Each time you receive a paycheck, there may be a temptation to spend some of it on things you don’t need. While it can be rewarding to make discretionary purchases from time to time, doing it too much can stunt your long-term savings goals.
That’s why basketball legend Shaquille O’Neal uses a 75/25 money rule that lets him spend some of his paychecks while saving and investing most of it, according to an interview with The Wall Street Journal in 2019. Here’s how the strategy works, and how you can apply the basketball star’s method to your own finances.
What is Shaq’s 75/25 rule?
Shaq’s 75/25 rule follows a simple premise. Save and invest 75% of what you earn and live on the remaining 25%.
To be fair, that’s not a budget that will work for everyone. But the point of these types of rules is to set aside money that you can spend guilt-free on discretionary items. Then, the rest of your paycheck goes toward living expenses and investments.
Prioritize an emergency fund
Saving money helps guarantee that you have some cash left in the event of a financial emergency. Financial advisors typically recommend trying to save enough cash to cover your essential living expenses for three to six months, and keeping it somewhere accessible.
Once you build an emergency fund and save enough for short-term expenses and goals, you can start investing for mid- and long-term goals. While an emergency fund can help you cover immediate expenses, it’s typically not best to invest it via vehicles that can generate high returns over the long term, such as stocks.
Someday, if you retire, you won’t have a steady paycheck. While Social Security can help, it’s typically not enough money for most people to maintain their lifestyles. An investment portfolio can close the gap between Social Security income and monthly expenses while reducing your money stress in the long run.
How to adapt the 75/25 rule for a normal paycheck
Most people can’t save 75% of their paycheck. However, you can assess your financial situation and build your savings rate over time. If you don’t know how much you save from each paycheck, getting this number and reviewing your expenses can make it much easier to save more money.
You can adjust the numbers based on how close you are to your financial goals, with some people opting for the common 50/30/20 budgeting rule. That rule entails putting 50% of your paycheck toward needs, 30% toward wants, and 20% toward investments and debt repayments.
But every small bit of savings can help. If you save 10% of your paycheck right now, aim for at least an 11% savings rate next year. It’s easier to bring up this number if you are starting with a lower savings rate. Automated money transfers from your checking account to your savings and brokerage accounts ensure that the money disappears from your main account before you have the opportunity to spend it.
Putting emergency funds into a high-yield savings account lets you earn interest on your cash as it sits in the account. Some savings accounts offer 3% to 4% annual percentage yields (APYs), but these rates fluctuate over time.
