Here's How Much You Should Increase Your Rate of Investment Each Year

A small yearly change makes a huge difference.

One of the most valuable financial habits is investing consistently. First, you decide on an amount to invest that works for you, such as 10% of your income. Then, you set up an investing schedule, such as every two weeks or once per month. Some online stock brokers even let you automate this. Stick to this plan, and you'll be steadily building wealth.

This is a great start, and if you invest enough, it could have you on track for retirement. But you can also take it a step further by increasing your rate of investment every year. How much should you aim for? One popular financial guru has the answer.

How much to increase your rate of investment each year

Personal finance guru Ramit Sethi, author of I Will Teach You To Be Rich, gives a lot of simple and effective investing advice. His standard recommendation is that you invest 10% of your take-home pay (you can also use your total income if you prefer). But he also recently shared one of the ways you can do even better and score a big money win -- increase your investment rate by 1% every year.

For example, if you've been investing 5% of your income, invest 6% this year. Next year, raise it to 7%, and then 8%, and so on.

The reason this works so well is that it doesn't require big changes on your part. Let's say you make $60,000 per year. To increase your investment rate by 1%, you invest another $600 per year, which is only $50 per month. Finding that extra cash probably won't be too challenging.

You can implement this rule whether you're currently investing 10% of your income like Sethi suggests or not. If you're not able to afford 10% yet, these gradual increases are a good way to get there. And if you're already investing 10%, then this strategy will have you putting away even more.

Where to invest your money

As you invest more, you may need to diversify your investment accounts, especially if you earn a high income. Retirement accounts have contribution limits that you could run into. Here are the current limits for 401(k)s and individual retirement accounts (IRAs):

• The annual 401(k) contribution limit in 2023 is $22,500 if you're under 50 and $30,000 if you're 50 or older.
• The annual IRA contribution limit in 2023 is $6,500 if you're under 50 and $7,500 if you're 50 or older.

In both cases, the limit applies to combined contributions for traditional and Roth accounts. Let's say you're under 50, and you have an IRA and a Roth IRA. You can contribute up to $6,500 combined to those accounts in 2023. That could be $3,000 in one and $3,500 in the other. But you can't put $6,500 in each.

If you have a 401(k) and your employer offers to match your contributions up to a certain amount, make sure to max out that match. After that, divide your investments up as you'd like among your 401(k) and any IRAs you have. If you end up maxing out all your retirement account options and still have money left over, then you can open an individual brokerage account.

Adjust your investment rate as needed

Sethi's recommendations for investing are sound and will work well for just about anyone. However, you'll need to find the investment rate that fits your financial situation and goals.

For example, if you have plenty of money to spare, you might want to increase your investment rate by more than 1% per year. That's fantastic. There's nothing wrong with jumping from 10% to 15% or even 20%, if you can do that without issue. Big changes like these are harder to keep, but they can work, especially if you've increased your income.

There might also be times when you need to dial back on investing. If your income drops or your bills increase, that could require you to lower your investment rate. Aiming to invest 10% of your income and increase this by 1% per year are both good goals, but feel free to adjust them as needed.