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- Many financial 'rules' should serve only as guidelines — and can be broken.
- An emergency savings account of three to six months salary is considered normal, but it should depend on personal circumstances.
- No rule is one size fits all, so you should make decisions by what works best for you.
When it comes to personal finance, you've probably heard all types of "rules of thumb" to follow. Yet the painful truth is that there is no one-size-fits-all rulebook for financial success.
These rules are good places to start. However, blindly following them won't lead to satisfying results. The future is unknown and every individual's goals and circumstances are unique.
What you can do is use the rules as general guidance. Assess your goals and needs regularly, and adjust your strategies for saving, investing, spending, and debt payment accordingly.
We’ve summarized 10 common personal finance rules that you can refer to but can feel free to pick and choose based on your own situation:
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1. Save 10% for retirement
If you are comfortable enough to start saving, a common rule of thumb is to save 10% of each paycheck for retirement.
Catherine Hawley, a San Francisco-based financial planner, told MagnifyMoney that 10% may be too low a bar for many workers, especially those whose incomes may fluctuate.
"[This rule] might be better thought of as a starting place one builds on," Hawley said. "If you have a high income but anticipate switching careers or if that income is not stable, such as some sales jobs, your long-term savings rate may need to be closer to 50% to keep you on track for retirement."
By saving more now, you're allowing yourself a cushion of protection if you were to see a major reduction income.
Another reason the 10% rule isn't so great is that some people simply can't afford to go there just yet. In that case, it's much better to start with 4% or 5% and work your way up than let this rule dissuade you from saving at all.
Instead: If you are earning a lot, don't let the rule stop you from saving more. If you are early in your career, you don't have to get up to 10% all at once. At the very least, contribute enough to your company-sponsored retirement plan to capture the full company match, if you are offered one. From there, consider increasing your contribution based on your other financial goals.
2. Whatever you do, max out your 401(k)
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Financial planners can't emphasize enough the importance of saving for retirement: The earlier you start saving and the more you contribute, the better. But maxing out your 401(k) isn't necessarily a good idea for everyone.
The legal maximum amount you can save in your 401(k) is $18,500 in 2018 ($24,500 if you are 50 or over). If you were starting from scratch, you would have to tuck away more than $1,500 a month to max it out by the year's end.
If you are a high-wage earner, it's great if you can max it out without much effort. But if you make $50,000 a year, you would have to stash nearly 40% of your salary for retirement.
Remember, this is money that, if contributed to a traditional 401(k), can't be withdrawn until age 59 1/2 without incurring penalties (with some exceptions).
Planning for retirement from an early age is wonderful, but there may be other goals you want to achieve when you are young and need money in the near future. For example, you might want to prioritize paying off high-interest debts like credit cards or auto debt before throwing a good chunk of your paycheck into your retirement fund.
And you should definitely save up at least a few months' worth of income in your savings account so you have money set aside in case of emergencies.
It's not wise to sacrifice your current life goals if maxing out your 401(k) is a tough task.
Instead: Although there are multiple benefits to saving for retirement, you may want to take a holistic view of your financial situation and review your near-term financial goals before deciding whether or not to max out your 401(k). Read our guidelines on things you should consider before hitting that maximum.
3. Save at least three to six months' worth of expenses
One common financial planner mantra is that you should have an emergency fund to cover three to six months of expenses.
Clearly, not many people can achieve that goal. The Federal Reserve reported that in 2016, 44% of Americans could not come up with $400 in cash to cover emergencies.
Depending on circumstances, some people probably can make do with a smaller cash reserve, but others may need a bigger one.
Hawley suggested for those who have consumer debt, they may be better off having a smaller emergency fund while prioritizing paying off one's deficit.
A person who has an unstable income or several mouths to feed may find that three to six months’ worth of expenses may not be nearly enough. For example, if you're a freelancer or a seasonal worker, you may want to double your savings goal so you can cover any dry spells.
"If you are very conservative or in a volatile industry where you periodically get laid off you may be more comfortable with more cash on hand," Hawley added.
Instead: An emergency fund is an account you can use to cover necessary expenses in case you lose a job, your car breaks down, or you get hit by an unexpected hospital bill. Your non-routine costs like a vacation or a kitchen renovation should not be part of the calculation.
Don't be afraid to go below or beyond the three-to-six-month rule considering your needs and debt situation. In general, the less steady your job is and the more dependents you have, the larger your emergency fund should be.
See the rest of the story at Business Insider
