To be successful at saving you need to foster a consistent habit. That’s where setting savings goals can help. You may have a specific want, but you also need savings for long term items. Many experts agree that the ideal amount to put away for savings is 20% of your income.
This figure comes from the 50/30/20 plan taught by Elizabeth Warren at Harvard Law School. It means that you should spend no more than 50% of your income on mandatory items, 30% on discretionary spending, and 20% on savings. This includes all types of savings. The types can be broken into 3 categories: Emergencies, Short/Mid-term Goals, and Retirement.
- Emergencies – The first thing you should focus on if you’re new to saving is emergencies. At some point, something unexpected is going to happen and it will take money to resolve it. It’s best to have a cushion of 3-9 month’s expenses saved in an emergency fund before you tackle other savings. Think about keeping your emergency fund in a separate account. A Money Market Account is a great place to store emergency funds as the money is available, but you still earn a little interest.
- Short/Mid-term Goals – Once you have your emergency fund in place, you can start thinking about other goals you would like to save for. Do you need to pay down debt? Would you like to take a family vacation? Buy a car? Expand the house or renovate the kitchen? Write down your goals and get quotes to determine how much you will need. Determine a timeline for your goal and divide the total needed by the time period in which you will need the funds. If that number doesn’t work for your budget, you may have to adjust your goals a bit. Think about lengthening the timeline, scaling back costs or living a bit more frugally in the meantime.
- A note about debt repayment. You may be wondering which category this should fall under. The minimum payments are necessary monthly expenses. Factor those into the 50% as mandatory items. Any additional payments you want to make to pay down balances count as Short/Mid-term Goals and part of your 20% savings.
- Retirement – This is where it gets a little bit trickier. Financial advisors have done a lot of math to come up the recommendations for ideal retirement savings. A soft number for this is 15% of your income. This includes your contributions and any employer matches. But it really depends on when you started saving and how much time you have left. The longer you have until you retire, the more wiggle room you have in your savings, thanks to compound interest. It’s never too late to start, though. Just don’t get overwhelmed. Start small and build up to 15 or 20%. Take any extra money and add it to your retirement account. If a loan ends or you get a raise and you suddenly see extra cash in your account, throw it into your savings fund before you get used to spending it.