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A
Prescription for Financial Success Justus
Morgan |
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What do
appropriate health and financial advice have in common? Neither can be
followed overnight nor rely on quick fixes. In fact, the truth is that it
takes discipline, patience and even a little sacrifice to maintain your
health or achieve financial independence. If you’re
trying to lose weight, exercise and a healthy diet have been shown to be the
most effective. But who wants to follow this approach when an alternative
promises to lose the weight in half the time with no exercise required? Of
course, this only happens if you buy a “magic” diet pill. It’s no surprise
when you later find out this was more hype than results and the only thing
that’s lighter is your wallet. In many ways, saving for retirement is
similar. You see
many more articles and advertisements about which investment someone should
use rather than whether they are saving at a sufficient rate. Financial product
companies are more interested in selling you their latest financial products
than determining whether you can actually achieve your goals. This leads to
unrealistic expectations about performance and under appreciation for what it
takes to accomplish financial goals. There is
a recent effort to try to create a set of national guidelines for individuals
to follow to determine whether they are setting aside sufficient funds for
retirement. As with any broad generalization, there are certain assumptions that
can significantly change the outcome of the recommendation when changed. However,
the idea is to provide a reasonable guideline with as few inputs as possible. An
article published in the April issue of the Journal of Financial Planning attempted to quantify appropriate
savings rates as a guideline for individuals saving for retirement. They
looked at three variables including age, income level and prior savings
amount. Based on these three factors, the authors provided guidelines for how
much individuals should be setting aside. Savings rate recommendations ranged
from 10% of income for a 30-year old earning $40,000 with zero saved to 35%
for a 50-year old earning $120,000 with zero saved. Depending on which
variable you changed, the recommended savings rate could be more or less. For
instance, it’s common knowledge that the sooner you start saving, the less
you need to save. In addition, the more you earn, the more you need to set
aside because you will need to replace a larger dollar amount of income. Plus
government entitlement programs, such as Social Security, have a limit on the
earning amount covered which limits the benefits to higher income workers
(currently anyone earning more than $97,500 annually) requiring those
individuals to save more. Another
issue addressed in the article was the impact of saving itself and how it
affects how much is required to be saved. For instance, if you are saving 15%
of your income, you only have 85% left to spend. The income needed to be
replaced at retirement is less the more you save. This is important because
it gets at the heart of the definition of savings which is spending less than
you earn. The
bottom line is that your financial wellness requires as much discipline and
attention as your personal health because both are long-term goals. The recent
Journal of Financial Planning article
provides a baseline for starting your own financial health regimen. To read
the full article, visit http://www.fpanet.org/journal/articles/2007_Issues/jfp0407-art6.cfm
and view Table 2 for guidelines based on different ages, income and initial
wealth. |