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Financial Rules of Thumb

January 13, 2021

Financial rules of thumb are designed to provide quick guidelines for your finances. However, you shouldn’t blindly follow them without giving thought to your personal circumstances. Some of the more common financial rules of thumb include:

Save 10% of your gross income. While this will give you a good start, it’s typically the minimum, not the maximum, you should be saving. It was devised when most people could count on a defined-benefit pension plan for retirement benefits. Analyze how much you’ll need for your financial goals, and then work backwards to calculate how much you should be saving.

Plan on spending 80% of your preretirement income during retirement. This may be true if you don’t plan to be very active during retirement, but more and more people expect retirement to include extensive travel and expensive hobbies. On the other hand, if you’ve paid off your mortgage and your children have finished college, you may need less than this. Review your individual situation and desires for retirement to determine how much you’ll need.

Set the percentage of stocks in your portfolio to 100 minus your age. With increased life expectancies, this can result in a portfolio that is too heavily weighted in income investments. Set your asset allocation based on your risk tolerance and time horizon for investing. Stocks should be considered for long-term financial goals of 10 years or more. Even after retirement, stocks may comprise a significant portion of your portfolio.

Keep three to six months of income in an emergency fund. While an emergency fund is a good idea, how much you keep in that fund will depend on your circumstances. You may need a larger fund if you are the sole wage earner in the family, work at a seasonal job, own your own business, or rely on commissions or bonuses. A smaller fund may be required if you have more than one source of income, can borrow significant sums quickly, or carry insurance to cover many emergencies.

Pay no more than 20% of your take-home pay toward short-term debt. Once considered a firm rule by lenders, you may now be able to obtain loans even if you exceed this amount. However, don’t become complacent if you meet this rule of thumb, since a large percentage of your income is still going to pay debt. Try to reduce your debt or at least reduce the interest rates on your debt.

Keep your mortgage or rent payment to no more than 30% of your gross income. While you can obtain a mortgage for more than that, staying within this rule will help ensure you have money to devote to other financial goals.

Refinance your mortgage if interest rates decline by 2%. This rule of thumb assumes you’ll pay significant refinancing costs, including points, title insurance, appraisal fees, and other fees. However, many lenders now offer refinancing deals with significantly lower costs. Thus, you should assess whether it makes sense to refinance when mortgage rates decline by as little as half a percent.

Obtain life insurance equal to six times your annual income. Different individuals require vastly different amounts of insurance, depending on whether one or both spouses work, minor children are part of the family, or insurance is being obtained for other needs, such as to fund a buy-sell agreement or to help pay estate taxes. Thus, you should determine your precise needs before purchasing insurance.


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This newsletter was prepared by Integrated Concepts Group, Inc. The opinions expressed in this newsletter are for general information only and are not intended to provide specific investment advice or recommendations for any individual. It is suggested that you consult your financial professional, attorney, or tax advisor with regard to your individual situation. The views expressed are those of the author and may not necessarily reflect those held by Randall Wealth Management Group or Vanderbilt Financial Group. Material presented is believed to be from reliable sources and PSEC makes no representation as to its accuracy or completeness.