When it comes to financial success, few numbers are as important as your savings rate. Your savings rate tells you how much of your income you are setting aside instead of spending. It’s a snapshot of your ability to build financial security, prepare for emergencies, and eventually achieve financial independence. Whether you’re saving for a house, retirement, or just building a safety net, understanding and tracking your savings rate gives you the power to make better financial decisions.

Unlike investments, savings generally stay in cash or near-cash forms like savings accounts or certificates of deposit, minimizing risk but offering lower returns. However, growing your savings starts with knowing exactly what portion of your income you're preserving—and that’s where calculating your savings rate comes in. Let's dive into how you can accurately calculate it and use it to strengthen your financial future.

How to Calculate Your Savings Rate?

Your savings rate is the percentage of your disposable income that you save instead of spending. It is a key indicator of your financial health and plays a significant role in how quickly you can reach financial goals such as retirement, purchasing a home, or building an emergency fund.

The basic formula is:

Savings Rate = (Savings ÷ Disposable Income) × 100

Disposable income refers to the money available after taxes have been deducted. Savings include any funds that are set aside rather than spent, whether they are kept in a savings account, invested, or otherwise reserved for future use.

While the formula itself is straightforward, the definitions of "income" and "savings" can vary based on individual circumstances and preferences, which can affect the calculation’s accuracy. It is important to establish consistent definitions to track your progress effectively over time.

How to Define Income When Calculating Savings Rate?

When calculating your savings rate, how you define “income” makes a significant difference. Typically, income can be understood in two major ways: gross income and net income.

• Gross income is the total salary or wages you earn before any deductions, such as taxes, retirement contributions, insurance premiums, or other mandatory withholdings. Using gross income for calculations gives you a very conservative picture of your savings rate because it assumes you have access to all the money you earn, even though, realistically, taxes and other deductions reduce your take-home pay.
• Net income, often referred to as take-home pay, is the amount you actually receive after all deductions are made. This is a much more realistic figure to work with because it reflects the money you can truly spend or save. Calculating your savings rate using net income allows for a clearer view of your actual financial habits, rather than a theoretical one based on total earnings.

In addition to your primary salary, other income sources such as freelance work, rental income, dividends, or side hustles should also be included when calculating your total income. Capturing all sources ensures that the savings rate accurately reflects your overall financial behavior, not just what comes from one paycheck.

How to Define Savings?

After determining your income, the next step is to define what counts as "savings." Savings encompass any portion of your income that is not consumed through expenses. This includes various forms of saving and investing that contribute to increasing your net worth over time.

Common components of savings include:

• Contributions to savings accounts or emergency funds: Direct deposits into traditional savings accounts, money market accounts, or high-yield savings accounts are generally classified as savings.
• Retirement contributions: Funds allocated to retirement accounts such as 401(k)s, IRAs, and Roth IRAs should be considered as part of your savings, whether these contributions are pre-tax or post-tax.
• Employer retirement matches: Some individuals choose to include employer matching contributions as part of their total savings. Including these amounts provides a fuller picture of how much is being saved toward long-term goals.
• Investments in assets: Money invested in stocks, bonds, mutual funds, or other investment vehicles can be classified as savings because these funds are intended for future use rather than immediate consumption.
• Mortgage principal payments: Some opt to count the principal portion of their mortgage payments as savings because it builds equity in an asset that can be tapped into later.
• Increase in cash balances: Growth in checking or savings account balances over time, even if not transferred to specific savings or investment vehicles, can also be viewed as savings when evaluating year-over-year changes.

The definition of savings can vary depending on whether you want a more conservative or a broader measure. A conservative approach would only include direct savings and investments, while a broader view would also incorporate debt principal repayments and employer contributions.

Common Methods to Calculate Savings Rate

There are three widely recognized methods for calculating your savings rate, each offering different perspectives on your financial discipline and progress.

Method 1: Savings ÷ Gross Income

This method divides your total savings by your gross income. It offers the most conservative view because gross income is higher than net income, thus yielding a lower percentage. It is often used when individuals want to maintain a cautious and understated picture of their financial progress. However, since gross income includes money that is not actually available for spending due to taxes and deductions, it may not fully reflect your practical savings ability.

Method 2: Savings ÷ Net Income

In this method, you divide your savings by your net income. Since net income represents actual take-home pay, this method shows a higher savings rate compared to using gross income. It is a more practical reflection of how much of the money you control is being saved. However, it can sometimes overstate your savings efforts if pre-tax benefits and contributions are not properly factored into the calculation.

Method 3: Savings ÷ Adjusted Net Income (net income plus employer contributions or pre-tax benefits)

This method strikes a balance between the other two. It adjusts your net income by adding back pre-tax benefits like 401(k) contributions and employer matches. This adjustment gives a more accurate and holistic view of your total income and how much is genuinely being saved. Financial advisors often recommend this method because it accounts for savings that occur before the paycheck is received and better reflects your true financial habits.

Choosing the right method depends on your personal goals, but maintaining consistency in the method you use year over year is crucial for tracking your financial growth accurately.

Conclusion

Your savings rate is more than just a number—it’s a reflection of your financial habits and a predictor of your future stability and freedom. By calculating it accurately and consistently, you gain control over your money, your goals, and ultimately, your life.

Whether you’re just getting started or refining your financial strategy, knowing your savings rate helps you make smarter decisions every day. Start today: calculate your savings rate, set a goal, and take small steps toward a more financially secure future.