Editor’s note: This article was first published in June 2018, and its remarks about saving being a utopia for many reflect the Spanish crisis years; its savings account tip depends on the interest rates of the time.
It seems obvious that the ideal percentage of our income to save would be “the more, the better”. Even so, it’s good to set an exact minimum percentage so we don’t fall into the “I can’t this month; next month I’ll put away twice as much” trap. We should start by knowing a few facts, for example:
How much money you need to save if you’re 25 and want to retire with 1 million euros, and how much you need to save each month if you’re over 40 and want to make 1 million in the coming years.
If there’s one thing we know, it’s that to retire at 65 with 1 million euros you’d have to save 499 euros a month if you’re 25. Of course, that varies depending on the return you expect to get. Take a look at the following article, where we showed some tables.
See also: How much money you need to save to retire with 1 million euros
How much do I have to save each month to keep my finances healthy?
Any expert in financial education would tell us that we should save a minimum of 20% of our income every month, and ideally more than 30%.
If we set that minimum percentage and force ourselves to save it, our own psychology will keep us from some unnecessary spending over the month.
What should we save in a month when our income multiplies?
The answer is simple: we shouldn’t spend more just because we can afford to that month. Quite the opposite: we should raise our savings rate or put all the extra money we’ve received into our savings account.
See also: Pay off debt or save and invest when extra money comes in?
Why do this?
Because we have to be frugal when we can afford to spend (voluntary austerity). That saves us from having to be frugal out of necessity later on (forced austerity).
We start from the assumption that, for many people, being able to save today is a pipe dream, since they can barely keep up with the debts they already have. Even so, they can always turn to some of our tips for getting your personal finances back in shape.
Likewise, we understand that this percentage is meant for low incomes, since people tend to think that middle and high earners can spend more because they earn more. That way of thinking is exactly what has turned many former middle and high earners into today’s “indebted earners”.
First, we need to save each month for what’s called an emergency fund
This fund should be kept in a liquid account and used only in extreme situations, such as losing your job or emergencies of any kind.
It should be an amount of money that would let us get by for 3 to 6 months if we received no income at all during that time. People who have money invested sometimes have to withdraw it to deal with the unexpected; this fund would spare us that decision, because cashing in an investment can mean a penalty (in the case of fixed income) or selling at a loss (in the case of equities).
To build the emergency fund faster, we can turn to the old saving tricks, which can also help us raise the amount we save:
How can we save more each month?
- Open an interest-bearing savings account.
- Empty your loose change and small coins into a jar every night.
- Keep an eye on discount coupons for everyday essentials.
- Cut down on or give up habits such as drinking and smoking.
- Look into some of the ways to earn extra money.
- Postpone your holiday, go somewhere closer and cheaper, or skip the holiday altogether.
- Watch those small daily expenses we don’t pay attention to.
- If you like having the latest technology, fine, but don’t be one of the first to try the newest model, because before long you’ll be able to buy it at a hefty discount.
- If you were planning to buy another car, ask yourself a few questions: Is it absolutely necessary? Does my current car work properly without costing me money at the garage?
- And so on.
In short, it takes considerable effort, but that effort should follow a plan that is as well defined as possible, with clear, concrete numbers. We should apply business economics to the household economy, since, when all is said and done, both are based on income, expenses and profit.
The next steps would then be to get the most out of our savings, whether by investing in fixed income or equities, depending on our risk profile and how much we know about investing. But the essential thing to begin with is the “raw material”: those first savings.
Featured image: Joe Haupt, CC BY-SA 2.0, via Flickr.
