I received an email from a reader who has just started working about a year in his corporate career and he wrote to me asking the optimal allocation he should be allocating his monthly income to his Expenses, Savings and Investments.
This is hard to answer because first I do not know him well enough to give a detailed answer and second his circumstances and priorities may differ from one person to another.
So I’ll try to give my best answer as much as possible and will have to assume a few things from him. I assume he is asking me because he read my article recently and would like to know what it takes to achieve Financial Independence as early as he could possibly.
The Generic Google Answer
If he or anyone has tried to Google and look for the genericly designed common answer on the Internet, it would advocate him to save 60% on his expenses, 30% on his savings or emergency funds and 10% on his investment.
The main reason for the high percentage allocated on the expenses is because I think the writer would have assumed most people start on a low base income, probably in the range of $1.8k to $2.5k. So when you add all the expenses including insurance premium, parents allowance, transportation, utilities, food and groceries and other discretionary items such as travel, it probably adds up to that 60%.
The rest of the 30% goes to Savings, which the goal is to build up emergency funds of up to 6 months worth of expenses. The idea to having an emergency fund is to cater to events that are unforeseeable and will have to prepare for it. For example, you might get terminated from your job because the company is reducing manpower and you might ended up having to survive a few months without an income.
The last 10% goes to Investment, which is supposedly money that helps you grow your wealth so you can start allocating more to other division of your life jar.
My Personal Take
In my opinion, you’ve got to make your money works hard in all aspects regardless of whether they are being allocated to your Expenses, Savings or Investment.
If they are being allocated mostly to discretionary expenses for instance, make sure that is because you wanted to create a lasting memory with your friends or families. If you want to use the money to buy a bag, make sure that it gives you the happiness you are seeking for.
For money that is being allocated to emergency funds, make sure you find the best avenue to park your funds so they are liquid and earn some returns for you meanwhile. A good example for this would be SSB, or a high quality corporate bonds. Do not assume because they are for emergency funds you can leave them there lying around without work to do.
For investment, make sure you go for good quality companies that can grow and multiple your money positively. There are many instances where investors put their hard earned money in companies that make them suffer losses.
Obviously with the least percentage being allocated to the investment pot, your wealth won’t grow and compound as fast as there are other expenses bomb that tied you down.
My personal take is that since the reader is young and I assume he doesn’t has any financial commitment yet at this point (financial commitments will only grow as he proceeds to his 30s later on), he should be trying to increase his investment pot as much as possible and make it a priority at his young age.
Sure, there are risks of not having sufficient emergency funds at this point, but given his lesser commitment because of his young age, I feel that tying down too much on his emergency funds could be slowing him down. But its a matter of balancing between the defensive and offensive and only he knows best what his objective is and what’s his character is like.
Having one too much over another will not do him any good so he has to choose what’s best for him.
I advocate a 40% expenses, 5% savings and 55% investments but thats because my objective is to be financially independent before the age of 35, so I have to take on bigger head and tail risks.
On chronological order, my priority was to increase my income base, tighten my basic expenses and needs and grow my investment pot, and this can differ from person to person.
If the reader is a prudent character by nature and has a different objective than mine then he will not fit into what I did.
And that is fine too because we are in a life of marathon and building our wealth is just one aspect, there are other priorities such as health and memories which can create a more lasting impact in our lives.
I hope this helps the reader think about some perspectives on how he can allocate his funds accordingly to what suits him best.