basically did little to no saving in my 20s, but since then have always lived on less than I earn. When what I earned wasn’t enough during some… Read more »

KarenJ
KarenJ

I like the idea of benchmarks because it gives you something to shoot for, but the formula doesn’t take into account life events like job loss or divorce, which can set you back from being where you should at certain life stages. Also, my daughter, who will be 24 soon, is working as a medical assistant and going to school part-time on her way to becoming a doctor. She barely makes enough to pay rent and buy food let alone have any savings. It’s likely she won’t begin accomplishing certain financial goals until her 30’s.

Walter
Walter

The equation is probably a good one. However, it’s probably not applicable to anyone who has been in the workforce for less than ten years. That’s not necessarily a flaw in the equation or the theory. Rather, a qualifier or minimum age parameter needs to be expressed to make the equation and the theory more effective. Remember: even the social security income projection changes from year to year based on your salary and the assumption that your income will remain steady. This equation likewise is a projection, not of where you will be but where you should be in terms… Read more »

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