A few weeks ago Jean Chatzky created a bit of a storm on Twitter when she tweeted out the Fidelity guidelines for how much to have saved by what age. I was actually surprised that it was so controversial, given that Fidelity has had these same guidelines out for a few years now. I guess people pay more attention when somethings on Twitter than when a financial company publishes it on their website?
Of course, most of those 1600 comments were people complaining about why they don’t like this rule of thumb, why it doesn’t apply to them, and making fun of people who do try to hit these benchmarks by doing such outrageous things like making coffee at home and not spending $20 on avocado toast.
Although my friend Guy on Fire will somehow will achieve retirement while buying avocado toast. Which we all know is impossible, so he must have a trust fund somewhere.
This got me thinking about overall financial rules of thumb. Are they good thing? Bad? Only good if you’re going to hit them, but bad if you don’t?
Financial Rules Of Thumb
We’ve all seen them around the internet, and in financial books. They’re the guidelines and rules that tell you whether or not you’re financially on track. I can rattle a bunch of them off the top of my head (why yes, I am a personal finance nerd. Why to you ask?):
- Dr. Thomas Stanley’s Millionaire Next Door formula for Prodigious Accumulators of Wealth (PAW) and Under accumulators of Wealth (UAW):
- PAW-Net worth is more than twice the product of their age and one tenth of his/her realized pretax income (2* Age * (Income*0.1)).
- UAW -Net worth is less than than half product of their age and one tenth of his/her realized pretax income (0.5* Age x (Income*0.1)).
I used to be frustrated at this formula because I first read The Millionaire Next Door in my 20’s. Frankly it just doesn’t work at that age. I didn’t know that the doctor had actually wrote more about how to (and how not to) use this formula in his article How Wealthy Should You Be until I was researching this article right now. He says:
“So what if you didn’t start working until you completed an advanced degree, served in the military or were disabled? In such cases, you need to deduct those years from your current age when using the Wealth Equation. Again, if you haven’t reached your 50s, the Wealth Equation is likely to overstate what you should actually be worth.”
- Fidelity’s new college savings rule of thumb, stating you should have saved “$2,000 * age of child” as a guideline to paying for half the cost of an in-state, public school
- Ah but their old rule of thumb was much more complex. Launched in 2010, it varied by income level, and public vs. private. For a public institution, you would save about 3% of your salary per child every year from when they were born. Private ranged from 5.5-9%, with lower percentages at higher income levels
What about for retirement?
- Fidelity recommends aiming to save at least 1x your income at 30, 3x at 40, 7x at 55, 10x at 67.
- Although they used to recommend 1 times salary at age 35, then 2 times at 40, 3 times at 45, at 60, you should have 6 times your salary at that age set side, then finally 8 times by age 67
- Multiply your needed annual expenses by 25. Or the inverse, use the 4% rule to make sure that you only need to withdraw 4% per year
- Save 10% of your income for retirement. Or 15%. And the employer match counts. Or it doesn’t.
- When I started saving and investing in the late 90’s and early 2000’s, it was always 10%. Somewhere along the line it bumped to 15%
No wonder people feel like this about financial rules of thumb.
What were some of the responses?
- Penny from She Picks Up Pennies said “I wrote a post about this once. Can’t wait to check out yours! Some are fine, some are total garbage.”
- Felicity from Fetching Financial Freedom says “They’re kind of like BMIs — useful only on a population level / for general frames of reference”
- John from Present Value Finance mentioned “It’s complicated. Everyone’s situation is unique enough that they quickly become meaningless. That said, it’s still better than flying blind!”
- KiwiandKeweenaw said “I like them to initially make a topic more approachable, but they can be limiting!”
- Revenache from A Gai Shan Life had an “Extended thought: I like having them to have a baseline but then I customize almost everything for our lives.”
- And Kong Shi from Kong Template says “I like them for what they are – guidelines. But they should be flexible to adapt to varying circumstances as well.”
My Thoughts – It’s Complicated
The problem with financial rules of thumb is that since they’re created to try and apply to everyone, they actually apply to no one. The 4% rule at least is based on math and stock market history. But the rest of them are such general guidelines that they’re not very useful.
Personal finance is personal. That’s why you can’t really rely on a rule of thumb, or on the reverse side, get annoyed or frustrated when you don’t meet it. Take it for what it is-a general guideline for a general population-and a starting point. If you don’t meet it because you started saving late/became a doctor and was in residency at 30/were in the military/are disabled/etc., it’s not really the guidelines fault. You just need to understand that it probably doesn’t apply to you, and instead of using a rule of thumb use math.
The only way to really figure out what you need is to actually figure out what you need. What’s your goal, what’s your timeframe for reaching said goal, what do you already have and what more do you need. Then you can form a clear plan how to get there, and adjust the plan based on changes in your goals/life/financial situation as time goes on. Personal finance is personal, but it also changes over time with you and your life circumstances. Plan for and expect adjustments, bumps in the road, and changes in your goals. Those don’t mean you give up, just that you tweak and move on.
What Do You Think?
Do you love financial rules of thumb? Hate them? Or do you also think it’s complicated? Let me know in the comments.
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