Your Saving Rate: The Most Important Number in Personal Finance

Apr 04, 2018

In order to survive and thrive, you need to earn a profit.

You already know profit is the lifeblood of every business. It’s like food and water for the human body. Although proper nutrition isn’t the purpose of life, we couldn’t exist without it. Food and water give us strength to do the stuff that matters most. So too, profit isn’t necessarily the purpose of business — but a company can’t survive without it.

Here’s a secret: People need profit too.

In personal finance, “profit” is typically called “savings”. That’s too bad. When people hear about savings, their eyes glaze over and their brains turn to mush. Bor-ing! But if you talk about profit instead, people get jazzed: “Of course, I want to earn a profit! Who wouldn’t?”

Profit is easy to calculate. It’s net income, the difference between what you earn and what you spend. You can compute your profit with this simple formula:


If you earned $4000 last month and spent $3000, you had a profit of $1000. If you earned $4000 and spent $4500, you had a loss of $500.

There are only two ways a business can boost profits, and there are only two ways you can boost personal profitability:

Spend less. A business can increase profits by slashing overhead: finding new suppliers, renting cheaper office space, laying off employees. You can increase your personal profit by spending less on groceries, cutting cable television, or refinancing your mortgage.

Earn more. To generate increased revenue, a business might develop new products or find new ways to market its services. At home, you could make more by working overtime, taking a second job, or selling your motorcycle.

When you earn a profit, you don’t have to worry about how you’ll pay your bills. Profit lets you chip away at the chains of debt. Profit removes the wall of worry and grants you control of your life. Profit frees you to do work that you want instead of being trapped by a job you hate. When you make a profit, you truly become the boss of your own life.

With even a small surplus, the balance of power shifts in your favor.

The Most Important Number in Personal Finance

If you’ve ever calculated your net worth, you know that number is a snapshot of your current wealth. But it’s more than that. Your net worth is the grand total of years (or decades) of profits and losses.

As the authors of Your Money or Your Life put it, “[Your net worth] is what you currently have to show for your lifetime income; the rest is memories and illusions.” Ouch!

The greater the gap between your earning and spending, the faster your net worth grows (or shrinks). This may seem obvious, but it’s important. Everything you do — clipping coupons, asking for a raise, saving for a retirement — should be done to increase your profit and wealth.

But profit doesn’t mean much on its own. Is a $1000 monthly profit good or bad? Well, it depends on your circumstances.

If your income is $2000 per month (or $24,000 per year), a $1000 monthly profit is great. That’s a saving rate of 50%. Congratulations!

On the other hand, if your income is $20,000 per month (or $240,000 per year), a $1000 monthly profit gives you a saving rate of 5%. That’s average at best.

You see, it’s not your total income that determines how wealthy you are and will become. Nor is it your monthly surplus. No, the true measure of progress is your saving rate — how much you save as a percentage of your income.

In business, saving rate is called profit margin. I think it’s useful for everyday people — especially folks who have decided to act like the CFO of their own lives — to think of saving rate as profit margin too.

Pull out your personal mission statement. Look at your goals. Your profit margin directly affects how quickly you’ll achieve these aims. A saving rate of 20% will allow you to reach your destination twice as quickly as a saving rate of 10%. And if you can save 40% or 60%, you’ll get there even quicker.

The growth of your wealth snowball is directly dependent on the size of your saving rate.

To read the full article, visit Getrichslowly

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