In order to ensure that you build enough wealth over time to happily retire, it's important to invest and to diversify your investments. The potential returns that come with investing can help you create the lifestyle you prefer to live later on. But how much of your income should you invest?
The answer depends on your situation, and what you are trying to accomplish in the future. Here are some guidelines that can help you decide how much of your income to invest:
The 10% Rule of Thumb
One of the most commonly cited rules of thumb in the world of finances is that you should save at least 10% of your income. However, you don't need to save this money in a low-yielding account.
Invest it instead and don't forget that your 401(k) counts as investing. Have 10% of your income automatically saved out of your paycheck and invested through a tax-advantaged retirement account. This will make it easier for you to save — and most people can handle saving out 10% of their income.
Of course, it's even better if you can save more. Some financial gurus suggest that you save/invest 15% or 20% of your income. The more you save, the better the chance that you will end up with more money in the long run.
What are Your Goals?
Rather than relying on a rule of thumb that may or may not apply in your individual situation, it makes sense to get a little more personal with your investing efforts.
Instead, think of your goals. Would you like to be able to pay for your child's college education? You need to figure out how much time you have before your child goes to school and estimate a reasonable rate of return for your investment portfolio. Then, you need to calculate how much you should save each month if you want to increase the chances that you will reach your goal.
This concept works with retirement as well. Think about what you want to accomplish with your money. What is a reasonable rate of return to expect over the time period that you have to save?
Once you know this information, you can calculate how much you need to save each month to reach your goal. There are numerous online compound interest calculators that can help you figure out how much you need to set aside to reach your goals.
Invest as Much as You Can
Yet another approach is to invest as much as you can afford to invest. If you have money that isn't being used for other purposes, it makes sense to put it to work on your behalf. You can work toward maxing out your tax-advantaged retirement contributions.
Once you have done that, it makes sense to open a taxable investment account and build your wealth that way. Think about how you spend your money and the kind of lifestyle you want. If you are meeting your goals and you have money to spare, it makes sense to invest it rather than have it sit idly by.
What do you think? How do you decide how much money to invest?