Why You Should Save 10% of What You Earn
Originally published at www.thestreet.com on June 4, 2016
Recently I had a lunch meeting with a potential client who was demanding double digit returns in order to win his business. As we reviewed his goals and areas of interest, we came to the point where he shared how much he had to invest. He had about $13,500. I was dumbstruck! Here was a man in his late 40s making over $100,000 in household income for over a decade, and he had very little to show for it.
As we spoke further, it became obvious that he was not saving much money and was only concerned about maintaining his lifestyle. His thinking was that he could make up for his lack of discipline by getting a bigger return. Bigger returns typically require greater risk. How does that sound for a strategy to get ahead?
You must figure out a way to consistently save 10% or more of your income, or you will struggle for money throughout your life and during retirement. We are already seeing this as truth in America. A recent report on Bankrate showed that 50% of working Americans save around 5% of their income while 20% save nothing. Deciding what percentage of your income you will save each month gives you control over your future and the jobs you are willing to work.
There is a book called The Richest Man in Babylon I read every year to remind myself that a portion of all I earn is mine to keep. Nearly every millionaire I met before age 25 recommended this book. It helped shape my personal habit of saving 10% of all I earn. If you have not read it, buy it today. Although there are many reasons for saving 10% or more of your income, I want to share three of the most important.
Freedom money
Too many times we get stuck in bad jobs, don’t have the capital to start a business or get hammered by life’s challenges, because we aren’t prepared financially. We don’t have freedom money. Most Americans are living paycheck to paycheck, praying nothing goes wrong instead of preparing for it.
“The simple answer to Americans money problem is they need to be saving more”, says Bill Grigorieff, president of The Wealth Planning Group. “If you are saving nothing, you can start saving 5%, then save more as you rein in your spending and increase your income. Ideally, you want to be saving 10% or more.”
By saving 10% in ten years, you will guaranteed have a years worth of money in the bank. This is freedom money. Imagine the peace of mind that comes from knowing you have a year of money in the bank.
What you save matters most for most of your life
America has become a consuming nation. We are no longer the frugal savers who lived through the Great Depression. We want stuff and we want it now! Additionally, most Americans are hung up on rate of return and forgot that what they contribute matters significantly. Rate of return is important, but it is secondary to what you can put aside.
“I believe it is more important for a family to save money, even at near zero interest rates, than to chase rate of return and risk losing their money,” Grigorieff continues. “The habit of saving money coupled with educated investing is the key.”
The median household income in America is $53, 657. Saving 10% would give you $5,365. At a conservative 5% return rate, you would need a nest egg of $107,300 for you to get the same $5,365. For the majority of your life, you will be able to contribute more than your investments can passively earn. Eventually your passive income could outperform your personal contribution but only if you consistently build up your nest egg.
History shows that when the economy is doing well, Americans save less money. When the economy is doing poorly, they suddenly remember that they should be saving more. Imagine how much more wealth most would have if they would consistently set 10% or more aside. You are worth at least 10% of the money you work so hard to earn, right?
Make your money work for you
Once you develop the habit of saving a portion of all you earn, you can put it to work. Then you can capture the power of compounding interest or cash flow investments.
“Even if you can’t save 10%, take a little out of each pay check and set it aside,” says Pete Wittman from The Wittman Group. “Have it transferred automatically on payday if you lack the personal discipline. It’s difficult to become an investor without first becoming a saver. By saving at least 10% of your income regularly, you can become an investor sooner and have your money begin working for you.”
There are four basic areas of investment — paper assets, real estate, commodities and a business. You should become familiar and educated on all four areas and then commit to becoming an expert in the one that best fits your goals.
There are a million ways to put your money to work for you, but you must have the money or rate of return matters very little. Do as much as you can and then wisely put your nest egg to work.
Saving 10% or more will give you the capital you need to start investing in yourself, a future business or an area of the American economy. I do not believe you can become wealthy by saving your way there. You must eventually invest, but your first step is to control your cashflow and stock pile as much as you can from your work efforts.
The best advice is to plan for the future as if everything depended upon your saving efforts. Then let your money go to work and add to your nest egg.
Originally published at www.thestreet.com on June 4, 2016.