Worried about making sure you stretch each dollar as far as possible and wondering how much you should be saving? You aren’t alone. “How much should I save?” is a question we get all the time from readers. And unfortunately, the answer isn’t as simple as a single percentage or dollar amount.
How much you should save depends on where you put your savings and your goals for retirement. With that in mind, let’s break down the what, how, and why behind how much you should save.
How Much Should You Save Each Month?
This number varies depending on where you look. But, most sources say you should save at least 15% and ideally 20% of your monthly income.
If you started saving late or are looking to retire early, you should probably aim for the upper end of that range. Or, you could always choose to save more than 20 percent if you can afford to do so.
However, it’s important to choose a savings amount that won’t sacrifice having a sustainable budget. A 15% savings rate that lasts for several years will always be more beneficial to you than a 30% savings rate that lasts two months.
One possible method to use for saving is the 50/30/20 budgeting method. This involves breaking down your expenses into three categories: “needs,” “wants,” and “savings & debt repayment.” Then, put 50% of your monthly income towards needs, covering fixed expenses such as rent, groceries, and utilities.
30% goes towards your wants, which are variable expenses that can be anything from dining out to saving up for vacations to going clothes shopping.
The last 20% is for savings and debt repayment, including any investments you may have, increasing your emergency savings, paying off credit cards or student loans, etc.
The upside to this strategy is that each budget category is more flexible and doesn’t necessitate as much planning each month.
However, one negative of this strategy is that it can be harder for some people to stick to since it doesn’t offer a strict, designated plan for every dollar of income. Also, sometimes 20% isn’t enough to make meaningful progress on getting out of debt.
But there are a ton of ways to make a budget that works. Choose the one that works best for you.
Where Should You Put The Money You Save?
There’s no one-size-fits-all best place to put your money, but here are a few good options:
Using A High-Yield Savings Account
A high-yield savings account is a savings account that offers a high-interest rate. It’s that simple.
Online-only banks typically offer high-yield savings accounts like CIT Bank. These online-only banks use the money they save from not having to have local physical branches to offer interest rates that may be as high as 200+ times greater than what a typical traditional bank can offer.
These interest rates can be as high as around 2.2% APY, so it’s definitely worth shopping around to find the best rates.
Note that these rates fluctuate with current economic conditions, so better conditions will mean higher rates and vice versa.
As another plus, high-yield savings accounts are no riskier than traditional banks. This is great if you’re looking for an especially safe place to park your savings and let them grow.
The two cons with high-yield savings accounts are the lack of in-person assistance and a monthly withdrawal limit. If you withdraw from a high-yield savings account more than six times per month, you could face fees and penalties.
High-yield savings accounts will overall be best for someone who doesn’t plan on making several withdrawals but still wants a lot of safety and flexibility. If you’re looking for a place to store your savings, you should seriously consider a high-yield savings account.
Using A CD To Save
Now, let’s talk about certificates of deposit (CDs).
CDs are different from savings accounts in that the institution holds your deposit until maturity, at which point you can withdraw your money with its accrued interest.
While CDs tend to pay more than high-yield savings accounts, you cannot easily access the money you’ve placed into the CD until the end of its lifetime.
Upon signing the contract for a certificate of deposit and depositing a certain sum of money, called the principal, the interest rate (APY) is locked for the time in which you leave the money with the bank, called the term length.
The term length varies a lot, but it usually is either three months to five years long. If you try to withdraw your money anytime during the lifetime of the CD before the end of its term length, you will likely face early withdrawal penalties.
In terms of safety, CDs are just as safe as bank accounts.
Both are FDIC-insured up to $250,000, meaning that if the bank you made the CD with suddenly fails, the government will make sure you get all of your money back, up to $250,000.
So, should you save with a CD? While you are unable to touch your money for some time, generally speaking, CDs offer higher returns on your money than savings accounts and high-yield savings accounts.
It ultimately becomes a balance between how accessible your savings are and how much you can earn in interest.
If your financial situation is currently very unstable and you might need your savings in the next few months, CDs probably aren’t for you.
But, if you don’t think you’ll immediately need your savings and are financially stable, CDs are a great way to save.
Using 401(k)s and IRAs To Save
Using tax-advantaged accounts like 401(k)s and IRAs can make a tremendous difference in how much money you end up with when you retire.
To keep it simple, tax-advantaged (or tax-favored) basically means that the government will allow you to pay fewer taxes if you invest using this plan compared to making the same investments outside of a tax-favored account.
The way this works for 401(k)s is your contributions are tax-deductible. This means that money is not taxed when you put in your 401k.
You will end up paying tax when you finally take the money out, but it’ll be less than if you initially paid income tax, invested it, and then paid capital gains tax.
The most significant aspect of 401(k)s to be aware of is the potential for an employer match. Some employers will match the amount that you put in, which increases the amount of money going into the account each time!
This is usually done at a one-half to one percentage point ratio, up to a certain cap.
In plain English, this means if your employer caps their contributions at 3%, you could contribute 6% of your own money and get the full 3% match.
The same taxation process applies to Traditional IRAs, which are also made with pre-tax dollars. Roth IRAs, on the other hand, use after-tax dollars. But, in exchange, Roth IRAs can be withdrawn tax-free after age 59 ½.
Additionally, you can withdraw your contributions (ONLY the total you contributed, NOT any of the investment gains) at any time, tax and penalty-free!
This is a game-changer because your money isn’t necessarily trapped until you retire. Ideally, you won’t touch it until retirement, but it’s nice to know you can access it, penalty-free, in case of an emergency.
A Few Caveats
Unfortunately, there is a limit on how much you can contribute to your IRA each year. Currently, that cap is $6,000. So, it’s important to start soon and spread that saving over several years to avoid having this become a huge pain.
Also, you can’t contribute to an IRA if your individual AGI is over $139,000 or you and your spouse’s joint AGI is over $206,000.
There’s also a limit on how much you can contribute to a 401k. Currently, that amount is $19,500.
Why Are You Saving?
Fundamentally, you’re saving to support yourself financially without working and still do the things you want to do. This is the idea behind financial independence.
But, to achieve this, you need to save up a lot of money. Since you have to consider your regular living expenses and potential emergencies, health bills, etc., you’ll want a healthy cushion of funds.
How Much Should You Save For Retirement?
So, let’s say you decide today that you want to retire in thirty years. How much money should you save for retirement, assuming you want to maintain a similar living situation to your current one?
First, a quick rule of thumb for how much you should save for retirement is that you’ll need 25x your annual retirement expenses.
This means that if you spend $30,000 a year on housing, food, car payments, health care, child support, etc., you’ll want at least $750,000.
The 25x rule says that if you save 25x your annual expenses in retirement and have a 4% annual withdrawal, this should last you at least 30 years (barring any economic catastrophes in the early years of your retirement).
For example, if you are going to spend $60K per year during your retirement, your retirement savings goal should be $1.5 million. This is because $60K x 25 = $1.5 million.
If you plan to have a longer retirement, then you should save more. If you plan to have a shorter retirement, you can save less.
We have a free and easy to use retirement calculator that you can use to calculate an estimate for your own financial situation.
One note is that the 25x rule isn’t perfect. There is never absolute predictability when it comes to the future. But, as a way to give you an idea of exactly how much you should save, it’s a useful starting point.
How Can I Save That Much Money?
Such a large number can feel very overwhelming to people. One of the most powerful ways to work towards this goal and grow your money is to learn how to invest.
There are a ton of different tools available and ways to invest, everything from robo-advisors like M1 Finance and Betterment to online real estate brokers like Fundrise, to sites with over-the-phone financial planners like Facet Wealth and Personal Capital.
There’s no short answer to the best way to invest. But, here’s our guide on how to start investing so that you can make an informed decision about what method of investing is right for you.
How Should You Define Successful Saving?
This question comes up a lot from people who are new to saving. Sometimes, saving 20%, or even 15% isn’t possible at the moment.
So, beyond a specific percentage, how should you define successful saving? The short answer is growth.
Let’s say 20% is currently too much for you right now. In that case, start with an amount that’s more realistic for you. It doesn’t matter if that’s 2% or 15%, what matters is that you pick a place to start and commit to moving towards that 20% mark over time.
Now, what happens when you start saving 20%? Are you done with saving and making adjustments forever? No.
A higher savings rate can never really hurt. Worst case scenario, you simply have a bit more security knowing that your emergency fund can handle whatever disasters life throws at you.
If you happen to be at a 20% savings rate and find an opportunity to increase it further, this might translate into an earlier retirement. When you start thinking about savings in terms of added years of leisure, it becomes a lot more valuable.
Now, you might be thinking, “Well, if I still try to aim higher once I get to 20%, why is that specific number so important in the first place?”
We choose the 20% goal because it’s the recommended amount you should save to support yourself in old age. If you’re consistently below that, the consequences are much harsher than if you go slightly over.
Not having enough money to support yourself forces you to continue working. Very few people want to continue working 9-5 at 80 years old. That’s why saving the recommended 20% is so important.
To easily track how much you are saving, you can use an app like Mint to track everything.
You can do it!
As a general rule, you should save at least 15% of your after-tax pay and, ideally, 20%. This is based on how much it usually costs to retire and the amount of time needed to save that much.
If you use the 50/30/20 budgeting system, you should save 20 percentage of your after-tax pay. The 30 percent goes towards “wants,” and the remaining 50 percentage points go towards “needs.”
Lucas is a personal finance expert, an undergraduate student at Harvard University and the founder of the Personal Finance and Consulting Group at Harvard College (an officially recognized student organization). He has spent much of his life working to increase financial literacy in his surrounding communities through independent financial research and curricula design, and he is currently studying economics with a secondary in music.