How Much of Your Paycheck Should You Save?

Are you wondering how much of your monthly take-home pay you should save? Unfortunately, there’s no one-size-fits-all answer to this question – it really depends on your savings goals and the financial milestones you want to reach. Read on to explore the reasons why you should save, how to determine an ideal amount to save each paycheck and other factors you should consider while working towards your savings goals.

The Importance of Saving

Saving money makes it possible to achieve long-term financial goals and get closer to retirement. You’ll also have the necessary cash to cover emergency expenses. Setting savings goals can also result in a budget plan that helps you stay on top of your finances. Saving money builds discipline, which can trickle into other areas of your life.

Many financial institutions offer accounts that reward people for saving money. You can earn interest through a high-yield savings account or put your cash into a brokerage account. Many individuals use a combination of both. Saving money can put you at greater ease and give you the funds you need for large purchases, such as a down payment.

Saving money can also result in a higher credit score. Part of saving money is paying off your credit card debt and staying on top of your monthly car payments. On-time payments will improve your credit score and help you score lower interest rates on future loans. Looking at small daily expenses and trimming costs can lead to a brighter financial future.

Reasons Why You Should Save

Retirement

At some point, you’ll want to hand in your pink slip – on your own terms, of course – and enjoy all that life has to offer. That’s where retirement savings come in, and as a rule of thumb, financial experts recommend that you save 10 to 15 percent of your income annually to help build up your nest egg. But if your employer is generous enough to match your efforts, you don’t have to do it all on your own. To illustrate, if you save 8 percent of your income and your employer agrees to match it by 4 percent, you’ll be at 12 percent for the year.

Emergencies

When life happens, you want to have the funds in place to prevent a financial emergency from becoming a massive issue. So, it’s worth creating an emergency fund that’s at least a month or so of earnings – or whatever you can afford to stash away when you start – can come in handy.

Unforeseen Expenses and Circumstances

Sometimes, what starts off as small financial emergencies or inconveniences leads to lengthy financial hardship. These unforeseen expenses and circumstances, which could be anything from a medical illness or temporary job loss to a significant car issue that warrants a replacement, are bound to happen at some point. But with a hefty cash stash of at least three to nine months of living expenses, you’ll be covered for a bit until you can get back on track.

Plan for Your Short-term and Long-term Goals

Goals written down on a piece of paper are meaningless unless you have a specific plan of action that you’re willing to execute. Consistency when working towards your goals is equally important, but you’ll also need the funds to bring them to fruition. That’s where saving money comes in – if you continue to spend as much as you earn, it’s highly unlikely that you’ll get any closer to achieving the goals you set for yourself unless you’re fortunate enough to receive a financial windfall or unexpected lump sum of cash.

Investments

Once you’ve covered your monthly expenses and put money away for your emergency fund, you can spend what’s left on investments. They can be used to grow your money quicker than you would in a savings account to accomplish short-term goals or to beef up your nest egg.

Financial Security

Living paycheck to paycheck or lying awake at night worrying about money is never any fun. And given the fact that a small financial emergency can take you over the edge, it’s worthwhile to start saving money to provide some sort of financial security if you haven’t already established an emergency fund. Plus, you won’t have to spend every waking hour worrying about how you’ll meet your short-term or long-term financial goals.

How Much of Your Paycheck Should You Save?

Understanding the 50/30/20 Rule

This rule is often suggested as a way to ensure you’re saving enough of your current income. If you follow this approach, approximately 50 percent should go towards your needs or essential expenses and 30 percent toward your wants – the remaining portion of every paycheck, or 20 percent, is what you’ll bank to build up your savings and allocate towards investment accounts.

Essential Expenses (50%)

Essential expenses cover your mortgage, groceries, and other costs that are necessary for sustaining your life. Essentials do not include hobbies.

Discretionary Spending (30%)

Discretionary spending addresses any expenses outside of the essentials. You can buy products that align with your hobbies, travel, or go to live events in this category. Discretionary spending offers many possibilities, but the percentage is just a guide to how to use your monthly income. It’s a good idea to trim this spending category if you can allocate more capital to your savings.

Savings and Debt Repayment (20%)

Saving money allows you to build up your retirement portfolio and have emergency funds in case you encounter a surprise expense. Some people believe in using 15% of their paycheck for retirement contributions and using the other 5% for a short-term savings account.

Adjusting for Different Financial Situations

These percentages are all suggestions. You may have to put more money into your essentials if the price of goods and services continues to increase. However, you may want to put more money into your portfolio and build up your total savings if more space opens up in your monthly budget.

You don’t have to meticulously track every transaction to ensure you fulfill the 50/30/20 ratios. How much money you make and how you spend it determine how much you can allocate toward each category.

Low-Income Scenarios

Someone who is making a lower income may have to cut back on discretionary spending. They may end up with a 70/10/20 framework where 70% of their costs cover the essentials, 10% go toward discretionary, and the remaining 20% go toward investments and savings. You can also opt to put some of your money into a certificate of deposit that doesn’t have a penalty fee. That way, you accumulate interest but can move the funds back into your bank account if an emergency expense arises.

High-Income Scenarios

Someone who is earning a higher income can allocate more money toward their high-interest debt and student loans. After getting rid of these financial obligations, these individuals can pour more of their capital into investments and savings. If you don’t expand your monthly budget as your income grows, you can end up putting close to half of your paycheck into your investments. If you set savings goals, you are more likely to keep a tight budget on discretionary items. It’s good to spend on things for yourself from time to time, but people earning higher incomes can allocate a lower percentage of their earnings toward essentials and discretionary costs.

Best Practices for Effective Saving

You can choose from many methods to reduce your expenses and keep more of what you earn. These are some of the top tips to consider.

Setting Realistic Goals

The best savings strategy is realistic and ambitious. You have to stretch to achieve your goals, but they shouldn’t be out of reach. If you earn $5,000 per month and spend $4,000 per month on various expenses, you should expect to cut your expenses in half next month. Trimming your expenses too much can cut into the essentials, such as owning a property, buying healthy groceries, and other essentials. It’s more realistic to trim your expenses by 10% in one year or to pick up an additional side hustle to increase your income.

Reducing Expenses and Cutting Unnecessary Costs

If you haven’t tracked your expenses yet, you have a great opportunity to save money. Reviewing your credit card statements will reveal how you spend your money. You’ll also discover any unnecessary expenses like monthly subscriptions that you haven’t touched for years. Eliminating subscriptions you don’t use and trimming other costs can give you more money for emergency savings. At the end of the day, keeping costs down will give you more choices. Your credit report will also look better if you use the extra cash to pay off your debt.

Regular Review and Adjustments

You should regularly review your income and expenses to ensure you are making optimal financial decisions. It’s good to make adjustments as new expenses arrive and purchases you previously made feel out of style. You may have used Netflix often early in the year but don’t see yourself using it anymore. In that case, it may be a good idea to cancel the subscription. You can reopen the subscription at any time, but temporarily canceling your subscription can save you some money.

While canceling a Netflix subscription isn’t going to make much of an impact on your finances, it will strengthen your financial discipline. That’s an important component to keep in mind.

Financial Literacy and Continuous Education

You can choose many financial products to satisfy your different needs. An investment account lets you grow your money while incurring more risks, while a money market account has less risk but guaranteed investment returns. It’s also important to pay off debt, especially a loan or a credit card that has a higher interest rate.

Continuing to learn more about personal finance and how to grow your money can give you the extra motivation to save money. You can also learn how to get better at saving money and become more efficient with your funds. A certified financial planner can walk you through the process, but you can also use free content for educational purposes.

Leveraging Technology

Many financial institutions have features that make it easier to grow your amount of emergency savings. You can use these perks to dictate how your monthly payments are distributed across your accounts.

• Automating Savings: You can automatically have a percentage of every paycheck sent to your savings account.
• Direct Deposit to Savings: Rather than send your paycheck to your checking account, you can put it in your savings account instead. This is a clever way to save additional funds rather than forgetting about your savings account and spending the money in your checking account.
• Automatic Transfers: You can set up automatic transfers between your accounts to ensure you don’t have to stay on top of it every day.
• Paycheck Advances: You can get access to a portion of your paycheck before payday with features on some banking apps. This feature allows you to access a portion of your earned wages a few days before your scheduled payday, providing you with financial flexibility when needed.

Opening a High-yield Savings Account

A high-yield savings account can help you save for a big purchase. The interest from these accounts can help with various expenses, such as streaming services. You can also reinvest the interest to ensure you earn more interest next month.

Mistakes to Avoid

Saving Too Little

Don’t put off your savings. It’s best to save early and often. Saving more money now through small lifestyle adjustments, side hustles, and other methods allows it to compound over more time. While it’s a good rule of thumb to save at least 20% of your paycheck, you can save additional cash if you have the financial flexibility.

Not Having a Plan

Make sure you have financial objectives and plan out your path to your goals. Discovering opportunities to save and earn additional money can help you achieve your goals within the specified time period.

Over-Saving and Sacrificing Quality of Life

It’s fine to save a lot of money. However, it can become a problem if you forgo important home improvements or eat lower-quality food just to grow your savings account.

Other Factors You Should Take into Account When Saving

Your Age/Timeline

If you’re nearing retirement age, your savings goals will likely be more aggressive than they would be if you are younger and have more time to build up your savings. But if you have an aggressive goal you want to meet in a limited amount of time, like saving $1,200 in 2 months, you’ll have to consider that as well.

Your Other Income Sources

Do you have other sources of income beyond your main source of earnings? Consider using these income sources to reach your savings goals faster.

Your Current Spending

Are you disciplined with your spending, or do you tend to spend more than you earn? If it’s the latter, revisit your budget to make adjustments that give you wiggle room and make it easier to save money.

Your Savings Goals

How much do you want to save? Ultimately, it’s a personal decision that you have to make to ensure your long-term financial security.

Where to Put Your Savings

Traditional savings accounts and high-yield savings accounts are ideal for parking your short-term savings as they are both easily accessible should you need to pull funds to cover an emergency or make a purchase. The latter allows you to earn more on your money, though, but it usually comes with a higher minimum balance requirement. But if you’re looking for an even greater return on your money or to build your retirement savings, consider investments like stocks, bonds or mutual funds. And if your employer offers a 401(k), be sure to take advantage to grow your retirement account while capitalizing on the tax benefits they offer.

The Amount of Debt You Owe

Is your current debt load manageable? Are you on track to pay the balances off sooner than later, or are you only making the minimum payments and forking over a hefty sum in interest each month? Depending on your responses, it may be best to focus on saving even more to pay down your high-interest credit card debt and free up funds to meet other financial goals.

Conclusion: Maximizing Your Savings

Growing your savings will make long-term financial goals feel within reach. You can also give yourself some insulation in case you lose your job and need to tap into emergency savings. It’s easy to trim a few expenses and build on the small wins. Working on a side hustle and learning new career skills can increase how much you earn, so you don’t have to rely on frugality to achieve your goals.

FAQs About Saving Your Paycheck