Rule Of Thumb


DEFINITION of 'Rule Of Thumb'

A guideline that provides simplified advice regarding a particular subject. A rule of thumb is a general principle that provides practical instructions for accomplishing or approaching a certain task. Typically, rules of thumb develop as a result of practice and experience rather than scientific research or theory.

Investors may be familiar with a variety of "financial rules of thumb" that are intended to help individuals learn, remember and apply financial guidelines, including those that address methods and procedures for saving, investing and retirement. Although a rule of thumb may be appropriate for a wide audience, it may not apply universally to every individual and unique set of circumstances.


There are a number of rules of thumb that provide guidance for investors. Well-known financial rules of thumb include:

  • A home purchase should cost less than two and a half years' worth of your income.

  • Always save at least 10% of your take-home income for retirement.

  • Have at least five times' worth your gross salary in life insurance.

  • Pay off your highest-interest credit cards first.

  • The stock market has a long-term average return of 10%.

  • You should have an emergency fund equal to at least three to six months' worth of household expenses.

  • Your age represents the percentage of bonds you should have in your portfolio.

  • Your age subtracted from 100 represents the percentage of stocks you should have in your portfolio.

There are also rules of thumb for determining how much net worth you will need to retire comfortably at a normal retirement age. Here is the calculation that Investopedia uses to determine your net worth:

If you are employed and earning income:
((your age) x (annual household income)) / 10

If you are not earning income or you are a student:
((your age – 27) x (annual household income)) / 10

  1. 28/36 Rule

    A rule-of-thumb for calculating the amount of debt that can be ...
  2. Four Percent Rule

    A rule of thumb used to determine the amount of funds to withdraw ...
  3. Net Worth

    The amount by which assets exceed liabilities. Net worth is a ...
  4. Portfolio

    A grouping of financial assets such as stocks, bonds and cash ...
  5. Life Insurance

    A protection against the loss of income that would result if ...
  6. Put-Call Parity

    A principle that defines the relationship between the price of ...
Related Articles
  1. Savings

    Top 10 Tips For A Financially Safe Retirement

    You've worked hard to secure enough to retire, so make sure you keep it safe.
  2. Credit & Loans

    How Mortgage Refinancing Affects Your Net Worth

    Find out how to determine whether refinancing will put you ahead or even more behind.
  3. Budgeting

    Mortgages: How Much Can You Afford?

    Answering this means number-crunching as well as factoring in other considerations and expenses.
  4. Retirement

    Understanding Credit Card Interest

    Paying these rates can impact your disposable income and your investment returns.
  5. Term

    Public Goods & Free Riders

    A public good is an item whose consumption is determined by society, not individual consumers.
  6. Investing

    Why Is Financial Literacy and Education so Important?

    Financial literacy is the confluence of financial, credit and debt knowledge that is necessary to make the financial decisions that are integral to our everyday lives.
  7. Investing Basics

    What Does In Specie Mean?

    In specie describes the distribution of an asset in its physical form instead of cash.
  8. Economics

    Calculating Cross Elasticity of Demand

    Cross elasticity of demand measures the quantity demanded of one good in response to a change in price of another.
  9. Fundamental Analysis

    Emerging Markets: Analyzing Colombia's GDP

    With a backdrop of armed rebels and drug cartels, the journey for the Colombian economy has been anything but easy.
  10. Fundamental Analysis

    Emerging Markets: Analyzing Chile's GDP

    Chile has become one of the great economic success stories of Latin America.
  1. What is the utility function and how is it calculated?

    In economics, utility function is an important concept that measures preferences over a set of goods and services. Utility ... Read Full Answer >>
  2. How can I use a regression to see the correlation between prices and interest rates?

    In statistics, regression analysis is a widely used technique to uncover relationships among variables and determine whether ... Read Full Answer >>
  3. How do I calculate a modified duration using Matlab?

    The modified duration gauges the sensitivity of the fixed income securities to changes in interest rates. To calculate the ... Read Full Answer >>
  4. How do I calculate the rule of 72 using Matlab?

    In finance, the rule of 72 is a useful shortcut to assess how long it takes an investment to double given its annual growth ... Read Full Answer >>
  5. How do I calculate the standard error using Matlab?

    In statistics, the standard error is the standard deviation of the sampling statistical measure, usually the sample mean. ... Read Full Answer >>
  6. What is the benefit of the Modified Internal Rate Of Return (MIRR)?

    The modified internal rate of return (MIRR) is a financing metric used in business capital budgeting. Its primary benefit ... Read Full Answer >>

You May Also Like

Hot Definitions
  1. Real Estate Investment Trust - REIT

    A REIT is a type of security that invests in real estate through property or mortgages and often trades on major exchanges ...
  2. Section 1231 Property

    A tax term relating to depreciable business property that has been held for over a year. Section 1231 property includes buildings, ...
  3. Term Deposit

    A deposit held at a financial institution that has a fixed term, and guarantees return of principal.
  4. Zero-Sum Game

    A situation in which one person’s gain is equivalent to another’s loss, so that the net change in wealth or benefit is zero. ...
  5. Capitalization Rate

    The rate of return on a real estate investment property based on the income that the property is expected to generate.
  6. Gross Profit

    A company's total revenue (equivalent to total sales) minus the cost of goods sold. Gross profit is the profit a company ...
Trading Center
You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!