Personal finance ratios keep you on track |
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At age 50, your savings-to-income ratio should be 4.5 and your debt-to-income ratio should be 0.75. That means a 50-year-old with an income of $100,000 should have savings of $450,000 and total debt of no more than $75,000.
"People might find that the recommended debt levels are not achievable given the average cost of housing -- this is one reason why many cannot afford to sufficiently save for retirement," says Farrell. "As financial advisers, there is little we can do about the cost of housing, but we can help our clients understand how housing costs may affect financial security."
With reasonable savings and debt targets as a gauge,
people can recognize when they're in an untenable financial situation
and react while there is still time by reducing debt, downsizing
their homes or lifestyles and increasing savings.
Adjusting the savings rate
Not everyone advocates a 12 percent savings rate.
"When you're in your 20s, you can probably get
away with using a ratio of about 10 percent to save up for retirement,"
says Certified Financial Planner Raymond J. Lucia, author of "Ready
... Set ... Retire!" and a nationally syndicated radio
host. "Time is then on your side. You can place more of your
savings into equities for a longer period, and you enjoy the added
benefits of longer compounding on your investments."
Should you fall behind in your savings rate or wait until after age 40 or 45 to begin saving seriously, though, your savings rate must increase substantially.
"If you invest $500 a month starting at age 30 and you let that money compound at 10 percent annually, your investment dollars will grow to about $1.9 million when you reach age 65," says Lucia. "But do the same thing starting at age 50, and you'll end up with a total of less than $210,000."
If you'd annually saved only 5 percent of pay from age 30 to 39, by age 40 you would need to increase your savings rate to 18 percent for every year thereafter to attain a nest egg of 12 times your pre-retirement salary at age 65, says Farrell. For most Americans, a savings rate of 18 percent is ambitious and difficult to manage.
Things get even dicier if you get serious about saving
in your 50s, says Lucia. "In your 50s, you'll have to set aside
between 30 percent and 50 percent of your annual income for retirement.
Simply put, the person who is 50 years old, has no pension and is
planning on retiring in 15 years ... well, that person is going
to have to save a ton of money and it's going to be very, very difficult.
Frankly, getting
a late start will probably mean delaying retirement."
Save now or pay later
It's easiest to prepare and invest for retirement while you're young.
Time is your friend -- it works for you and your money, helping
it grow through the power
of compounding. It also allows you to be more aggressive with
your investments. With the guidance of a ratio road map, you also
have clear milestones to gauge your progress for several decades,
as well as opportunities to make the changes necessary to ensure
you'll be on track to retire at age 65.
When you are close to retirement age, lack sufficient savings and are still burdened by debt, everything becomes considerably more difficult. Planning for retirement expands your options, but poor planning will limit them.
Don and Judith Kulinski, of Milwaukee, are looking forward to enjoying retirement and doing the things they weren't able to do back when they'd been raising a family.
"What we most look forward to, especially during the cold part of the year," says 59-year-old Don, "is to be able to hook up our new trailer to our new truck and go someplace warm, and then, during the summer, to come back home and take a few weeks off whenever we feel like it to travel around Wisconsin."
Thanks to years of systematic saving and sound financial planning, the Kulinskis will have the freedom to do whatever they want in their golden years. Freedom, after all, is the ultimate goal.
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