Rule Of Thumb

AAA

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.

INVESTOPEDIA EXPLAINS 'Rule Of Thumb'

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

RELATED TERMS
  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. Life Insurance

    A protection against the loss of income that would result if ...
  4. Net Worth

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

    A grouping of financial assets such as stocks, bonds and cash ...
  6. Policyholder Surplus

    The assets of a mutual insurance company minus its liabilities. ...
Related Articles
  1. Top 10 Tips For A Financially Safe Retirement
    Savings

    Top 10 Tips For A Financially Safe Retirement

  2. How Mortgage Refinancing Affects Your ...
    Credit & Loans

    How Mortgage Refinancing Affects Your ...

  3. Mortgages: How Much Can You Afford?
    Budgeting

    Mortgages: How Much Can You Afford?

  4. Understanding Credit Card Interest
    Retirement

    Understanding Credit Card Interest

comments powered by Disqus
Hot Definitions
  1. Due Diligence - DD

    1. An investigation or audit of a potential investment. Due diligence serves to confirm all material facts in regards to ...
  2. Certificate Of Deposit - CD

    A savings certificate entitling the bearer to receive interest. A CD bears a maturity date, a specified fixed interest rate ...
  3. Days Sales Of Inventory - DSI

    A financial measure of a company's performance that gives investors an idea of how long it takes a company to turn its inventory ...
  4. Accounts Payable - AP

    An accounting entry that represents an entity's obligation to pay off a short-term debt to its creditors. The accounts payable ...
  5. Ratio Analysis

    Quantitative analysis of information contained in a company’s financial statements. Ratio analysis is based on line items ...
  6. Days Payable Outstanding - DPO

    A company's average payable period. Calculated as: ending accounts payable / (cost of sales/number of days).
Trading Center