Let’s get straight to the point here. Stuff happens! Cars break down, people get sick, and furnaces need replacing. Large unexpected expenses are bound to happen. And there’s one thing you can do to prevent the unexpected from turning your world upside down. You can start to save.
The harsh reality is that most Americans are not saving enough. Nearly two out of three people surveyed wouldn’t be able to cover a $500 emergency without borrowing money. And a third of Americans have nothing saved for retirement.
These are scary statistics. But I know we can do better. I know you can do better because you’re here reading this. And I’m going to help you get started.
Welcome to the third part of my series on building the foundation for financial freedom. The first step showed you how to figure out where is your money going. The second step detailed how to take back control by building a better budget. Which leads to step three, how to save for a rainy day.
Why you need to save!
In my previous post on budgeting, I wrote, “Whether you make $30,000 or $300,000 you need a budget.” And the same is true for savings.
I’ve met high earners who, midcareer, had nothing saved for retirement. I’ve known executives who retired with little more than social security and the roof over their heads. I’ve heard people of all income levels say, when my kids graduate, when I pay off my student loans, when I get a raise … then I’ll save. I’ve also met people who started from nothing and were millionaires by the time they were 40.
No matter how much you earn, things are going to happen in life. Having cash set aside to cover these expenses will do so much more than save you financially. The security you gain from boosting your savings will improve your health, relationships, your workplace, and the world around you.
For most of us, saving isn’t fun. Saying “no” and making sacrifices isn’t easy. And in many crowds, it’s not the most popular thing to do.
When my husband, Jer, and I were on our journey to create financial freedom, we were called selfish, extreme, and everything in between. There were a handful of people cheering us on, but much of the feedback we received was quite negative. I’ve heard similar accounts from other people. But thankfully, Jer and I had each other.
Given that saving isn’t always fun and that it’s not the most popular thing to do, I suggest the first thing you do is find a support buddy. If you’re doing this with your spouse, that’s a great start. You could also get involved with a Facebook group, search for meetups, or start your own support group.Saving is not a sacrifice! It’s a decision to spend on tomorrow, not today. – JD Roth Click To Tweet
It’s good to save.
I really didn’t want to write about how hard it is. But I feel like it’s important to acknowledge this for those of you on the fence or just getting started. I’ve been there and I know how overwhelming it can feel to take back control over any area of your life. Whether it’s your health, your finances, or a new career. Big changes can feel scary.
We found a great thrift shop with one of a kind clothing samples. We learned how to make all of the foods we’d usually go out for, like pizza and sushi. We started a garden, became avid cyclists, and fell in love with the outdoors. We also grew as people and a couple. Our financial journey brought us closer and taught us how to use our strengths to work as a team.
It’s been more than five years since we’ve been completely debt-free and I can truly say that I look back at that period of sacrifice as one of the most fun and rewarding periods of my life. And the increasing peace we felt throughout that journey changed every area of our lives. In my opinion, there’s nothing I could ever buy that would feel as good as financial freedom feels.
Here are some of my other favorite reasons to start saving money.
- You’ll feel less stressed knowing that you can deal with the unexpected without having to borrow money.
- You’ll improve your marriage and family life by having fewer money fights and money problems.
- You’ll enjoy inner peace by never having to compromise your values to make ends meet.
- You’ll have the freedom to explore your interests and new career opportunities leading to a sense of fulfillment.
- You’ll find joy in giving generously and helping others help themselves.
- You’ll build a foundation to ensure you’re taken care of as you age and leave a legacy for your loved ones.
How could building your savings change your life?
What Do You Need to Save For?
None of us have the exact same circumstances in life. Some of us have children, others don’t. Jer and I are married, other people are single and loving it. You may have grown up in a wealthy family or a poor one. Maybe you make a lot of money or just enough. We all have different experiences, beliefs, and desires. I want to encourage you to honor that as you read through this series.
There’s no precise formula for any of this. There are a lot of really great guidelines but all of these choices are opportunities for you to decide what’s right for you. I’ve read dozens of personal finance books and I’ve never found one that I with agreed 100 percent. Approach this series with that in mind.
Throughout these posts, I’ll share what has worked for us. But it might not work for you. Don’t let that be an excuse to not start. Keep learning, experimenting, and find what works for you.
As promised, here are some things you might want to save for.
1 – Emergency Fund
Emergencies happen to all of us. The more prepared you are, the less these unexpected expenses will affect your life. Depending on your personal situation, I recommend having three to six months of expenses saved.
If you completed step one, you know exactly how much your monthly expenses are. This money should be held in a savings or money market account so that it can be accessed quickly in case of an emergency.
For most of us though, we should make sure it’s not so accessible that we use it to buy that cute pair of shoes or a trip to Paris. We keep our emergency fund in a separate bank and have no checks or ATM cards.
How much you need will vary per household. Shoot for a minimum of three months of expenses. The amount you will increase depending on factors such as health, employment status, and income sources. I go more in-depth on emergency funds in this post.
You can save what you need!
Given that two-thirds of us couldn’t cover an emergency over $500, I know that for some of you three months might seem impossible. There was a time it felt impossible for us too. We were very different people then and spent a lot more money. So I want to encourage you to start small.
Take your eye off the big goal of thousands and thousands of dollars for a second. How much could you save this month? Could you save $500? Do you know how much of a difference that $500 would have on your life? Could you do it again next month? Now you have $1000. It’s not three month’s worth of expenses, but this is a big deal.
As you make progress on these small monthly goals, you’ll see other changes with your finances and your life as a whole. You’ll feel more confident and stop spending on things you used to buy to impress others. You’ll find new ways to save. Maybe you’ll finally ask for a raise. You might not see it now, but as you start taking deliberate action, everything will start to snowball.
2 – Retirement Savings
I truly hope that both you and I live long and healthfully enough that someday we’ll be able to slow down and retire, semi-retire, or start a passion project. In addition to good health, we’ll also need savings to make that happen.
I’ve always heard that you should shoot for 10 times your annual income. If you made the national average of around $50,000 per year, your goal would be to save $500,000. If you earned eight percent on your nest egg and withdrew $50,000 annually, that would last you about 20 years.
Other people say the magic number is saving 15 percent of your gross annual income. Using the same $50,000, you would save $7,500 each year. If you started saving at age 40 and planned to retire at age 70, you could amass close to $1 million with an eight percent average rate of return. Estimating that you’ll live 30 years in retirement, earning an average of eight percent, you’d have close to $7000 per month to live off of before taxes.
Like your emergency fund, it’s up to you to determine what level of retirement income you’ll need. Here are a few questions to consider.
What age are you starting?
Let’s say you want to have $1 million by age 60. You estimate that you’ll earn an average return of eight percent and see an average inflation rate of three percent. If you start at age 40, you’ll need to save $1,750 per month to hit your goal.
However, if you began saving at age 20, you would only need to put away $310 monthly. In this scenario, you would save $270,000 and end up with $1 million.
It’s never too late to start. And never too early.
What is your expected rate of return?
In all of these examples, I use eight percent because I believe it’s attainable. It’s also possible that a properly invested portfolio could earn 10 to 12 percent or more. You can learn more about average rates of return here.
What are your fees and expenses?
If you can’t answer this question, you need to figure it out now! Some company’s fees on retirement plans are outrageous.
A number of years ago, Jer’s employer switched retirement plan providers. About a year in, I realized that the fees were eating up all of his earnings. Jer brought this to the attention of the leadership team and not long after, they switched providers.
If you find yourself in a similar situation, I suggest you do the same. If your employer is not willing to change, you need to find another way to save for retirement … or a new employer.
When are you planning to retire?
I don’t know that Jer and I will ever be fully retired. I imagine that we’ll always have something that we’re working on. And we’re not alone. I see a growing trend with retirees doing everything from executive coaching to refurbishing bicycles in their free time.
When you think about your current and future income, consider opportunities outside of traditional employment. Perhaps you’re planning to start a business. Or maybe you’ll have rental properties or book royalties. These streams of income will change how much you need during your golden years.
What if you’re unable to work?
I envision a future where we’ll always have projects we want to work on. That doesn’t mean we’ll always be able to. A lot can happen over the course of our lives. Even if you plan to keep working, it’s smart to have a backup plan.
How do you expect your lifestyle to change during retirement?
Your expenses today might not reflect what they will be in retirement. Many people retire overseas and enjoy lower expenses. Others choose to build their dream homes or travel and see their expenses increase. Think about what you want your life to look like and plan accordingly.
How long do you plan to live?
Assuming I don’t get hit by a car or die in some other tragic accident, I expect to live well into my one-hundreds. Anyone my age and younger who takes care of themselves should expect a long life as well. Technology is changing rapidly and it’s possible we’ll see big changes in life expectancy soon. That’s what we’re planning and preparing for.
Build in Some Margin.
There will be inflation. And all investments that increase in value can lose value just as quickly. We should also expect changes to the tax code and health care throughout the remainder of our lives. No matter how much we prepare and plan, some things are unpredictable and I prefer to be prepared.
Figure Out How Much You Need to Save.
Keeping these questions in mind, run your own scenarios using the calculators below. Income needs during retirement are different for everyone. Only you can determine how much you will need.
3 – Save for Other Large Ticket Items
Since becoming completely debt-free, my husband and I don’t use debt. That means we pay cash for everything including home repairs, remodeling, vehicles, and vacations. I have a post dedicated solely to this topic that you can read here.
What large ticket items will you need to pay for in the next 1 to 5 years?
4 – Children’s College and Education Expenses
This is a doozy of a topic. Should your child take out student loans to go to college? Should they even go to college?
Times are changing. Work is changing. And I feel like this is a deeper discussion than when I was 18 years old. My friend Ashley has a wonderful podcast episode and blog post on the topic. This is a detail-rich post with lots of resources so be sure to bookmark it to come back to.
Don’t Leave Savings on the Table
There are a lot of excellent incentives available for savers. By choosing the right vehicle for your investments, you can maximize your savings. This is by no means a comprehensive list. Here are some of my favorite incentives to save.
This is the one account everyone should start today. It’s something I regret not starting sooner. Here’s why–every dollar you earn in a Roth IRA is tax-free!
Let’s say you were smarter than me and opened one of these up when you were 18. Each year you contributed the max, which was $5500 per individual when I originally published this post. You add $5500 per year and average an eight percent rate of return. At age 68 you’d have over $3.4 million. And all the earnings are tax-free!!!
There are two benefits to an employer-sponsored 401k. First, most employers match a certain percentage of the employee’s contribution. So if your employer matches up to $2500, you should contribute whatever it takes to get that $2500 of free money.
Additionally, 401k contributions are deducted pre-tax. This lowers your AGI (Adjusted Gross Income) and potentially, your tax rate.
Like the 401k, HSAs (Health Savings Accounts) are also deducted pre-tax, lowering your AGI and potential tax rate. There are no usage requirements and you also have the option to invest your savings in mutual funds.
529 College Savings Plan
If you are planning to help fund your child’s college, you can’t ignore this. Like the Roth IRA, your money grows tax-free.
Savers Tax Credit
When I wrote this, a Savers Tax Credit was available to households with AGIs less than $62,000. If you fall into this category, check with your tax professional on how to take full advantage of this tax credit.
Make Savings Happen
For most people, this is the most difficult part. Most of us understand the basics of what we need to do. But actually doing it requires discipline and the stick-to-it-iveness to play the long game. Make it happen by following these tips.
One of the most common reasons people aren’t saving for retirement is because they think they have time. But as I showed you earlier, compound interest favors the young.
If you saved $1,000 per month from age 40 to 60 at an eight percent rate of return, you would have close to $600,000. However, if you saved that same $1,000 per month from age 20 to 40, then stopped adding and continued to earn eight percent, you could have close to $3,000,000. The same amount invested with a far greater return.
Review Your Budget to Find Places to Save
Even the leanest of budgets can likely find something to cut. What are you willing to sacrifice for more peace and freedom in your life? Could you stop eating out, cut impulse purchases, or start shopping garage sales and thrift stores?
Cutting your spending is one of the quickest ways to increase your savings rate.
Increase Your Income
The more you make, the more you can save. You could consider getting a new job that pays better or you could start your own side business. You could likely drum up a few thousand dollars selling all that stuff you don’t use that’s collecting dust in your basement. Get creative and give your savings an extra boost by increasing your income.
Pay Yourself First
I talked about this in part two. After your basic needs are met, allocate whatever you can to pay yourself first. You work hard and deserve to reap the rewards of a secure financial future.
Automate Your Savings
It’s a lot easier to save money when you don’t see it. This is the beauty of 401k plans. The money comes out automatically and you never see it or have a chance to spend it.
You can do the same thing on your own by setting up automatic transfers each pay period. This is a great way to set aside money for your Roth IRA, your kid’s college, or a new car.
Know Your Why
If you don’t have a good reason for doing this, you probably won’t be that successful. Get to know the real soulful reason you’re working toward financial freedom. Then find creative ways to keep your why top of mind.
Start and Save Small
If you’re new to the idea of financial freedom, this might feel overwhelming to you. You don’t have to do everything at once. We certainly didn’t.
I included all these ideas to accommodate readers who are in different stages of their journey to freedom. Give yourself permission to pick one thing and focus on that. If you don’t have an emergency fund, start there. Once you have three months of expenses set aside, start saving money to fund a Roth IRA.
Applying intense focus to one thing at a time will change your financial future over the course of a few short years.
There you have it. Everything you need to know to get started saving in one blog post. Again, I know it’s a lot of information so I encourage you to start where you are and pick one thing. This post will still be here when you’re ready for the next. You got this!
Ready to change your financial future?
Check out the rest of the series to learn everything you need to know to go from just getting by to financial abundance.
Step One – Figure Out Where Your Money Is Going
Step Two – Create a Budget That Works For You
Step Three – Save For Financial Freedom
Step Four – Ditch Your Debt
Step Five – Build Wealth on Any Income
Step Six – Achieve Your Goals As A Couple
Editor’s Note: This post was originally published in June of 2017. It has been completely revamped for accuracy, comprehensiveness, and readability. Please enjoy and feel free to share this newly revised content.