Just in case you were wondering, yes I type in Spanish (because Goggle Translate showed me how). What does that beautiful Spanish sentence above mean? Of course it means Sexy Finance Notes. You are welcome. Notas de finanzas Sexys. Make sure you try to say it like three times in an Antonio Banderas’ accent, preferably to your spouse or significant other.

In this series (the Notas de finanzas sexys series) we discuss other important aspects you need to mentally grasp to make sure you are truly making large jumps in your financial goals. See, the sexy series title makes all the sense now, right? In this post, we are diving into how much of your income to invest, as recommended by advisors, educators, and others. Sadly, most of the advisors, educators, etc. don’t actually have a rationale for recommending a certain percentage. They often times just go with the flow and say 20% of your income, or 10% of your income, without really having a good gauge on what is truly best.

What it actually comes down to, just like every recommendation ever in personal finance, is that your percentage is personal to your situation (hence the personal finance. I know, I’m blowing your mind right now).

But let’s deep dive a bit more into this so you can personally understand how these recommendations come. You can find more of this information and others within the Midwest Money Mentor Course –

Historically, most financial professionals and educators have used a rule-of-thumb. That rule-of-thumb is that the average American should be saving 20% of their pay towards savings and then retirement/investment goals. Notice that it is a percentage, not a dollar figure. That is because it needs to be adjusted every year based on how much you make. If you get a raise, guess what, it is 20% of your new income (which means you adjust it as income increases, automatically, which helps you fight against inflation working against your investments over time).

Now, 20% is suggested as a simple to remember, round percentage. It is not specific to any one person, but a good guide. The main thing to remember with that percentage is that it does not have to be 20% for you. It could be 18%, or 22%, or 25%, depending on your situation and goals. But, it cannot be 4% or 6%, or even 8%, if you wish to truly gain wealth and be financially secure during your lifetime and future. If you are saving less than 20% now, that is fine, but through paying off debts, increasing your income, and other factors during your life, you will need to increase how much you are saving to be closer to that range (or more). Again, that is what the Midwest Money Mentor full course is for, to help you get more education and information and getting you to building the wealth you need for your situation.

Let’s use an example to help you understand why the 20% example is common. For our example, this household of two adults has a gross income of $80,000 a year (maybe they both make 40k a year each). They save 20% of their income for investments each year, and they receive an average of 6% real return (which is defined more in other blog posts and in the education) on their investments over time. After their future social security benefit becomes available (which lets say covers 40% of their income in retirement- just for a safe future estimation) the household would need to cover 60% of their current income during retirement with their investments (or $48,000 in today’s dollars based on that income).

If they invested 20% of the gross income a year in this scenario, after 10 years at that average rate of return (subtracting inflation), they would have $210,892. At 4% “safe” withdrawal rate (the definition of which is also discussed in other blog posts and in the education), they would create $8,435.68 of yearly income for themselves from their investments.

After 20 years of continued investing at that real return, they would have $588,569. That would create $23,542.76 in yearly income (4% withdrawal rate). With $48,000 of social security income added in, that would create $71,542.76 of total income. Still not enough to cover the full difference, but getting closer.

After 30 years, they would have $1,264,931. That would create $50,597.24 in yearly income (which is more income than this household would need, in this scenario, after social security).

So, at 30 years of investing, you would be able to retire with social security benefits helping out. Hence, why 20% is suggested. It creates an income that can replace your current income within 30 years of work and savings (with social security income helping out, of course).

If you do not trust social security or just wish to be safe with your numbers, after 40 years of work, and investing that 20% (with the 6% net average rate of return) the investments would grow to $2,476,191, which would produce $99,048 in yearly income (at 4% withdrawal rate). More than their income needed in either situation. Start saving 20% at age 25 and do it until 65 and that would likely cover the income needs without social security. Save 20% from 35 to 65 and that would likely cover income needs with the help of social security. Got it?

If you need to (or want to) have enough income from your investments to cover your current income faster than 30 to 40 years of work, you just need to save a larger percentage (or get higher real returns, which is harder to control). Or, if you are good working more than 30 years still, maybe you can save 18% or a little less and invest for a longer time. Though, I would warn that the you from 30 years from now may have different opinions about how much longer he/she wants to work. So, I would recommend not presuming you will be so excited to keep working full time forever down the road.

Another key point in this calculation – this household had an income of $80,000 a year, or two adults that make $40,000 a year each. Far from large incomes, wouldn’t you say? But they still would amass $1,000,000 in investments or more, even if they started to invest later in life. Becoming a millionaire does not take luck, it just takes you paying attention to your money, and TIME. Whatever you can do to build your savings rate/percentage now (selling stuff, getting a second job, cutting expenses that don’t matter to you, downsizing your home/apartment/cars, whatever) the faster you will build wealth to become free from having to work all the time.

What if you did want to save more than 20%, how quickly could you save enough money to retire? Well, according to this famous blog post, you can calculate it pretty easily – https://www.mrmoneymustache.com/2012/01/13/the-shockingly-simple-math-behind-early-retirement/.

If you used the 4% safe withdrawal rate, earned a 5% net return on your investments, and lived on those same expenses every year during your retirement years (adjusted for inflation), you could retire in 20 years instead of 40 years by saving 45% of your income. You could retire in 15 years instead of 20 years by saving 55% of your income. And you could retire in less than 11 years if you saved 65% of your income.

These saving percentages are very high and hard to live by. But, if you could retire 20 years earlier and be free to travel, sleep in, spend more time with family, etc. whenever you wanted for 20 extra years of your life (because you didn’t have to be at work), would it be worth it? Mr. Money Mustache (the blog writer) says that work is more fun when you don’t need the money. I tend to believe him.

One quick not about the 4% rule, in reverse. The 4% rule is very helpful in understanding what amount of money to save in order to have enough income to fund your expenses in the future, but one thing that needs to be discussed is the reverse of that, which is how cutting expenses can have a massive impact on how much you need to actually save. We take a look at how the 4% rule came into being and how cutting an extra $100 in you budget lowers how much you need to save in these blog posts below.