Be money savvy -- 5 rules of thumb
How much will you need in retirement, what's your max mortgage payment and other guidelines to make you a better money manager.
(MONEY Magazine) -- These guidelines reduce complex money questions to simple formulas. How well do you know them?
1) How much income do experts typically say you'll need to live comfortably after you retire?
Answer: 70% to 80%. This guideline is based on the reasonable expectation that some of your expenses will fall once you retire. After all, you'll no longer be shelling out dough to commute or to buy secret Santa gifts for co-workers.
But given the threat of unpredictable money crises (health emergencies, chiefly), it can't hurt for you to err on the side of caution. Figure on spending as much after retirement as you do now, especially in the early years, when you'll be more active.
2) For a house to be affordable, the mortgage payment should not exceed what amount?
Answer: 30%. Sure, homeowners in particularly hot markets consider themselves lucky if they can get away with devoting less than half their income to their mortgage.
But for most others, this rule of thumb is still a realistic way to gauge how big a mortgage can comfortably be taken on.
Indeed, families earning the nationwide median income ($56,810) can buy a median-priced home ($230,700) by laying out only 24% of their income a month, according to Moody's Economy.com.
3) To find the percentage of your portfolio that should be invested in stocks, take the number 100 and subtract your age. True or false?
Answer: False. This is a trick question. One hundred minus your age used to be the rule, and in fact the basic concept still makes sense: As you get closer to retirement (and go beyond it), you want to increase the percentage of stable fixed-income investments in your portfolio and cut back on higher-returning yet riskier stocks.
But the old formula now appears to be overly conservative. Today's longer life spans mean you have to keep your money growing to last through a far longer retirement than previous generations enjoyed.
Plus, it's less likely than it would have been in the past that you will have a pension making a big contribution to your retirement income.
What would be a better guide? Subtract your age from 120. That more aggressive formula should help you maintain your living standard through your retirement years.
4) When you're shopping for life insurance, how big a policy do you need?
Answer: 5 to 7 times. This rule of thumb is far from perfect, although it's better than buying no coverage at all. The problem with a one-size-fits-all formula is that the policy you need really depends on your household situation.
Are you the only breadwinner in a family with young kids? You may need coverage worth 10 times your salary or more. No kids, no mortgage and a salary equal to your spouse's? You may not need life insurance at all.
To tailor your coverage to your family's needs, use the calculator in the Life Insurance section at life-line.org.
5) What's the most that pundits say you should invest in your own employer's stock?
Answer: 10% of your total savings. If your employer uses its own stock to match your 401(k) contributions or fund your profit-sharing plan, you may be forced to have some company shares in your portfolio. But otherwise you should pretty much stay away from investing in the company you work for.
Why? Well, simply by working there you're already heavily invested in the company's financial success. If the company thrives, your job will be secure; if it founders and you've loaded up on shares, you could lose your job and your retirement savings. For confirmation, just ask any former employee of Enron.