6 Min Read
In your early 20s, you might be trying to find a balance between your social life and finances. With insurance, rent, and student loan payments, you might be more likely to push off saving and investments because you either don’t have time for it or don’t know where to start.
Striking a balance doesn’t need to be challenging. You just need to be smart about it.
Let’s see how much of your income you should save.
Why Is It Important to Start Saving in Your 20s?
Adopting good financial habits such as saving while in your 20s will set you up to be in a better financial place in the future. Here are some reasons why saving in your 20s is crucial:
Its Builds Solid Habits
Saving as much as you can for your future retirement or investments helps you develop solid financial habits. It enables you to identify the clear benefits of saving and create other funds, such as an emergency fund. Saving while in your 20s will also help you work with a budget to track your expenditures and avoid getting into debt.
Seeing all the money you have saved incentivizes you to keep pursuing the path towards financial freedom. The more you save, the more motivated you are to keep doing so.
It Helps You Realize the Value of Compound Interest
Starting to save early gives compound interest time to work. Compound interest works by enabling the interest you earn on your balance in a savings account also to earn interest. Basically, it’s money making money. Over time, compound interest accelerates the growth of your savings. In effect, this also means you can start saving very little at first since you have more time for your investment to compound and grow.
If, for example, you save $100 and your investment receives a 12% interest rate annually, after a year, you will have $112. By the end of the second year, you will have $125, and the third year $140. Every year the amount will keep growing.
The earlier you start, the more you will be able to amplify the effects of compound interest.
Access to Roth IRA
Roth IRAs are available to people who meet a specific income limit, making it easier to open early in your life. Ideally, any money put into Roth IRA is post-tax. This means you will not owe the IRS when you withdraw this money for retirement. As long as you don’t touch the interest you’ve earned, you can easily withdraw the money you put into the account with no tax or penalties.
Build an Emergency Fund
Creating an emergency fund is an important financial task you can accomplish in your 20s. With the unexpected changes COVID-19 has introduced in our lives, you must admit that it’s a good idea to always be prepared. Life has a lot of surprises, and putting some money away can help you navigate uncertainties without significantly affecting your financial plans.
An emergency fund is a pool of money collected for unplanned expenses. It is a form of an insurance policy for your finances. In the face of a job loss, appliance breakdown, or medical emergency, your emergency fund can come in handy. Ideally, you should have between three to six months’ worth of living expenses included in your emergency fund amount.
How Much of Your Income Should You Save?
How much you save should be directly related to your financial goals. However, the general rule of thumb is a minimum of 20% of your income should go to savings. Between 10 and 15 percent of the amount saved should go to your retirement fund, and the rest towards long-term savings, building an emergency fund and paying off your debts.
Having clear goals helps you determine exactly how much you should save every month. Your financial goals can be broken down into three segments:
- Short-term financial goals: These are expenses that are likely to arise within less than a year.
- Long-term financial goals: These are expenses that come up in less than a decade.
- Extremely long-term financial goals: These are usually a decade or more away.
Savings Income Calculator
A savings income calculator is a tool that helps you determine how much income you can earn from your savings. Ideally, the savings income calculator has a slot where you key in your total savings, the annual interest rate, and the monthly withdrawals you’d like to make. The savings income calculator then calculates how long the savings should last and even how much you can withdraw given how long you’d like your savings to last.
How and Where to Start Saving
Often, the most difficult thing about saving money is getting started. Here is a step-by-step guide on creating a simple and realistic strategy so that you can plan for your short and long-term savings objectives.
First, Pay Off Your Debts
The interest you earn on your savings will always be less than the interest you spend on your borrowings. Therefore, aim to pay off significant debts such as store cards, credit cards, and overdrafts before you embark on a journey of saving.
Record Your Expenses and Cut Back on Unnecessary Expenses
Keep track of your expenditure, from eating out to every latte. Collect all the data, organize the figures into categories, and get the total for each category. If you are unsure of the figure, refer to your bank and card statements. This enables you to understand where your money is going and helps you curb unnecessary spending.
Create a Budget and Budget for Savings
Since you now know how you are spending your money, and intentionally cutting back, a budget is the next best step. A budget tells your money where to go. Planning your spending helps ensure you can avoid overspending. Include a category for savings which should be a set percentage of your income.
Set Savings Goals
In order to save effectively, it is essential to set a goal. What do you want to save for? Is it a vacation, a wedding, school fees for your kids, or retirement? Then figure out how much you are working towards and how long it may take to save it. Divide your saving goals into short-term and long-term goals. You can also consider using an investment account for your long-term saving goals.
Pick the Right Tools
The right tools will ease your savings plans. If you have short-term saving goals, consider using FDIC-insured deposit accounts such as saving accounts and certificates of deposit. There are also some great apps that can help you accomplish your saving goals, such as Monorail.
For your long-term saving goals, you can consider securities such as mutual funds or stock and FDIC insured individual retirement accounts such as IRAs which are tax-efficient saving accounts.
Consider your options carefully, and focus on things such as balance minimums, interest rates, and fees, and choose a mix that best serves your saving goals.
Finally, Make Your Savings Automatic
Most banks offer automated transfers between checking and saving accounts. You can choose how much, when, and where to transfer the money. Splitting your direct deposit is also a great way to manage your savings, and it reduces the temptation to spend instead of save.
Start Saving Today
It’s never too late to start saving; however, saving from an early age means that over time you can save less from each paycheck as your financial obligations increase and still be ready for your retirement.
Saving and budgeting for the lifestyle you want are absolutely attainable!
Subscribe to our exclusive mailing list.
Subscribe to our exclusive mailing list for news and updates.