5 Items Will Consume 50% of Your Income - Are You Prepared?

In these recessionary times, financial tips are flowing fast and furious about how to save money and stick to a budget. Facing a sea of information many people are asking, "Where do I start?" For most of us, five areas of spending will consume over 50% of the money we earn during our lifetime, so that's the best place to begin. The five areas are: Home, Car, Kids, Education, and Retirement. Here's what you need to know about each:

1. HOME: Don't bite off more HOME than you can chew. How much house can you comfortably afford? For most people the answer is a house with a purchase price of no more than 3x their annual household income. Rationale: the cost of a home includes much more than the monthly mortgage payment. It's also property tax, insurance, upkeep, etc. Typically these costs run 2%-3% of the price of your home each year. Assuming a 20% down payment, a 30-year fixed rate mortgage, and interests rates in the 5%-6% rate, the 3x your income rule of thumb will translate into total housing costs of roughly 30% of your gross income.
2. CAR: Don't let your CAR drive you to the poor house. The same logic applies to your car. Most people can comfortably afford a car that is 1/3rd of their annual income. If you make60,000 you can comfortably afford a car that costs20,000. If that seems low - now you know why so many Americans are in financial trouble. They are driving it. A car has many other costs than simply the monthly payment. There's insurance, gas, parking, maintenance, etc. If you follow this rule of thumb, your total transportation costs should be 10% or less of your gross income.
3. KIDS: Don't let your KIDS kick you in the wallet. Kids are expensive. From a purely clinical standpoint the Dept. of Agriculture estimates it will cost220,000 to raise a child born in 2008 from diapers to age 18. And that figure is before you add in the cost of college! Deciding to be a parent is a major financial obligation. Don't make it worse by over-indulging your love bundles.
4. EDUCATION:Don't forget to ask "How high is too high for higher EDUCATION?" It used to be good debt was defined as mortgage and student loan debt... and bad debt was everything else. Not any more. We've now learned that too much of a good thing can indeed be bad. Rough rule of thumb, don't take on more in total education debt than you think you are going to earn on average annually during your first 10 years after graduating (from college or grad school). In plain English, if you think you'll make50,000 a year, don't take out more than50,000 in loans. The logic behind this is that if it takes you more than 10 years of paying 10% of your income a year in student loan repayments, it's going to be tough to meet your other financial obligations.
5. RETIREMENT: Don't underestimate the need to feed your RETIREMENT nest egg. How much will you need to retire? A simple rule of thumb is to multiply your current income by 25. So if you make50,000 a year and want to maintain that standard of living in retirement, you'll need a nest egg of at least1,250,000. Understanding early on in your working life what "your number" is... will help you see just how important it is to plan for this major savings goal.

 

 

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Comments

[rlugbill]

I agree. Much of the retirement saving scare is meant to scare people into handling their money over to "financial professionals", who want a cut of the money.

If you have your house and all other debts paid for, you can live on just Social Security. You are better off paying off your debts, including your house before you start handing your money over to "financial professionals". Once all debts are paid, you can put your money in an index mutual fund to minimize your expenses.

This emphasis on having a multi-million dollar nest egg (instead of emphasizing being debt-free) for everyone when they retire is meant to keep the brokers in business. And coincidentally, it keeps banks happy because if people are investing their money before they've paid off their debts, the banks get to keep charging them interest on their credit cards, car loans, mortgages, etc.

So, keep the banks and brokers happy and try to reach the impossible goal of saving over $1 million for retirement so you can spend your retirement paying off your loans.

[way2muchsense]

To put it in a way just about anybody can understand, get out your annual mortgage statement. Find the principal+interest portion of your monthly payment. That's as good as an extra pension check if you've paid off your mortgage because you now only have to come up with the property taxes and insurance.

[cornelison]

For some, health care costs will cancel out 3 of the 5 items. People who still have jobs cannot retire at 65. They're broke.

[dontomas]

#5 must have been made up by a financial broker, retirement does not eat up 25 times your annual income. Like most everyone I know that has retired, you downsize and since you already have enough junk you quit buying things. I am living just fine on social security and never touch my savings. I think this retirement income is strictly for people who think non stop traveling all over the world is retirement.

[GrandMaSassy]

Thank you for your comment. #5 scared me. I am only 3 years away from retirement and have nothing like the numbers they talk about.

[dontomas]

I should add that I have no mortgage debt since I sold a home and bought a much smaller home for cash. I have a 10 year old car that runs just fine and very seldom go out to eat. I find very little change in my lifestyle from when I was working and making three times what I get from Social Security. Another plus is I am remodeling my home without the use of contractors which builds my home equity and keeps me healthy.

[sonoffestus]

I agree. I have nothing to prove it, but I am convinced that some of these retirement formulas are generated by the investment community inorder grab more cash. I am not talking conspiracy, but
a little marketing goes a long way.

Everyone needs to save and invest in what works for you, but I think the numbers needed to retire comfortably are a bit out of line.

I have a retired friend who says the same as you . He can't spend his pension fast enough. He's laughing all the way to the bank. Good for him I say.

[derrick99]

Seems high to me, too. I think people should be encouraged to vastly over-save for retirement, if only for the peace of mind and the possibiilty of living longer than you think. However, this formula assumes that you yield 4% per year, pre-tax and never touch the principal. I also ignores Social Security, although anyone under 50 would be wise to do that as they calculate thier "number." Sill, I would rather die rich than penniless. Keeps the children coming to visit, too!

[gretchenart]

what about healthcare? It was 15% of my expenses last year!