How to Calculate Your Personal Savings Rate and Why It Matters

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I’ve sensed some confusion in the FI community on what should count as part of your personal savings rate calculations and thought it would be helpful to go over how to calculate your personal savings rate. This is a very important number for folks that are looking to retire early because it helps determine how many more years you would need to work in order to be able to retire. The higher the savings rate, of course, the sooner you’ll be able to leave the rat race behind.

Let’s start by defining the term. A savings rate, as defined by Investopedia, is the amount of money, expressed as a percentage or ratio, that one deducts from his/her disposable personal income to set aside as a nest egg or for retirement.

The U.S. Personal Savings Rate

The U.S. personal savings rate has been hovering around 5 percent for the past few years. That means that we, collectively, have been saving 5 percent of our disposable income. No wonder why Americans are in such a bad shape for retirement. With that kind of savings rate you’ll barely be able to afford retirement unless you make it a priority.

savings rate

Before I got on the FIRE bandwagon, I was part of those sad statistics. I thought that working for a corporation until my sixties was the only path to follow so retirement would be a 30+ year endeavor in which all you needed to save was a small percentage of your salary. Then I woke up and realized that the prescribed lifestyle really sucked and decided to take charge and get rid of debt. After paying off all my debt and joining Mrs. Enchumbao on becoming extreme savers, we can say that retirement will be possible for us within a couple of years. We started calculating our personal savings rate two years ago and have come a long way from saving little. We achieved a savings rate of 67 percent in 2015 and don’t feel deprived of anything. We live a fulfilling life that evolves around quality time with loved ones, vacations that don’t require a ton of spending, and hobbies that don’t drain our savings.

The Enchumbao readers are a different kind of breed than the average population when it comes to saving. Many of them are avid personal finance readers of other blogs and it’s not uncommon to hear folks on the early retirement path with saving rates anywhere from 25 to 75 percent.

How to calculate your personal savings rate

  1. List and add all sources of income: salary, 401(k) contributions made by your employer, rental income, dividends from retirement and non-retirement accounts, interest, government benefits, and any other income.
  2. Subtract the tax that you paid from your gross income to arrive at your net income.
  3. Add up all your savings for the year including both employee and employer 401(k) contributions.
  4. Divide your total savings by your net income and multiply by 100. This is your savings rate.

Example: Martha is a young single lady who makes $60,000 a year. In 2015, her employer contributed $3,000 to her 401(k), which is a 5% match of her salary. She also has a rental property that provided a net income of $4,000. She received $1,200 in dividends from her investments and $50 in interest from a high-yield savings account. Her total “gross income” was $68,250.

$60,000 + $3,000 + $4,000 + $1,200 + $50 = $68,250.

Dividends and rental income get taxed differently than income from a job, but for simplicity purposes, let’s say that Martha ended up paying $14,000 in taxes. She was in a lower tax bracket because she maxed out her 401(k) contributions. Her net income was $54,250.

$68,250 – $14,000 = $54,250.

Martha contributed the maximum amount to her 401(k) of $18,000 and her employer contributed $3,000 (this contribution goes directly to her retirement savings). She also bought some index funds in her brokerage account totaling $1,100 and managed to add $500 to her high-yield savings accounts. She paid down $2,900 in principal on her rental property mortgage. She also reinvested her dividends of $1,200 and kept her interest of $50 in her savings account. The rest of her money was spent. Her total savings were $26,750.

$18,000 + $3,000 + $1,100 + $500 + $2,900 + $1,200 + $50 = $26,750

Martha’s personal savings rate was $26,750/$54,250 x 100 = 49.3%. Martha is looking like a good marriage contender. Who wants to marry her?!?!?! Have you found your Martha yet?

With a savings rate of 49 – 50 percent, Martha will have the option to retire very early in her career. Assuming 2015 is her first year of saving, she could easily retire in about 17 years, assuming an annual ROI of 5 percent and a 4 percent withdrawal rate. You can do you own calculations by trying out the retirement calculator at networthify.com

savings rate

retirement table

A note about mortgage principal payments: I wouldn’t consider the principal pay down on a home as part of the savings rate unless I’m thinking of selling the house after retirement and renting thereafter because these savings won’t provide income. It would only reduce my debt amount and eliminate a current expense once the home is paid off. In Martha’s case, the pay down on her rental property principal will provide her with more disposable income after the mortgage is paid off.

If your savings rate is low, consider making some adjustments to your spending or increasing your income to improve it. If you’re living above your means, then you have a lot of room for improvement, and it would make more sense to reduce spending to get there, because once you eliminate/reduce expenses you no longer have to save to maintain it in the future. You can start by cutting cost on the biggest life expenses such as food, housing and transportation. Downsize to a smaller home, reduce your eating out budget, cut the cable, eliminate one vehicle or take public transportation, increase your heat tolerance to save on energy, get a prepaid phone plan, move closer to work, and find unusual ways to bring in more income.

How is your personal savings rate doing? Do you include principal payments on your home as part of your savings?

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Revealing Our Craziest Undertake After Early Retirement: No Mortgage - We'll Be Paying for Our Home With Plain Old, Boring Cash

Mr. Enchumbao

I work for a large investment management company helping people save for traditional retirement. During my spare time, I write about our FIRE journey here, at Enchumbao. My journey to FI began in 2012. I was in a lot of debt back then, but I turned things around and became debt free a few years later. My wife and I reached financial independence in 2017 and are preparing to retire soon.

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2 Responses

  1. The savings rate in America is laughably small. If it weren’t for Social Security, everyone would be working until they dropped dead. Great breakdown of the math behind calculating savings rates. I wish more people would take heed!

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