Last Updated on December 29, 2021 at 5:44 pm
A question that often worries young earners is, “What percentage of my salary should I invest each month? Is 10% okay? Or should it be 20%?” Often this is asked when a person wants a quick rule of thumb to check if they are on the right track so they spend free from guilt. Unfortunately, there are several wrong questions that people ask when it comes to personal finance and this is one of them.
There is something weirdly comforting about a thumb rule. The answer to this question often is, “as a thumb rule, one should at least save 10% each month”. Every equation has underlying assumptions buried deep within. A thumb rule has twice the number of such assumptions because it is often the simplification of a formula.
Young earners often make the mistake of assuming “they have no goals” just because they are single and their parents are healthy with reasonable financial independence. This is the best time to plan for financial independence – gradually reduce the dependence on getting up to work on Monday morning (even if it is from home).
In this day and age, there is no need for thumb rules. Using a calculator will take only about 30 minutes (most of the time would go in appreciating the inputs). Here are two examples. One for the US and one for India.
Join over 32,000 readers and get free money management solutions delivered to your inbox! Subscribe to get posts via email! 🔥Enjoy massive discounts on our robo-advisory tool & courses! 🔥
CNN Money had a “Will you have enough to retire?” calculator applicable for US residents with extensive fine print. Sadly only the fine print seems to be available now! At least it does not seem to work on Chrome. Here is a screenshot.
These are some key assumptions in the fine print:
- longevity up to age 92
- Social Security is factored in.
- All calculations are pre-tax
- calculated using an inflation rate of 2.3%
- return is 6%
- the inflation-indexed annuity rate is 6%
- the current income grows at an annual rate of 3.8%
- assume you can live comfortably off of 85% of your pre-retirement income
Notice that the savings rate should be 23% for a real return of close to 4% (return =6%, inflation is 2.3%) with social security available and tax has not been factored in!! It is folly to assume even for US conditions that investing 10% or 20% of income is sufficient. Our inflation (for the individual, not the govt declared value) is anywhere between 8-10% (assuming no lifestyle change expenses -good or bad).
Our portfolio returns (not just equity) will have to be at least 10-12% after-tax to combat inflation. Will we get that? Not if we have blind trust on “SIP”. See: 15-year SIP returns for 71 out of 148 equity MFs is less than 10% and Ten-year Nifty SIP returns have reduced by almost 50%
Want an (unpleasant) Indian thumb rule? Invest as much as you spend each month for normal retirement when you are unmarried with no dependents.
For early retirement in India (FIRE), invest close to twice as much as you spend each month. Not impossible, but depends on your priorities (an understanding spouse and of course, luck*). I have managed to do this for the last 10 years or so and in spite of setbacks such as this – My retirement equity MF portfolio return is 2.75% after 12 years! – been able to maintain more than 30 times my current annual expenses. From borderline financial independence, I have got a little more comfortable. Also see Retirement Planning: My Story So Far and Analysis: My Mutual Fund Investing Journey.
This simple calculator can be used to find out what percentage of your expenses (not income) you should be investing for retirement. Will only take you about 5 minutes. Here is a screenshot with inputs that I would use.
The post-retirement rate of interest is 1% above inflation rate. For normal retirement, this is borderline reasonable and therefore, borderline dangerous. Recognise that is for 30 years later!! Who knows what will happen then! Better to be reasonable, err on the side of caution to start with, use the retirement calculator once a year with updated inputs. As retirement approaches, the numbers will become more accurate.
There are too many assumptions involved and while we can be reasonable with our inputs, the only security is to invest more, as early as possible. Another reason to do so is that as we age, unexpected expenses may increase. For example, we may need to take care of our parents. Repeat this calculation with new inputs each year!!
This is the origin of the “invest as much as you spend” rule of thumb (for normal retirement) Download the retirement calculator as a function of monthly expenses. This sheet will work on all platforms – Google sheets, Mac Numbers etc.
In summary, do not ask “What percentage of my salary should I invest each month?”. Instead, ask, “What percentage of my expenses should I invest each month?”. The answer is bitter medicine – as much as possible, ideally as much as you spend! As discussed in this article – How should I invest to get Rs. one lakh a month pension? – one lakh “pension” is grossly insufficient and even for that, we need a couple of crores!
Sign up for a new course on How to get people to pay for your skills! This discusses a simple framework for consistently growing your business with online visibility! Suitable for passive income seekers, small business owners and bloggers. Use this form to sign up for 60% early bird discount! You will be intimated upon launch.
🔥Enjoy massive discounts on our courses, robo-advisory tool and exclusive investor circle! 🔥& join our community of 5000+ users!
Use our Robo-advisory Tool for a start-to-finish financial plan! ⇐ More than 1,000 investors and advisors use this!
New Tool! => Track your mutual funds and stock investments with this Google Sheet!
We also publish monthly equity mutual funds, debt and hybrid mutual funds, index funds and ETF screeners and momentum, low-volatility stock screeners.
- Do you have a comment about the above article? Reach out to us on Twitter: @freefincal or @pattufreefincal
- Have a question? Subscribe to our newsletter using the form below.
- Hit 'reply' to any email from us! We do not offer personalized investment advice. We can write a detailed article without mentioning your name if you have a generic question.
Join over 32,000 readers and get free money management solutions delivered to your inbox! Subscribe to get posts via email!
About The Author
Dr M. Pattabiraman(PhD) is the founder, managing editor and primary author of freefincal. He is an associate professor at the Indian Institute of Technology, Madras. He has over ten years of experience publishing news analysis, research and financial product development. Connect with him via Twitter(X), Linkedin, or YouTube. Pattabiraman has co-authored three print books: (1) You can be rich too with goal-based investing (CNBC TV18) for DIY investors. (2) Gamechanger for young earners. (3) Chinchu Gets a Superpower! for kids. He has also written seven other free e-books on various money management topics. He is a patron and co-founder of “Fee-only India,” an organisation promoting unbiased, commission-free investment advice.Our flagship course! Learn to manage your portfolio like a pro to achieve your goals regardless of market conditions! ⇐ More than 3,000 investors and advisors are part of our exclusive community! Get clarity on how to plan for your goals and achieve the necessary corpus no matter the market condition is!! Watch the first lecture for free! One-time payment! No recurring fees! Life-long access to videos! Reduce fear, uncertainty and doubt while investing! Learn how to plan for your goals before and after retirement with confidence.
Our new course! Increase your income by getting people to pay for your skills! ⇐ More than 700 salaried employees, entrepreneurs and financial advisors are part of our exclusive community! Learn how to get people to pay for your skills! Whether you are a professional or small business owner who wants more clients via online visibility or a salaried person wanting a side income or passive income, we will show you how to achieve this by showcasing your skills and building a community that trusts and pays you! (watch 1st lecture for free). One-time payment! No recurring fees! Life-long access to videos!
Our new book for kids: “Chinchu Gets a Superpower!” is now available!
Must-read book even for adults! This is something that every parent should teach their kids right from their young age. The importance of money management and decision making based on their wants and needs. Very nicely written in simple terms. - Arun.Buy the book: Chinchu gets a superpower for your child!
How to profit from content writing: Our new ebook is for those interested in getting side income via content writing. It is available at a 50% discount for Rs. 500 only!
Do you want to check if the market is overvalued or undervalued? Use our market valuation tool (it will work with any index!), or get the Tactical Buy/Sell timing tool!
We publish monthly mutual fund screeners and momentum, low-volatility stock screeners.
About freefincal & its content policy. Freefincal is a News Media Organization dedicated to providing original analysis, reports, reviews and insights on mutual funds, stocks, investing, retirement and personal finance developments. We do so without conflict of interest and bias. Follow us on Google News. Freefincal serves more than three million readers a year (5 million page views) with articles based only on factual information and detailed analysis by its authors. All statements made will be verified with credible and knowledgeable sources before publication. Freefincal does not publish paid articles, promotions, PR, satire or opinions without data. All opinions will be inferences backed by verifiable, reproducible evidence/data. Contact information: letters {at} freefincal {dot} com (sponsored posts or paid collaborations will not be entertained)
Connect with us on social media
- Twitter @freefincal
- Subscribe to our YouTube Videos
- Posts feed via Feedburner.
Our publications
You Can Be Rich Too with Goal-Based Investing
Published by CNBC TV18, this book is meant to help you ask the right questions and seek the correct answers, and since it comes with nine online calculators, you can also create custom solutions for your lifestyle! Get it now.Gamechanger: Forget Startups, Join Corporate & Still Live the Rich Life You Want
This book is meant for young earners to get their basics right from day one! It will also help you travel to exotic places at a low cost! Get it or gift it to a young earner.Your Ultimate Guide to Travel
This is an in-depth dive into vacation planning, finding cheap flights, budget accommodation, what to do when travelling, and how travelling slowly is better financially and psychologically, with links to the web pages and hand-holding at every step. Get the pdf for Rs 300 (instant download)