The ideal savings rate depends on specific financial goals and, of course, the ability to save that much
Save 10 per cent or 20 per cent of your salary.
A common piece of advice, which I am sure, you would have heard a few times before. But does this advice make sense?
To be fair, if you have not been saving anything till now, then the advice to save at least 10 per cent of your income is good for you. Something is better than nothing, isn't it?
But what if you have the intention as well as the ability to save? What then should your approach be?
Remember, why you want to save money. It’s for your goals. And if your savings strategy (‘save 10 per cent’) fails to provide you with the right amount at the right time for all your goals, then that strategy is not good enough.
Budgeting for goals
Let’s take a small example.
Suppose you are the only earner of a four-member family (you, spouse and two kids). You earn Rs 1.25 lakh a month. Your goals are children’s higher education, house purchase, annual vacations and saving for your own retirement.
Now, you do some number-crunching and find that you need to save the following amount every month to achieve all the goals within their respective timelines:
-Son’s education - Rs 7500 per month
-Daughter’s education - Rs 10,000 per month
-Down payment for loan funded house purchase - Rs 25,000 per month
-Your retirement - Rs 15,000 per month (in addition to your EPF contributions)
-Annual vacation - Rs 10,000 per month
This totals to Rs 67,500 per month, on a monthly income of Rs 1.25 lakh per month. The amount is almost 55 per cent of your monthly income.
Compare this with the free advice given to save 10 per cent or 20 per cent of your income. It would not work in this case, as your goals are unique and so are your savings requirements.
If you were to save just 10 per cent or 20 per cent of your income, that would mean saving only Rs 12,500 or Rs 25,000 per month, respectively. And since your goal-based savings requirement was Rs 67,500, it would naturally mean you are not on track to meet your financial goals.
Specific saving required
It helps bring in the required disciple to live on less and not paycheck-to-paycheck and save a fixed portion of income till you don’t know what you are really saving for.
But for others, the ideal savings rate depends on specific financial goals and, of course, the ability to save that much. And if you think about it, then everyone’s financial situation is different and unique – their ages, incomes, income stability, family situations, careers, life and financial goals, the financial situation of near and dear ones, etc. There is just no way that one single blanket savings rule could be applied to all those different situations. Copy-pasting doesn’t work in personal finance.
So, how do you determine the right proportion of saving required for your goals?
-List down your important financial goals first
-Either calculate yourself or take professional investment advice and find out how much is required to be saved each month for all the goals
-The sum of the above individual goal-specific savings amount is what is required
-If you can do it, then well and good. You just need to find the right investment products and correct asset allocation for the goals
-If you are unable to save the required amount every month, then you have a few options: i) increase your income, which isn’t that easy; ii) reduce your other expenses to create more surplus; or iii) increase the timelines of the goals (if feasible) and/or reduce the budget. In many cases, working on all three aspects can work well for most people.
-If all the above don’t work, then rethink and prioritize your financial goals and drop some not-so-important goals for the time being.
Remember, financial advice has to be effective and goal-oriented. Only then will it make sense.(The writer is the founder of StableInvestor.com)Get access to India's fastest growing financial subscriptions service Moneycontrol Pro for as little as Rs 599 for first year. Use the code "GETPRO". Moneycontrol Pro offers you all the information you need for wealth creation including actionable investment ideas, independent research and insights & analysis For more information, check out the Moneycontrol website or mobile app.