How Much Do You Need to Save to be Financially Independent? That’s an excellent and challenging question.

When I was young and impressionable, my uncle taught me about it using an example. He showed me a spreadsheet of two investors. He called them individual A and B, but I will refer to them as Amy and Sam. They are both age 22.

Amy invests $200 a month for six years and then stops.

Sam spends $200 a month on himself for six years, but then starts saving $200 a month for the next 37 years.

They both earn 12% per year.

Does Sam end up with significantly more money at age 65?

No, despite saving for 37 years instead of only 6 years, Sam ends up with about the same amount. Amy saved $14,400. Sam saved $88,800. They both had more than $1.6 million at age 65.

I was hooked. What was this sorcery? I was thinking to myself, “You’re telling me I can save a little bit of money for a couple years and never save again?” Sign me up.

This was my first real lesson in compounding. Ever since, I’ve been interested in savings rates, how to reach goals sooner, and calculating what it would take to reach financial independence more quickly than average.

Now, fortunately for my uncle, he lived through a time with 12% stock market returns. Unfortunately for me, expected future returns are estimated to be lower, which means 12% is far more optimistic than what I want to use for planning.

But, the lesson still holds weight: start early and let compounding work for you.

One of the questions I get asked most is, “How much should I save?” As you can imagine, the answer is usually, “It depends.”

My follow up questions are usually:

- How much are you saving now?
- Do you have an emergency fund?
- How much can you save?
- How much are you willing to give up today for future spending?
- When do you want the choice to stop working?
- How are you investing?

As with most money conversations, these questions usually lead to other questions and then more questions.

But, I want to provide a framework for how to think about how much someone would need to save assuming different levels of desired spending at retirement.

**Learning Opportunities:**hide

## 25 Times Your Income or 4% Rule

There is a rule of thumb that you need 25 times your desired annual spending saved before being financially independent. This works out to a 4% withdrawal rate.

For example, if you want to spend $50,000 per year, the rule of 25 says you need $1,250,000 saved. If you divide $50,000 by $1,250,000, it is 4%.

You may have heard of the 4% rule. It says you can spend 4% of your portfolio assets each year adjusted for inflation and have a high confidence of not running out of money during the course of 30 years.

While the original study that came up with the 4% rule was based on a 50% stock and 50% bond portfolio during 1926 until 1976, subsequent studies have supported it. In many time periods, people have been able to support a higher than 4% withdrawal rate. The reason for this is because between 1926 and 1976 includes the Great Depression, when markets dropped more than 89% between 1929 and 1932. Other time periods have never seen returns this bad.

However, I tend to be very conservative when it comes to savings rates and planning for the future. Plus, people are living longer, and I’d like the option of being financially independent sooner, which means the money may need to last longer than the 30 years they used in the study.

In addition, interest rates are lower and one could make an argument for lower future returns for a 50% stock and 50% bond portfolio. The study also didn’t allow flexibility for higher spending years, which many people experience in the early part of retirement. Most people do not spend the same amount adjusted for inflation every year.

## 30 Times Your Income or 3.3% Rule

Therefore, I use the rule of 30 times, which works out to a 3.3% withdrawal rate. Is it too conservative? Perhaps, but I’d much rather save more and be pleasantly surprised that I can spend more later.

If you assume you need 30 times your desired annual spending in your portfolio before financial independence, below is the chart that says how much you need to save depending on how quickly you want to reach that goal. It assumes you earn a 4% inflation adjusted rate of return.

For example, if you want to spend $75,000 a year, your goal is to have $2,250,000 saved. To reach that in 15 years, you need to save $112,367 per year or about $9,364 a month. To reach that in 40 years, you need to save $23,658 per year or about $1,972 a month.

This should give you a quick, back-of-the-envelope calculation of how much you need to save. It doesn’t include Social Security, rental income, or other income sources, which may be a part of your financial independence plan.

One of the issues with this analysis is lifestyle inflation or lifestyle creep. If you are in your 20s today, you may think you only want to spend $50,000 per year, but if you continue to get raises, there is a good chance you will experience lifestyle inflation.

## Lifestyle Inflation – How Much of Your Pay Raises Should You Save?

Lifestyle inflation is where you spend more as your income increases. Basically, you “improve” your living situation by spending more and that becomes a baseline by which you become accustomed.

For example, if you earned $75,000 in your 20s and earn $100,000 in your 50s, there is a good chance you are not living on the same $75,000 anymore. You likely are living on something closer to $100,000, which means if you want to spend the same amount in retirement, you need $3,000,000 saved instead of $2,250,000. If you had been saving towards the goal of $2,250,000, you now have a shortfall of $750,000.

That won’t be easy to make up.

One way to combat this issue is by only spending a certain percentage of each pay increase. It’s much easier to give yourself a 30-50% pay increase with each raise than it is to cut back 30-50% in the future.

For example, if you get a 50% raise from $50,000, you will earn $25,000 more. Instead of spending the full $25,000, which would mean spending $75,000, try to save 50% and spend 50%. This would mean spending $62,500 per year and saving an additional $12,500.

That’s much easier than spending $75,000 and then trying to cut $12,500 of your expenses in the future.

50% for “present you.” 50% for “future you.” Your future self will thank you.

Where did the 50% come from?

Years ago, I read somewhere to save 50% of your pay raises. I couldn’t recall where I had read it or the math behind it, but thanks to Nick Magiulli’s recent post, which was inspired by Nate Eliason, I found where I had read it – Michael Kitces.

Here is Nate’s post: https://www.nateliason.com/blog/75-percent-rule

Here is Nick’s post: https://ofdollarsanddata.com/lifestyle-creep/

I wanted to recreate Nick’s data to see how things changed if I used the rule of 30 instead of the rule of 25. I also wanted to look at how long it would take to be financially independent. Below is the table that says based on your initial savings rate, what percentage of your raises you need to save to retire at the original retirement date. It also says how many years it takes to reach financial independence. It’s assuming 3% pay raises, 4% inflation adjusted returns, and needing 30 times your annual spending.

Initial Savings Rate | Years of Savings to Reach Financial Independence | What Percentage of Your Raise to Save |

10.00% | 63 | 38% |

15.00% | 53 | 44% |

20.00% | 45 | 50% |

25.00% | 39 | 56% |

30.00% | 35 | 58% |

35.00% | 30 | 64% |

40.00% | 27 | 67% |

45.00% | 24 | 69% |

50.00% | 21 | 73% |

55.00% | 18 | 78% |

60.00% | 15 | 86% |

Out of it, I am creating two new rules. Yes, they are made up. These rules don’t exist anywhere – yet.

## The Rule of 20% and 50% | The Rule of 35% and 65%

The first rule I will call The Rule of 20% and 50%. If you want to retire in 45 years, save 20% of your income and save 50% of every pay raise.

The second, I will call The Rule of 35% and 65%. If you want to retire in around 30 years, save 35% of your income and 65% of every pay raise. Yes, I know it’s not 64% like the table above, but it’s a lot easier to remember. Plus, all of this is based on assumptions and we live in the real world. The real world will be different from the assumptions.

Why did I pick these two rules?

Although fewer people are working linear careers where they work for 30-45 years and then retire, it’s a helpful framework because many people are still working 30-45 years before retiring. If you want to work on that timeline, it gives you a basic idea of how much you’ll need to save and how much of your future pay raises you’ll need to save.

There are too many tips or rules in personal finance. I wanted to boil down savings to something simple anybody could follow and make it as close to bulletproof as possible.

If you saved and invested 20% of your income and 50% of every future pay raise, there is a good chance you’ll be financially independent within 45 years, possibly sooner. For most people, that is a normal career.

Yes, when you are in your 20s, it may not be possible to save 20% of your income, but again, it’s a framework. If you can only save 10% to start, that is okay. Start with 10% and figure out a way to save more with future pay raises.

## Saving 100% of Every Pay Raise – A Fun, Unrealistic Example

Lastly, I thought it would be interesting to look at how quickly you could be financially independent if you saved 100% of every pay raise. If you were going for FIRE (Financial Independence, Retire Early), this might be for you.

While I don’t love everything about the FIRE movement, I do like it’s emphasis on savings. I think it is a little extreme because many people attempting FIRE are saving 50-70% of their incomes and living off $30,000-$40,000 per year. I applaud them, but I also know I personally want to enjoy life along the way and that would be tough on $40,000 per year without a paid off house.

If you were to save 100% of every raise, below is how many years it would take to reach financial independence and how many years you were saved from working.

Initial Savings Rate | Years of Savings to Reach Financial Independence | Years Saved from Working |

10.00% | 29 | 34 |

15.00% | 27 | 25 |

20.00% | 26 | 19 |

25.00% | 24 | 15 |

30.00% | 22 | 13 |

35.00% | 21 | 9 |

40.00% | 19 | 8 |

45.00% | 18 | 6 |

50.00% | 16 | 5 |

55.00% | 14 | 4 |

60.00% | 13 | 2 |

65.00% | 11 | 2 |

For example, if you started saving 20% of your income and saved 100% of every raise, you would reach financial independence in 26 years and that is 19 years sooner than if you had not saved any of your raises.

As you can see, even if you only start with a 10% savings rate, if you can remain disciplined to saving pay raises and not allowing lifestyle creep, it can significantly decrease your time until financial independence.

This works for two reasons.

One is that your lifestyle did not inflate, which means you did not need even more saved for retirement to support the more expensive lifestyle.

Two is that even though your savings rate starts at 10%, by saving 100% of your pay raises, your savings rate goes to 12.6% the second year and by the 20th year, it’s at 48.7%. By financial independence in year 29, your savings rate would be around 60%. It’s a small increase each year, usually only a few percentage points. It’s unrealistic most people will be able to spend the same amount today as they will in 29 years because of inflation, but it’s a fun exercise to show you the extremes of what is possible.

## Summary – Final Thoughts

Life is about trade offs. You can spend a dollar today or you can save it and spend a few dollars in the future. What I love about the chart above is it puts it in real working year terms. You can technically not spend any increase in your pay if you want. The benefit is less years you will need to work.

You are the judge in deciding how much of it you save.

The question of “How much do I need to save to retire?” is a popular one. As you can see, it’s not a one size fits all approach. We didn’t even begin to scratch the surface of folks who want to work for a few years, take a year off, and then work again for a few years. They would need a much higher savings rate and a different plan than someone who anticipated working for 30 or 40 years straight through.

Regardless, savings is important. It gives you flexibility. It buys back your time in the future. As you receive bonuses and pay raises, think carefully and intentionally about how you want to handle lifestyle inflation. Make a plan now, so you don’t allow the default to be spending. It’s okay if you want to spend 75% of your pay raise. At least you know the impact it will have towards financial independence.

If you are starting early and want to be conservative, aiming to save 25% of your income and 50% of pay raises is a good goal. If you are starting later in life, use the first table to create a plan of how much you need to start saving to reach financial independence.

Good luck saving!