Why Your Savings Rate is Meaningless

Many personal finance (PF) bloggers talk a lot about their savings rate. There’s a lot of debate within the community on how to calculate it, and some bragging about whose is larger. If you’re just starting out saving and investing, it can be intimidating to read about all these people saving 50, 60, or 70% of their income. But does it really matter? I would argue No.

Now, you might have a 50% savings rate and be darn proud of it-and that’s great! Really, it is. But is knowing your savings rate what will actually allow you to achieve your goals?

Why Your Savings Rate Is Meaningless

Why Your Savings Rate Is Meaningless

If you’re saving 50% of your income of $50,000 per year, you might think you’re doing an amazing job. But what if your savings are going mostly into retirement accounts (say, maxing out a 401k and a ROTH) but your goal is to pay for your kids college next year? Or if your savings is going into a college fund, but what you really want to do is retire early?

Your savings only matters in the context of your goals. You need to know what you’re aiming for, the amount you need, and your time horizon-only then will you know if what you’re doing will get you where you want to go.

This is why getting to know your goals and dreams is one of the first steps toward financial freedom. If you’re reaching for an arbitrary savings goal without being clear and focused on your dreams, you may be saving in the wrong kind of account – or even the wrong amount! Perhaps your money is going into a savings account instead of being invested toward retirement. Or you’re aggressively funneling extra money into mortgage payoff when you have credit card debt.

Your savings rate alone, while it can be helpful, won’t get you where you want to go. You don’t want to end up sacrificing to obtain an arbitrary savings rate, if it’s not getting you some steps closer to your dreams.

Fudging the Numbers

How do you calculate savings rate anyway? There are many different methods, which is another reason why this isn’t a meaningful statistic. Let’s say someone you know is “saving 50%” of their income, and you’re saving 50% of your income. You could actually be saving different absolute dollar amounts, because you might be calculating it differently. For example:

  • Do you count debt pay-down as part of your savings rate? Principal payments only? Extra principal payments only?
  • Do you count your 401k match? Or do you add the 401k match to your after-tax salary?
  • What about all those other things taken out of your paycheck pre-tax: medical/dental/vision insurance, HSA contributions, FSA contributions? Do you count those in your income? What if your employer contributes to an HSA on your behalf?
  • How about your mortgage payment? Or just the principal portion of the payment?
  • What about savings toward short and mid-term goals? Are those part of the savings rate, or not? Does it make a difference if you’re saving for a goal you’ll pay for next month vs. next year vs. 5 years from now vs. 30?
    • All money you’re saving will be spent eventually, of course, it’s just a matter of time horizon.
    • Even if you end up not spending it yourself, it will be spent by someone that inherits your money.
    • Does having a high savings rate really benefit you in the long run if you’re saving 50% of your income for a new car next year?
      • If that’s one of your major goals, then yes!
      • If your major goal is to retire early, then maybe not.
  • Do you count your 401k or IRA contributions towards your savings rate?
  • Do you use your net income after taxes, or your gross income before taxes? Or some other formula using a combination of after-tax income and some of the pre-tax contributions?

As you can see, there are a lot of different factors that can be taken into account when calculating a savings rate. Different people answer the above questions differently, which leads to two people saving the same amount having different “savings rates”. More than once, I’ve seen people online talking about their high savings rates without the context of exactly how they came up with that amount.

A Deeper Look

Lets take two people – John and Susan. They’re talking one day in the cafeteria at work and discover they’re both saving for early retirement. They have the same job, and both make the same $75k per year income. John brags that he’s saving 50% of his income, while Susan admits she’s only saving 25%. Susan walks away from the conversation beating herself up for her low savings rate-after all, John makes the same amount she does and can save so much more! And John walks away feeling good about himself, like he’s won a frugal bragging match. But Susan is actually saving more money than John. How could that be?

Account Type Susan John
Gross Income 75000 75000
Net Income 42187.5 50625
401k Match 2250 2250
401k Contributions 18750 7500
Mortgage Principal 12000 12000
Student Loan Principal 0 6000
Credit Card Principal 0 3000

How they’d explain it if someone asked:

  • Susan says “25% of my income goes into my 401k, so my savings rate is 25%”
  • John says “First I take my net income and add back in my 401k contribution and match – Total $60,375. Then I add together all my principal payments toward debt and my 401k contribution and match – Total $30,750. So my total savings rate is 50.9%!

If Susan used the same formula as John, her savings rate would be 52.2%, because she’s putting aside $33k per year in the 401k, match, and mortgage principal.

You can only compare your savings rate against someone else if you’re using identical formulas. So remember that next time you see someone online talking about how they saved X% of their income – if they don’t show you how they calculated it, ask!

What I Do Instead

Rather than calculate my savings rate, I have specific target goal amounts for various short, mid, and long term objectives. Then every time I calculate my net worth (quarterly, for those that are interested), I bump up the amounts I have saved towards those goals against my targets. Then I can see how much I have left to go, and since I know how long I have until I need or want to reach that goal, I can see if I’m on or off track. If I’m off track, I can calculate what adjustment might be needed in my future savings or investment plan to get back on track to meet the goals.

Although it might sound cool to say that I save 50, 60, or 70 percent of my income, I haven’t found that my savings rate helps me figure out if I’m making the progress that I need toward my goals. So I don’t calculate it, and just track my progress instead.

I wrote a whole article on the in-depth process of getting to know your dreams, to help you figure out exactly where you want to go in your financial life. Some other information that might help:

  • Make sure your goals are SMART (Specific, Measurable, Actionable, Relevant, Time-Bound)
  • Once you have your financial goal, sit down with some financial calculators (give this one a spin, or check out some of my favorite calculators for different situations) and plug in:
    • How much you currently have
    • How much you need
    • How long until you need it
    • If the answer to how much you need to save/invest isn’t doable, you may need to change the timeframe or the goal
  • Repeat for each goal until you have a plan
  • Execute against that plan
  • Periodically check in on your progress and re-evaluate if your strategy is on target.
    • You can then accelerate the process by saving more
    • Or refresh your goals if life or the target amounts have changed
      • For example, while saving for college for my three boys, I re-evaluate the target annually
  • Rinse and repeat until you’ve met your goals
  • Enjoy!

How about you? Do you calculate your savings rate? If so, what formula do you use? If not, what do you do instead? Let me know in the comments!

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35 thoughts on “Why Your Savings Rate is Meaningless

  1. I calculated my savings rate for the first time last month because the rest of the blogger community keeps writing about it! To be honest, I forget the exact percentage as I write this comment, but it was somewhere just over 40%.

    I align more with you. I set goals each year and then check in on them each month to monitor progress. Speaking of which, I am due for a check in!

    Thanks for sharing, CMO.

    1. Glad my article could serve as a reminder to do a goal check in! I’ve been doing a check in every month on the blog this year, and it’s been great to remind me of all the goals I made. And to keep me accountable!

  2. Great post and well said. I tried to make the similar argument in prior post. I’ve never calculated my savings rate. It’s meaningless to me and the different ways to calculate it is frustrating anyway. I just focus on investing more and more each year to reach my long term goals and funding an early retirement.

  3. You make some really good points about savings rates! I’ve never calculated my own. Like you I get more value from focusing on my goals. However, I’ve wondered if calculating my savings rate might get my competitive juices flowing and cause me to save me. To beat out my previous mark. Good food for thought today! Thanks!

    1. It might! That’s a good use of calculating a savings rate, you can use it to compete with yourself. And since you’re just comparing it to your prior number, and not to other people who might calculate it differently, it would be apples to apples

  4. I think you made a great critique of savings rates. I think part of me became intrigued when Mr. Money Mustache started hyping up his numbers.

    For me I calculate 70% savings rate based on my take home pay that I keep. So that means I don’t include my 401k contributions, IRA contributions, or 529 contributions. I treat them all as money leaving my account since I theoretically can’t access them until certain ages.

    1. I think you’re illustrating perfectly why you can’t compare savings rates between people. Everything you mentioned not counting would definitely be something I would count, because they’re key parts of some of my major goals

  5. Good point about the importance of funding the appropriate accounts for your goals. I’m a numbers guy so I like seeing my savings goals on a spreadsheet, but I couldn’t tell you what my actual savings rate is. I just strive to live simply, enjoy life, and save/invest as much as possible.

    1. Same here-I find it much more straightforward to just live below my means, automatically invest, and track my goals. My savings rate isn’t helpful to me in that process.

  6. I haven’t actually calculated savings rate, but I do calculate net worth, and it has a lot of the same dilemmas on how to input numbers. Nobody ever wants to chat with me about finances in this detail, with real numbers, in real life. However online, every blogger lets numbers fly. It is in the best interest of the blogger to give you GREAT numbers. Who knows if they are true? You can’t really blame bloggers. I don’t want an out-of-shape trainer, and I don’t want to read the opinions of a poor personal finance blogger. Savings rate and net worth are very personal. If you were to look at my savings account today, it might be impressive. I don’t feel very secure though, because I know I only get my teacher paycheck for 3 more months, and then I have to survive the summer unemployment, and I know I will pay for sem 1 of college tuition soon. I don’t consider any of that money saved. I will spend that money in the next 5 months. I plan on “saving” $20k next school year, but I will spend it on my son’s sophomore tuition the following year. It’s not really saved, and I don’t consider it part of my net worth.

    1. I so agree that net worth has a lot of the same failings as savings rate. Different people calculate it differently for different reasons. The only thing that really matters is how you chose to track it and how it relates to your goals. I also track net worth (have for 15 years plus now) but it’s just for me. And I have it divided into subsections for different goals.

      On the bloggers publishing net worth-I do like seeing where someone stands, but mostly so I know where in the journey they are. Someone who’s early & still learning has a different perspective than someone who’s been a saver for years. But of course there’s no “internet net worth police” that will arrest you if you lie.

  7. Honestly I’m also not a fan of using net worth as a goal (I referenced this as a post on my blog) because so much of your net worth is tied to values outside your control. I do feel savings rate is a good metric to determine how your proceeding, even if its a terrible comparison tool. I.E. In your examples of different measures, holding the measurement system constant, increasing the values will benefit both individuals.

    You are right though, your metric needs to be aligned with your goals. That being said I would argue everyone should have savings rates as one of their metrics as everyone should strive to at least be financially independent sometime in the long future. However if they are saving for something specific they should also have other metrics in line with their specific goals to support. I.E. what you really need is a system of metrics in line with your goals.

    For the record I measure savings rate as follows: All amounts I put aside and do not spend as sourced directly from earnings: 401K, 401K match, HSA, Principal on a mortgage ect. I do not view debt payments as savings as I have spent the money (either in this period or a prior one). Hence no mortgage interest, taxes, car payments, etc. Also since it’s directly sourced, stock market returns are ignored. My total income is used as the denominator (no I do not up it for match value).

    1. I love tracking net worth but my goals are all tied to the amount I save-I can’t control the movements of the market. This is especially true as the swings in your portfolio exceed your contributions. Before that point, net worth goals are useful – after that, not so much. I still do not personally find it useful to my goals, and prefer to focus on absolute dollars vs percentages. There are so many different formulas out there that it’s only useful to you if you’re comparing yourself to your previous performance.

      1. “There are so many different formulas out there that it’s only useful to you if you’re comparing yourself to your previous performance.”

        Agreed. While I support benchmarking some metrics against others, savings rate would not be my choice.

        My only concern with absolute dollars (and I like them too) is that if I get a pay raise of 15% its hard to yardstick if I used that increase appropriately via absolute dollars. Still you could use other metrics as a work around.

  8. I’m one of those people who inflates our savings rate as much as possible! LOL. But when I compare our rate, I only compare it against our past savings. You’re right that total savings rate should only be relevant to your personal goals. I do think it is a helpful number to calculate, though, for several reasons: one, because it shows you how much of your income you’re spending, and two, it shows you how fast you can expect to get to FI. I think the best way to check the honesty of your savings rate is to calculate if you actually can live on $X per month or $X per year. If we make $100K per year net and save 50%, then can we actually live on $50K? If we can, then we’ve calculated correctly. Thanks for another great post!

    1. Right, no point in cooking the books to artificially inflate your savings rate! The only person you’ll hurt is yourself. That’s actually why I prefer using dollars and not savings rate percentages. In your example, I’d be focusing on the “living on 50k” part of the equation.

  9. I take my pre-tax income and then subtract out all expenses. If I’m making investment contributions, I don’t subtract those out.

    I agree with you – you have to ask the right questions and have your goals in place to use savings rate effectively.

    Thanks for sharing! 🙂

  10. We calculated our savings rate based on our gross income. But more importantly, we looked at what our money was doing as a whole: contributions, savings, employer matches, dividends and growth. Also, it’s important to understand what buckets you put your money in and when/how you can access it. Great post, as always!

    1. So true that the timing of when you can access your money has to be a key part of your overall strategy. That’s why I use subcategories for my net worth, so I can see how much is in each account type for which goals. It’s interesting how even just in this comments section, I’ve seen five different savings rate calculations! 😀

  11. And all this time…I keep seeing people post about savings rate and I’ve felt guilty that it’s not something that I’ve spend the time to complete. I can scratch this off my list, because I completely agree with you:
    Meeting your goals trumps any arbitrary number. It’s all about your why and your purpose for your life and money.

    1. Yes I first started seeing it on blogs a few years ago. I tried calculating it then, but it just wasn’t useful so I didn’t do it again. Also I just kept reading so many different formulas that I don’t know I could have calculated it if I wanted to!

  12. Ha, great post, because that topic is on my mind, too! There are so many different ways to fudge the numbers, I’m almost tempted to give up. The savings rate is a ratio of two numbers and depending on what I include and exclude in the numerator/denominator, I can get a rate as low as 30% and as high as 90%.
    The definition I liked the most is to calculate S=X/Y and assume:
    Y = gross income + employer-paid goodies (401k match, HSA match, etc) – Income/Payroll tax
    X = after-tax savings + before-tax savings times (1-T)
    where T is the marginal tax I assume in retirement. That way I assign a value of only, say, $0.85 for every dollar of savings in a 401k.

    1. I think Physician on FIRE wrote an article about that idea (if I’m remembering my blog posts correctly)-discounting funds available in one account vs another due to the type of account. And I agree there are so many formulas that it’s easy to skew the numbers by using the formula that gives you the highest percentage.

      1. Great for you! I agree that it’s easy to get hung up on one metric that may be detrimental to your overall success. I am not sure what our savings rate is to be honest. We recently tried to calculate it and then got into a big discussion of what to count and what not to count that I think really detracted from the meaning of the whole exercise and really served no purpose. Are we on track to to meet our financial goals or not? Who cares what percent it is.

        Just like when the finance experts tell you that you should shoot for 75 – 80% of your current income to live off in retirement. It is totally irrelevant to what we are doing right now and what we need in retirement. I think our number is actually closer to 20% of what we make now and probably less even. 80% of what we make now would be absurd and you can’t ignore taxes!

        I agree that MMM’s article on the shockingly simple math probably ignited the focus on saving rates.

      2. Maybe that’s my next rant-“why the income rule of thumb provided by the financial industry is meaningless!” I know others have been covering that already though. 😀 Your income is irrelevant to your goal on what you’re going to live off, just like your “savings rate” may not be useful to know if you have reached FI. Especially if everyone is using a different formula.

  13. I respectfully “sort of” disagree with this post but I guess that’s because I have a few assumptions in mind when folks are discussing savings rates. I also think it is one of those big picture concepts that is really important in the field of personal finance and getting caught up on some of the details may take away from the power of the concept. My major assumption is that folks who are calculating their savings rate and talking about them don’t have credit card debt. Any amounts going towards installment debt are cash outflows and don’t count as savings at all. Personally, I am debt free besides my small mortgage. Recently I started calculating my savings rate out of curiosity. I count total income in the denominator including pre-tax income. I subtract out all my expenses including pre-tax healthcare costs and include my entire mortgage payment as an expense and that’s the number I use for the numerator. My company match for the 401K is meaningless to “my” savings rate. To me, that’s more of an ROI type thing. I agree though – that if someone is talking about savings rate, it would be nice to know their definition for transparency! I’m working for the time being but my taxable investment vehicles are throwing off a nice little chunk of income these days (I don’t even look at the retirement stuff) and I thought about including that in my personal calculation as well. I settled on leaving it out since I’m reinvesting all proceeds these days anyway. Regardless, good post.

    1. In the comments for this post, I think everyone has had a different way of calculating their savings rate. The thing that matters most is what your goal is, and how your saving/investing/spending behavior supports that goal. If you’re using your savings rate to compare against your past self to see improvements, then it might be useful.

  14. Oh quick add on thought about taxes – I don’t count all my taxes in the numerator or denominator…. I use the net number after taxes since I have my taxes taken out of my paycheck pretty dialed in and I owe just a little when I file. I try to boil it down to actual money saved after tax vs. earned after tax (me tracking the healthcare is kind of a waste but I am only doing that so I have a better handle on those costs).

  15. I love a good savings rate debate! What belongs, what doesn’t…it can go on and on. 🙂 I personally calculate mine because it keeps my goals on track. To be able to live off a certain percentage of your income (provided it stays the same like mine) means you know what you need for future use. But you are correct in saying there is no comparison. For example – I don’t use my companies match as part of my rate. I do consider the HSA. I don’t think debt counts as savings but it certainly helps you to know how much cash more you would be able to put towards your savings if you weren’t in debt. Ugh – it’s madness!! And don’t event get me started on Net Worth calculations… do you count your house? Your car? Your brooch collection?? Haha – these are the great debate she of FI!

    1. Maybe I should do a post on all the different ways to calculate your savings rate found in the comments? 😄 I’m with you if you’re calculating it for yourself, and you have a specific reason for doing the calculation in that specific way. But too often I see people comparing savings rates online without talking about the formulas they use.

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