I'm a big fan of the Dave Matthews Band. I've been to several of their concerts and own pretty much all of their albums. I must admit that I don't pay attention to the lyrics as closely since I find the music itself will usually line up pretty well with whatever kind of mood I'm in that day. But, there is one song, Too Much, that inspired me to share some information on saving and investing.
"I eat too much, I drink too much, I want too much...too much!".
It has been exactly one month since the filing deadline for individual tax returns. This has given me some time to regroup and recharge, mainly by playing golf several times. I have also spent this time catching up with several friends and clients on after-tax-season projects that need to be addressed. In these discussions, a common question arises: what should I do with my refund? This inevitably leads me to encourage them to save it for a rainy day, but how do you know when you have enough saved?
Rule of Thumb
The "rule of thumb" for saving is simple: 6 months of living expenses. If your household spends $5,000 per month to live, then you should have a minimum of $30,000 in a savings account. At first glance, that seems like too much mulah. But consider this: if you (and your spouse if married) lost your job(s) today, how long would it take to find a new one? The 6 months of expenses gives you a cushion to know that you can survive unemployed for 6 months at the minimum. It is also important to note that this savings amount should be "liquid", or easily accessible. The most important factor is that you are able to access the money immediately in the event of an emergency, which is why a simple savings account is the best option for your savings.
Saving vs. Investing
Let's say that you are an above-average fiscally responsible person and you have met your 6 months of expenses savings goal. Congratulations! Now what do you do? This is where investing comes into play. If you have excess funds each month after your living expenses, you can consider investing that money a.k.a put it in the stock market. But what's the difference between saving and investing? Saving is safe; you put $10 in and tomorrow you will still have $10. Investing is riskier; you put $10 in and tomorrow you might only have $8, or you might have $12 depending on the fluctuation of the stock market. It is because of those fluctuations that investing requires a long-term approach. However, you should not try to invest to reach your 6 month savings goal, because of the unpredictable nature of investing and the risk that the funds might not be readily accessible in the event of an emergency.
Other forms of saving
Saving can also be accomplished for specific purposes and life goals. 401(k)'s and 403(b)'s can be used to defer wages into tax-advantaged retirement accounts offered by your employer. Individuals can also contribute to Traditional or Roth IRAs to accomplish additional retirement savings. Coverdell and 529 plans save for education (and make great gifts for your recent high school grad!).
In conclusion, there is no amount I consider to be too much in savings. Plus, "I eat too much, I drink too much, I save too much...too much!" just doesn't flow the same as the original lyrics.