Newbie here, How do I calculate percentage amount to save?

[Helen Fradette]

Hello, I'm in the stage of figuring out where my money is going. When I hear people say, "Live off 50% of your income, invest/save the rest" how would I calculate that amount? I know the difference between GROSS and NET, but my NET income has a deduction of contributions to my employer IRA fund so I think I'd add that back into the NET amount, right? I calculated that 33% of my gross is being pulled off the top for taxes and insurance. So, if I work with the 67% amount and take 50% of the 67% = my savings goal?

[Bjorn Ahlblad]

@Helen Fradette good for you to be taking initiative! The IRA is already 'savings' as you pointed out so put that amount into the savings column.There is no point in having a goal that is unrealistic. 50 will work for some, for others it is 40%, obviously more is better. By thinking this way you are way ahead of the pack already. All the best!

[Denver McClure]

Hi @Helen Fradette, Your savings rate will depend on your NET income, expenses, goals, and investment horizon. There is no such number that is perfect for everyone such as "live off 50% of your income" or "invest 20% in your retirement accounts" etc. Focus first on your Net Income minus expenses, and determine what % of your income goes out the door every month. If it's 40%, can you make it 35%? Starting here will help you budget and track your finances better to optimize your savings/investment rate.

Next, consider what your goals and investment horizon are. Do you want to retire early in 10 years, buy a rental property within 6 months, start a business in the next 5 years, save for a child's education expenses? Once you lock in your goals and timeline, you can determine where to stash the remaining % of your income that does not go to expenses. You'll want a healthy emergency fund in cash (I usually recommend 3-6 months of expenses) before you begin investing. Then lock in how much % of your remaining income will max out your Roth IRA, HSA, or employer sponsored retirement plan. Any employer match or pre-tax contribution % should be added in to determine your total allocation to retirement funds. Your goal % to allocate to retirement funds can be calculated using financial planning software, or by determining what your future expenses may be after you retire and are able to withdraw funds from these accounts.

For the remainder of your income not used in expenses, emergency fund, or retirement accounts, you'll want to invest within an individual or joint (if married) taxable account. Consider this as an early retirement/opportunity account to invest your cash in while waiting for your retirement accounts to allow penalty free withdrawals. These accounts can allow you to invest and grow your net wealth in the short term. I have clients that use taxable accounts to primarily acquire rental properties or complete flips so they won't need to hold onto so much cash (which is getting crushed by inflation). This account could be a great landing spot for any excess cash to grow in the meantime while you ponder your future goals. Investments can be sold (taxable event) and flipped to a retirement account or college fund to help jump start more tax efficient savings. You may even have access to a Margin Loan (speak to your brokerage or Investment Advisor first) which will allow you to borrow against your portfolio at low interest rates to obtain cash (without selling your investments) for a home remodel, rental property down payment, paying of high interest debt, etc. 

[Bill Gulley]

Quote from @Helen Fradette:

Hello, I'm in the stage of figuring out where my money is going. When I hear people say, "Live off 50% of your income, invest/save the rest" how would I calculate that amount? I know the difference between GROSS and NET, but my NET income has a deduction of contributions to my employer IRA fund so I think I'd add that back into the NET amount, right? I calculated that 33% of my gross is being pulled off the top for taxes and insurance. So, if I work with the 67% amount and take 50% of the 67% = my savings goal?

 Use the Japanese method, save it all then only spend what you must, much easier! 

[William Joel Idleman]

Helen, I pay for financial planning software and offer it for free to anyone on this forum.  Please get the word out.  I pay the same rate no matter how many people use it!  I've sent you a message.  I can walk you through it over the phone if you need help.  It'll help you set goals, time horizons, and tell you down to the dollar how much you should save or invest every month.

[Peter Shutt]

@Helen Fradette Hi Helen, I wouldn't worry about a specific percentage for now. I would worry about your specific savings goals. Your savings rate only determines the speed at which you arrive at your goals. Your goals should have a timeline, so once that is identified, it becomes a simple math problem to determine how much you should be saving every month/year. 

Hope it helps!

[Paul Vail]

Helen, you can also make use of tools like the free PersonalCapital.com website and app.  You don't need to buy into their advice services.

You mentioned insurance comes out of your paystub.   Health insurance?   One of the things many people don't consider is that they, by default, buy too much health insurance.   The whole medical/insurance industrial complex is predicated on selling fear as well as unnecessary services.   Many folks can get as much or more out of a HDHP (high deductable health plan) that would qualify them for a HSA account.   Many HSA account providers offer not only savings accounts, but investment accounts (Old National Bank and HSAbank are but two).   An HDHP with an HSA has a handful of great benefits:  you still get healthcare, 'though with the high deductible you may pay a bit more initially for a year's worth of routine work out of pocket.  That little bit more out of pocket is offset by much more affordable premiums out of your pay.  Qualifying HDHP that permit an HSA now let you open and fund the HSA with fully 100% tax deductible contributions (check the IRS rules for max limits any given year).    HSA earnings are fully tax-free for life (like how Roths operate).   HSA contributions and earnings may be used for qualified medical, dental, optical, and mental health expenses - oh, and medicare premiums.  HSA accounts may have non-qualified withdrawals after the age of 65 for anything, treated as only ordinary taxable income.  HSA contributions and earnings are yours for life - even passable your heirs (this is NOT a FSA account).  

[Matthew Cervoni]

Quote from @Helen Fradette:

Hello, I'm in the stage of figuring out where my money is going. When I hear people say, "Live off 50% of your income, invest/save the rest" how would I calculate that amount? I know the difference between GROSS and NET, but my NET income has a deduction of contributions to my employer IRA fund so I think I'd add that back into the NET amount, right? I calculated that 33% of my gross is being pulled off the top for taxes and insurance. So, if I work with the 67% amount and take 50% of the 67% = my savings goal?

 Great question! I think it depends on the individual's circumstances but I have always "paid myself first." What I mean by that is before I do anything, I set aside what I need to achieve my savings goal first. That could mean investing in stocks, saving up for a downpayment on a property, or cash reserves. Then I build my lifestyle based on whatever is left. 

The NET amount makes the most sense if you are a W2 employee, since you'll have withholdings taken out of each paycheck plus benefits like the IRA you mentioned. I would worry less about percentage and more about the monthly savings that will get you to your goals.

Begin with the end in mind, and work backwards from there!