This Number Determines Your Future

Photo by Erik Mclean on Unsplash

Control it, control your life

The personal finance world is full of numbers. From your primary income, side hustle income, savings, mandatory expenses, and discretionary expenses, to an emergency fund, employer match, and net worth figures, it is as if the numbers haunt you. It is easy to get lost in the minutiae and lose the bigger picture.

While all these numbers have their own significance, there is a single number that rules them all, much like the Ring. This number is a barometer of your financial health, and more importantly, your future. Control this number, and everything else will fall into place.

This number is your savings rate.

What is Savings Rate?

In simple words, your savings rate is nothing but your savings divided by your income. If you make $60,000 and save $6000, your savings rate is 10%. On the other hand, if you save $30,000, your savings rate is 50%. Savings rate can vary anywhere from 0 to 100%.

Can you have a negative savings rate?

Most people would answer no. After all, at worst, you can only save nothing and be at 0%.

But, in my opinion, you can do worse. If you spend more than you make, not only are you not saving anything right now, you are also eroding your capacity to save anything later because you will have to pay off your debt.

So, technically, your savings rate can vary from negative infinity to +100%. Negative infinity because you can spend all the money in the world with an income of a single dollar. (If you have zero income, the ratio will become mathematically not determinable, for all my math geeks out there.)

But practically, your savings rate can vary from a negative few percentage points (because no one’s going to lend you all the money in the world to spend) to +100%, which is when you are financially independent and don’t need to earn any more.

How does savings rate matter?

Quite simply, your savings rate will determine when you can stop working. It is a simple calculation.

Here it is:

If you want to see the assumptions and the calculations behind this table, here’s the link. But the assumptions are sound, and you can trust the table.

What I find most interesting in this table is the fact that it isn’t a simple linear relationship. It isn’t the case that, if a 10% savings rate requires you to work for 51 years, it automatically translates to 26 years of work at 20%. (It actually requires 37 years at 20%). The reduction in working years before retirement is much lower (and goes on reducing) as your savings rate increases.

That’s a bad thing, right? Not necessarily. It means that even a small increase in your savings rate at the lower end of the spectrum will lead to a huge decrease in the timespan you have to work.

If you are able to go for a mere 5% increase in savings rate, from 5% to 10%, it will shave off 15 entire years from your working life! For most of us, going from 5 to 10 would not be a matter of much sacrifice — certainly not worth the sacrifice of working 15 extra years.

Second, the point that jumps out at me is how long our working spans would have to be, if we continued on the same path. Let us assume that you are 30 years of age today. Even to be able to retire at 62 years, which is, in our world, early retirement, you will need to have a savings rate of 25%. In comparison, the average savings rate for US households has varied from 6 to 12% over the last decade. If you’re 30 and save in line with this average rate, you are going to be forced to work till you’re 80 (at the lower end) and 96 (at the higher end). It is a sobering thought.

What should my savings rate be?

I’m going to counter it with a question of my own — how many more years do you want to work at the same pace you’re going right now? Simply plug that into the table and check where your rate should ideally be.

Want to work for a decade more, nothing less and nothing more? The answer is 65% — you need to save 65% of whatever you earn. Two decades? You can do 40%. Half a decade? Bump it up to 80%.

Your savings rate should be exactly where you imagine your life to be.

How can I increase my savings rate?

It is now indisputable that our savings rates need to be boosted unless we want to work till the grave. How, is the question.

The answer is simple, but not easy. There are only two variables in the equation: your income and your expenses. Though every writer has their own view about which is easier to control, this is a quintessentially ‘personal’ part of personal finance. Maybe you earn very well and live like a Queen, making controlling expenses a no-brainer. Or maybe you’re graduating in a ‘hot’ industry while working part-time, and can expect your income to grow 10x within a year. Each of us will be somewhere on the spectrum. It is up to us to tweak both our income and our expenses and somehow get our savings rate to be where we want.

Want to ascertain you hit your savings rate while living a good life? Here’s how – The Secret to Spending All You Want

What’s your number?

Once you get into a habit of tracking and boosting your savings rate, it can get very competitive. Even if you aren’t sharing it with others, it is natural to want to outdo the ‘old you’. Don’t. Once you have reached your target savings rate, do yourself a favor and don’t increase it — unless circumstances change and you reimagine your retirement goals. Use the money left over for other goals — travel, improving the quality of your current life, or your kid’s education. There is no point in retiring a few years earlier if you are unhealthy, burnt out, unhappy, lonely, or any of the many side effects that accompany an unhealthy obsession with saving.

Wish you a healthy savings rate and a healthy lifestyle!

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