In order to retire with a healthy amount of savings, you are going to have to save close to 15-20% of your income each year. For many of us, this is hard, if not impossible, to do. But there is a solution out there that can help you painlessly reach that level of savings. For the more aggressive people out there, I’ve already laid out a plan called burst savings. This plan has you save very large amounts of your income each year over a shorter period of time. If this is too aggressive for you, I offer the 1% solution.
Whatever you are currently saving, make it a goal of increasing that amount by 1% each year. This should not be difficult to do. If you get a raise at work, say 3%, treat it as though it was 2% and save that 1%. While this amount does not seem as though it adds up, with time on your side, saving 1% more does add up nicely.
Not Saving More
The gray line in the chart below shows how much money you will have in 25 years assuming you earn $30,000 per year and save 5%. It assumes you earn 6% per year and that inflation runs at 3% annually. Finally, it assumes you do not receive a raise at all, so you are consistently saving the same amount each year.
As you can see, in 25 years, you will have saved a little more than $79,000. This is a nice little sum of money, but it can easily be more. Let’s take the same facts from above, but assume that you increase your savings by 1% each year. Your savings will max out at 16% per year. (This means that once you are saving 16%, you will not save 17% the following year, but will continue to save 16% each year thereafter). Again, this does not take into account any increases in income.
As you can see, saving just 1% more each year for 25 years increases the size of your nest egg to $219,100. That is an increase of close to $140,000! This is highlighted by the blue line in the chart above.
Saving More and Earning More
Now the real fun begins. Let’s assume the same facts as above ($30,000 annual salary, saving 5% per year with a return of 6% annually for 25 years. Inflation is 3%.) But now you receive a 3% raise each year and save an additional 1% each year. Note that your savings rate maxes out at 16% again. After 25 years, you have saved over $332,000! That is a nice amount of money.
I hope you can see what impact saving just 1% more each year has on your savings. It doesn’t seem like a lot of money and in reality it isn’t. But when you factor time and compound interest into the equation, that small amount of money goes to work for you and in time, you will reap the benefits of it. I urge you to try out the 1% more savings calculator from the New York Times where you can play around with savings amounts, returns and time horizons to get a better feel for how much an extra 1% adds up to.