Personal finance ratios keep you on track (Page 2 of 3)

How ratios work
Using the recommended savings rate of 12 percent, for example, an individual with a hypothetical $100,000 of annual pre-retirement income should amass, over the course of a lifetime, $1.2 million in savings by age 65 and have no debt.

At a 5 percent withdrawal rate, Farrell explains, that retirement nest egg would then produce approximately $60,000 of annual retirement income for the retiree. With reasonable growth, an investor should be able to adjust the withdrawal amount for inflation each year. Coupled with an estimated Social Security benefit of about $20,000, the final income at retirement should equal about 80 percent of the pre-retirement income total.

Personal financial ratios

Age	Savings to income	Debt to income	Savings rate to income
30	0.1	1.70	12%
35	0.9	1.50	12%
40	1.7	1.25	12%
45	3.0	1.00	12%
50	4.5	0.75	12%
55	4.5	0.75	12%
60	8.8	0.20	12%
65	12.0	0.00	12%

Assumes a 5 percent return and 5 percent distribution rates.

The 12 percent savings rate number is adjustable, depending on your employer's generosity. If your employer matches contributions to your 401(k) or profit-sharing plan, you can contribute less of your own funds and allocate that extra money to other expenses.

"So, for example, if at age 30 your employer is contributing 4 percent of your pay into a retirement plan, then you would need to contribute the other 8 percent," says Farrell. "Before counting those contributions, you will want to ensure that you are fully vested in the employer's contributions," he adds.

Farrell doesn't consider home equity as part of the savings equation. Even if you downsize or move after you retire, you're still going to have to live somewhere, he reasons, and in most cases, the profit from the sale of your old home likely won't go very far to boost retirement savings if the bulk of that money is used to pay for housing.

Not a lifelong 'I love debt' plan
Farrell's debt-to-income ratio shows the amount of debt in relation to income that should be carried at various life stages. Debt should be decreasing, and savings increasing, as the years go by.

At age 30, one should ideally have a savings-to-income ratio of 0.1, or 10 percent, and a debt-to-income ratio no greater than 1.7, or 1.7 times your income. Translated into dollar amounts, this means that a 30-year-old with a household income of, say, $50,000 should have $5,000 in savings and an overall debt no greater than $85,000.