Building a strong financial future is all about creating a system that starts with a financial plan for investing that allows you to meet your targets every month. Saving becomes automatic–and once you get the hang of it, you’ll find that you can manage your money so much better.
In this plan, you will create three so-called “savings buckets” where you will put money away for taxes, emergency savings, and investments.
The following two “buckets” are where you must put away money for critical needs first before seeing what you have leftover after expenses to put towards saving for investments.
This especially applies to contract workers and the self-employed who do not have taxes deducted from their paychecks. The IRS requires quarterly payments from 1099 filers. Estimate your quarterly payments, then divide those by three to know how much you should put aside each month for your taxes. If your accountant or tax person isn’t already generating a quarterly estimates payment for you, then look at what you paid in taxes last year, divided it into twelve (if you expect to earn the same this year), and put that much money away each month.
Generally speaking, and depending on which earnings bracket you fall into, you may need to put anywhere from 15-30 percent of your salary away for taxes each month. Keep in mind, another big expense for 1099 filers is having to pay the full amount of Social Security tax, while employees have half this amount paid by their employer.
The next important thing to save for is an emergency fund. These are savings that are not tied up in investments but held for a “rainy day” in case you wind up in an emergency situation. You should save 3-6 months of your full salary in savings, in the event you had zero income during that time, according to experts. If you have both household and business expenses, keep separate savings for both. The way to build up this emergency cash stash is to put away 10-20% of your income every month until you’ve reached this 3-6 month threshold.
After putting away money for critical needs as covered above, whatever cash you have leftover after expenses can be saved for your investments.
This is where you will save money for the specific purpose of making investments. Depending on your age, earnings, and how many years you have left working until retirement. These will drive how much you will invest in specific areas.
In a general sense, try to save 20-40 percent of your earnings into a separate account for your investment savings. But if your income is lower, it could be as low as 10-20 percent. Still, investing your money, even at 10% of your salary per month, can add up significantly over time, especially if it can earn you between 5-10 percent, and even grow more through compounding interest. Even if you can only spare as little as 2-5% of your income – investing something is better than nothing.
Very generally speaking, spread your investments from very low-risk things like indexes, certificates of deposit, bonds to medium risk like mutual funds, to higher risk investments such as stocks and cryptocurrency.
If you’ve been keeping score, the math looks something like this: 10-30% saved for taxes, 10-20% saved for an emergency fund, 10-40% for savings/investments. This gives a total of 30-90% of your monthly income put into savings/investments. If you already have an emergency fund established, then this would take it down to 20-70% for savings/investments. Obviously, saving 70 percent of your salary will probably be difficult if not impossible for most people. The rule of thumb should be: saving as little as 2-5 percent of your income to put toward investing is better than investing no money at all.
The bottom line is: building a strong investment portfolio, one that could provide all of your income needs at some point, is important. Another part of your strategy should be to create a lifestyle in the present which allows you to be able to save money. It is a strategy of sacrificing now, enjoyment later, which could include the ability for early retirement.