When my oldest son walked across the stage at his college graduation, my wife got all emotional.
A month later, when he called home and announced, “Dad, I got a job!” I was the one who got emotional.
Here’s the advice I gave him as we discussed what to do with his paycheck. (Note: It’s the same speech I’d been giving him for 20+ years, so he was incredibly polite to listen to me as though I were saying it for the first time.)
All money gets spent by someone, somewhere, sometime. Therefore, a great reason to save money is because you believe there will come a day when you will need “extra money” on hand to spend.
The simple fact is that anything you can’t afford to buy out of this month’s paycheck is something you’ll either (a) use savings to purchase, or (b) use debt to purchase. Unless you rob a bank (not recommended) or get an unexpected windfall from Grandma (don’t hold your breath), savings and/or debt are your only two sources for the “extra money” you’ll need for large purchases.
Today’s column isn’t about the woes of debt. I assume you know it’s better to use your own money (and not consumer debt) to purchase consumable items.
Today, the focus is saving—steadily accumulating a supply of money so that when you need to make a purchase later, you have the funds available, and you won’t have to go into debt.
There are two questions everyone asks about saving:
- How much should I save?
I urge families to save 15% of their gross income. After they pick themselves off the floor, mumbling about how “impossible” that is, we set out together to find money in their budget to save.
If you’re single and starting out, you may more disposable income (as a percent of your salary) than you will after you marry and have kids. I encourage you to save even more aggressively—maybe 30% to 50% of your income. Whatever that number ends up being, you will never regret stockpiling money in your younger years. Start with at least 15%.
- What should I save for?
First, create an emergency fund (i.e., six months of monthly living expenses).
Second, if you plan to purchase a home, save for the down payment. This is often 20% of the total purchase price of the home, meaning, if you plan to buy a $300,000 home, you’ll need $60,000.
Third, save for your next vehicle. If you are already making car payments, you may wish to accelerate the payoff, depending on the terms. But make it your goal to never have another car payment. If you are able to save enough money to pay cash for your next car, treat that like a loan. Repay your savings account—like you would a finance company—over five or six years, at the going interest rate (more than 9% these days). With this “self-financing” strategy, you’ll perpetually re-stock your savings account with more than enough money to fund your next car purchase.
Fourth, save for medical costs. If you have a high deductible medical plan, make use of a health savings account (HSA). Even if HSAs are not available to you, you can open a regular bank account and put money for future medical costs, when they arise.
Saving isn’t especially sexy, stylish, or something to brag about to your friends.
It’s just what smart people do with their money “now,” and what not-so-smart people wish they’d done “then.”
Be smart. Get in the saving habit.
Another thing smart people do? They don’t wait until they quit working to figure out how to turn their retirement “nest egg” into regular retirement income. One way to find the plan that’s best for you is to take the RISA (Retirement Income Style Awareness) questionnaire. This quick little quiz is free to readers of this column, and available here.
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