How Much Savings Is Too Much?

Waialae Beach, OahuProdigious savers of the world, unite!  From the post, “How To Retire Early And Never Have To Work Again“, I mention I’ve saved roughly 15-18 years worth of living expenses after saving 55-75% of my after tax income every year for the past 13 years.  If you do the math and follow the chart in the post, you’ll see how you too can save 15-18 years of expenses in 13 years time.

Conventional wisdom says to save six months to one year’s worth of living expense in case something happens to your main source of income, whether voluntarily or involuntarily.  However, I don’t know where this 6-12 months barometer came from, because frankly, I think that’s not very much.

Goodness forbid you lose your job, don’t get a severance, and have a major medical emergency.  Even with health insurance, a 20% copay of something expensive is still a lot of money!

THE IDEAL AMOUNT OF SAVINGS

Instead of saving 6-12 months worth of living expenses, I sugest you shoot for 36 months worth of total living expenses so you don’t have to worry about a thing if something bad happens.  I’m not saying you should have 36 months of living expenses sitting in your checking or money market account at 0.01%-0.2%.  Instead, I’m talking about having 36 months worth of living expenses spread out between savings, CDs, and trading accounts which are easily accessible.  Six months worth of liquid savings in your money market should suffice if you have 30 months worth of savings in other easy to access accounts.

Three years is a long enough time to weather the most brutal of downturns.  Remember when the markets began to crumble in 2000 from the dotcom bubble?  By the end of 2003 and early 2004, the economy had recovered quite nicely.  Remember when Armageddon hit in the 4th quarter of 2008?  It’s now a normal market with unemployment down from the peak and the Dow back to 12,600 as of 6/28/12.  Amazing how far we’ve come in three short years!

The worst thing you can do is sell assets when you really need to sell.  Imagine all the people who sold when the S&P 500 was below 800.  How about all the people who had to sell their properties in the past 4 years?  The majority of people who sold stocks and real estate because they needed the money are kicking themselves now!

Never sell anything when you have to sell!  Having a three year savings cushion will ensure that you financially don’t self destruct and run with the herd like a rabid hyena.

HOW MUCH SAVINGS IS TOO MUCH?

Given I recommend three years or more of livings expenses saved up in liquid to semi-liquid accounts, how much savings is too much?  My initial belief is that no amount of savings is too much so long as you are happy.  Even if you are super frugal with your money, so long as you are happy, and the people around you are happy, then all is good.

Despite my philosophical answer, we should all understand there is a backstop.  Our lives are finite, and the large majority of us will not live past 100.  Working in reverse, we can calculate that most of us need about 18 years of education to begin working a real job.  The first 3 years is hard to save given the lower level of income and potential debt repayment.  At a 50% after tax savings rate, it takes one year of work for one year of savings.   By the time we are in our mid 40’s, if we are saving 50% of our after tax income we can cruise on into retirement if we want.

Based on where I am with my savings, and the quick back of the envelope calculation above, I say that saving anything more than 10-15 years worth of living expenses once you’re over 40 years old is too much and totally unnecessary.  I know people who have fantastic pensions and are still saving despite having 10+ years worth of living expenses covered!

CONCLUSION TO SAVING

Ever since I first graduated college, I’ve had a target to save 20-25 years worth of living expenses by age 40 so that I could have the optionality of retiring and doing whatever I want when the time comes.  I realize that my current 15-18 years worth of savings is an overkill, because there are so many things one can do to make money e.g. teach, write, start a company, etc.

Having an aggressive savings goal pushed me to work hard.  I knew that the only way I could obtain my savings goal was to not settle for any old job either.  The job had to be fulfilling, otherwise I would likely quit after a couple of years due to disatisfaction.  Having a savings goal also helped calibrate what I find to be a good lifestyle with the right amount of expenses.  A large cushion also gives me the freedom to explore the unknown without fear.

If you can treat savings like a game and challenge yourself to save more, I’m sure you’ll have a much easier time.  Set milestone targets in 3 month increments and celebrate each step of the way!

Recommendation For Optimizing Savings:

I suggest opening up a high yielding online savings account with EverBank. They currently offer a 1.11% interest rate on savings which is 10X greater than the national money market average of 0.1%. Withdrawing and depositing money is easy online as you wait to invest your cash. Don’t let the banks get away with paying you so little!

Updated as of 12/01/2013.

Regards,

Sam

 

Sam started Financial Samurai in 2009 during the depths of the financial crisis as a way to make sense of chaos. After 13 years working on Wall Street, Sam decided to retire in 2012 to utilize everything he learned in business school to focus on online entrepreneurship.

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Comments

  1. David M says

    “My initial belief is that no amount of savings is too much so long as you are happy.”

    I absolutely agree with you!!!!

    Regarding available cash – I have about 4 years of cash in I bonds and also have another 3 years of funds in bank accounts and stock mutual funds. Cash is King!

    Goal I do not have any goal! I spend what I need and save/invest/pay down the mortgage with the rest. Is this an optimum way to save – probably not – BUT, it works for me!

    How much should people save – I have absolutely no opinion on that – whatever they are happy/comfortable with sounds good to me. This is America baby – the land of the free!

    • says

      I’m discovering a trend where people who do NOT have much cash think cash is worthless and that we should all be investing in stocks. And people who DO have a lot of cash think “Cash is King”, which I do agree.

      There is also a correlation with age (younger doesn’t have cash or like cash).

      Whatcha think?

      • David M says

        I agree – as you have posted in the past – preservation of capital is important.

        All of my retirement money is in stocks- 401K and IRA’s and I have money I do not need in stocks.

        However, it feels good to have plenty of cash around “Just in Case”!

  2. Chris says

    Sam, minor correction to your post … I believe it’s “Six months”, not “Sex months” in the last sentence of the 4th paragraph.
    That is unless you’re saving your sex up for future needs. LOL

  3. Chris says

    I’d have to agree that 10-15 years of liquid (or semi-liquid) savings after you’ve hit 40, in addition to any retirement savings, would seem a little excessive.
    Not that it’s a bad thing if you do save that much. Just that you have a really large “NUT”, as you like to call it, to do whatever you want with.

  4. Edward Antrobus says

    I like that 36 month figure. I know I struggled to find a job after moving (relocating in the middle of a recession was a bad idea!) and only worked 8 months in the first 2 years. Even this, longer, temporary job is ending soon.

    @Chris “Sex” is the Latin word for the number six, so I guess it still works!

  5. says

    Like you said, no amount of savings is too much, as long as you are happy. I don’t want to limit myself by being too frugal in order to save, but I do want to save A LOT!

  6. says

    Still working on getting to that point where I can have 10-15 years worth of savings. To have that plus real estate stocks, and other sources of income would definitely be a great position to be in. I guess I don’t really have a too much is enough theory as my goal is to have financial freedom at some point so the more saved the merrier in my opinion.

    Also is your savings enough for two people to live or just one? Would you suggest having 36 months to cover just both husband/wife salaries or the one who makes the most? I mean hopefully you aren’t in a situation where both people are out of work for 3 years at the same time.

    • says

      If you are a unit (married), then sure, shoot for 36 months of living expenses to cover husband and wife.

      However, it’s just semantics, b/c if the husband saves 36 months worth, and the wife saves 36 months worth, then technically they both are covered for 36 months!

  7. says

    I’m working on getting a month of savings aside. That’s my first goal but after that, I want to keep increasing it. I don’t think I could ever save too much. I wish I would have started a lot earlier but that is a mistake I’m fixing!

  8. says

    3 years so savings is a lot but as you move through your career if you have a decent savings rate this is entirely possible. I am assuming it is 3 years of expenses, so the more you save the less you have to save (if you save your spending goes down)!

    • says

      Indeed! That is the beauty of savings, and the amazing ability of humans to ADAPT to whatever is given to them.

      I use a base case for 50% of after tax salary as operating expense to base my calculations off of. Unless once is making hundreds of thousands of dollars, living off less than 30% of after tax income and saving 70% is very difficult for most imo. Hence, 50%.

  9. Mike Hunt says

    Sam,

    You really were hyper-focused in college! Good on you.

    I’ve got to about 50+ years of savings but that is only at a current rate of spending that is very low for sure and not indexed to inflation…. so I don’t think it’s overkill.

    Happy as anything though so no worries…

    -Mike

      • Mike Hunt says

        Sam, you hit the nail on the head. It has to do with your age. Just turned 39 last week, so if I get to 45 at the same rate or higher it makes it easier to quit / do something else.

        No worries though as life is peachy work wise…

        -Mike

  10. says

    I think most people should have 12 months savings or more. I think a laddered approach so not all is available at once and can earn a little more interest. Another choice is just having access to funds equal to 12 months expenses.

    I don’t think you can ever have too much because you cannot predict with accuracy how long you will live. This is one of the reasons I still max out my retirement savings.

  11. says

    When you’re just starting to save, the idea of saving 10 years worth of cash seems impossible. Hard work and dedication absolutely makes it possible. As for too much, if your life is comfortable and happy, and you’re able to save, then why not?

  12. says

    Sam, I happen to currently work in a pretty secure job, but if for some reason I was fired…I would say I have about 3 years worth of investments that I can sell (yes, I know-stocks are risky)…and beeing that I basically hate have to touch my investments..I would go out and deliver Pizza if I had to.

    Joe

  13. says

    Stocks are not necessarily risky – be sure to have a diverse portfolio, invest in great companies (think Apple, Amazon, Coach, Starbucks, Whole Foods) and ad cash to your positions after they have built a margin of safety over time – and you will crush the S&P and any other places you might put your money like bonds or CD’s.

    And remember, you only need enough savings to cover your lifestyle so if you live a simple and low impact one, then you won’t need as much!

    Mr. Everyday Dollar

  14. Hiro says

    thanks for another informative post!!

    I understand that spending profile varies by each individual but I’m interested to know how much is the average monthly saving as % of annual salary. Is 12 month saving on average equal to 1 year salary?

    Thanks

    • says

      Example of 50% after tax savings:

      $100,000 a year after tax income salary.
      Save $50,000 and live off $50,000 for one year.

      12 months of savings = 50% of after tax annual income.

      But, you’re used to only living off $50,000 and life is good.

  15. says

    Don’t forget that there are also risks to having savings in cash. If you don’t put that money to work for you earning more then inflation then your purchasing power is decreasing each and every year. Yes it is good to have some money in cash (savings, money market, cd’s) but it’s also good to invest in assets that will appreciate in value or pay you out income to keep ahead of inflation.

    Personally I feel comfortable with about a years worth of savings in cash and putting the rest of my money in stocks and bonds. The bigger my portfolio keeps growing the more and more comfortable I get.

    • says

      How have your returns been for the past 10 years?

      What was your blended stock and bond returns in 2008, 2009, 2010, 2011, and YTD?

      I hope you dont mind, but I always like to challenge people who warn about the risks of having cash savings due to inflation. How big is your portfolio given you mentioned it?

      Thanks!

  16. Jonathan says

    If you start spending all your cash at age 40 with 15-18 years of living expenses saved, and you get comfy spending more, well all of a sudden you don’t have 15-18 years of living expenses saved anymore. Maybe more like 5-10 years. Of course if you have the discipline to scale your lifestyle way back in the event you have to start living off those savings, then you’re still in fine shape. But it’s something to consider.

    • says

      Well, hopefully once one turns 40, they aren’t just twiddling their thumbs all day but doing something more meaningful with their lives that pay them something.

      One definitely has to watch out about spending habits inflation for sure!

  17. says

    Here is a thought: How about save until our savings can create an annual passive income amount that is equal to our annual living expenses? Sounds much better than 6,12, or 36 months.

    In other words, if our living expenses are $40,000 annually, we should have enough saved so that our ROI yields this amount. So, if we have investments yielding 1%, we should have $4,000,000 saved, but if we are relying on high dividend paying stocks we only need about $400,000 saved. Doesn’t this sound a bit better than 36 months?

    Cheers :-)

  18. says

    I think you are doing an amazing job Sam. I don’t think it is an overkill to save 15-18 years worth of living expenses. Here’s why. As you get older, you want to do more of what your soul likes to earn happiness. More money in the savings, allows you to explore and experiment richness of life for pure happiness.

    • says

      Thanks Shiplan. We’ll see if my spending goes up as I get older or not. I’m already going on cruises, which is what older folks love to do! Hopefully I won’t be spending that much more money to maintain my desired level of happiness.

  19. Investor Junkie says

    Society as a whole doesn’t save enough. With that said, yes it’s possible to save too much. It really depends upon your goals and timeline. You have/had a specific goal. I see nothing wrong with that. It’s your money you are best to see fit how to use it.

    One must understand the opportunity cost saving for the future instead of spending it now.

  20. says

    people should have enough savings to help them weather a downturn of a few years like you said, and whatever they want beyond that should be at a level that makes them feel comfortable. If they get to say, 5 years expenses and decide that’s enough, they should stop and use the money in other areas.

  21. says

    Aren’t we really just talking insurance? For many, too much insurance can be a bad thing. I save 6 to 9 months of expenses in my emergency fund, because I have additional assets I can tap if needed. That would mean selling when I have to sell, but then if I’m tapping into those funds I’d probably be loosing lots in interest holding liquid assets, just in case.

    • says

      I’ve got about 8 months in my pathetic money market account earning 0.3%. I had a lot more, but I rolled the dice and invested the rest in structured products. Hopefully the markets are higher in 2 and 6 years time.

      I can transfer money to and from my MM account 6X a month I believe. I just don’t.

  22. says

    Well like anything else it’s subject to diminishing returns. You probably feel less of a difference from having between 50 or 55 years or savings than between 5 weeks and 5 years!

    P.S. Not much cash here, but a good amount of cash is always king. It’s not a great idea to sell off stock to eat if you can avoid it.

  23. Jacob Loveney says

    The savings guidelines seem nice on paper, but you can be a regular employee with 10% saved, and 24hrs later be in danger of losing your job with anywhere from 2 weeks to 2 months to prepare. That is not enough time to beef up your savings to 40%

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