Spending everything you earn may be fun now but in the long run, it comes back to bite you. If you cut your spending back, the next step is figuring what to do with the money: you can invest for retirement, save for major purchases or build up a cash cushion for emergencies. There's no one-size-fits-all answer, but general guidelines are a good place to start planning.
Even if you earn a great salary, a job loss or a medical catastrophe can leave you broke. Financial guru Suze Orman says building up an emergency fund is even more important than paying down credit-card debt. Orman recommends eight months' living expenses; standard advice is that you save at least three to six months' worth. If you can't afford to deposit three months' worth of living expenses in the bank tomorrow, start saving. Financial experts recommend you put aside 10 percent of your income until you build up your cushion.
You'll live better in retirement if you have more to rely on than Social Security. A standard rule of thumb is that you should invest 10 percent of your income for retirement, but CNN recommends 15 percent, or more if you can afford it. They do acknowledge that no single number will work for everyone, though, saying that those with higher incomes need to save more than those with lower incomes, since you'll need more to maintain your standard of living after retirement. The bottom line is, saving more when you can gives you a larger margin of error to compensate for any lean years.
Postponing big-ticket purchases such as cars and new appliances saves money. If you know you'll have to replace your refrigerator or your car or make a down payment on a house, saving for them separately from your retirement or emergency saving protects those funds. Think about when you want to buy, how much you'll have to spend and then figure out how much you have to save each month to get to that point by your deadline.
Investing 15 percent of your paycheck and saving 10 percent more sounds good, but it's not always possible, even if you slash your spending. If you have to choose, your personal situation matters more than the guidelines. If you're worried about losing your job in the near future, for instance, saving 20 percent for a cushion and 5 percent for retirement might be wise. If your company matches 401(k) contributions, however, you lose your company's contribution if you cut back on your own investment. In the end, it's your judgment that counts the most.
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- How to Build Emergency Funds for Paying Off Credit Card Debt
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