How do you know you're on the right path to retire? One way is to measure your progress using personal financial ratios. Like price-to-earnings ratios and dividend yields for evaluating stocks, our household financial ratios are useful indicators for monitoring our saving and spending.

A recent article in the Journal of Financial Planning focused on three such ratios: debt to income, savings to income, and savings rate to income. While there's no such thing as "one size fits all" for these ratios, they do provide some useful "rule of thumb" guidance.

How Much Do You Owe?
Much of our adulthood is a skiing adventure across a mountain of mortgage debt that ends in the lodge of retirement. In addition to a mortgage, we usually have consumer debts -- college, cars, and credit cards -- that add crests and moguls to the shape of that slope. And mortgage debt itself has variations: refinancings, home equity lines of credit, second mortgages, and mortgages on second homes.

The debt-to-income ratio (DTI) is a measurement of the overall height of that debt hump. The Federal Home Loan Mortgage Corporation (Freddie Mac) uses a 2.5 "you can probably afford" rule of thumb, i.e., a total debt up to 2.5 times gross annual income. The JFP article suggests a lower 1.7 DTI number, warning that households with high debt ratios usually have low savings rates. They may justify a jumbo mortgage as "good" debt. But there's nothing good about a debt load that threatens your ability to retire.

Have You Saved Enough?
Debt is one half of your personal balance sheet; the other half is the size of your nest egg and the household savings rate required to produce it. The RYR "How to Plan the Perfect Retirement" guide, available on our Tools menu, mentions the "Rule of 25." It's a simple rule of thumb that says you'll need a nest egg about 25 times the size of your first year's withdrawal. Compare the 4% safe withdrawal rate often discussed at RYR: 100% of your nest egg divided by 4% = 25. In other words, you should estimate your annual income needs beyond Social Security and pensions and multiply that number by 25. The JFP article takes a different approach by estimating a target ratio between nest egg size and gross income (as opposed to initial withdrawal). The article includes discussions of both 12:1 and 15:1 ratios, but settles on the smaller one as a more realistic goal.

How Much Are You Saving?
The most important ratio of all is the savings-rate ratio. This is your annual savings divided by gross income, expressed as a percent. The optimum rate depends on how early you begin, your consistency, and your ability to resist using the funds for other goals. While your savings rate is probably the most important financial ratio, it's also the least predictable rule of thumb because of the variables involved: number of years, rate of return, lifestyle requirements, and other sources of retirement income. The JFP article settled on 12% as a reasonable annual savings rate over 35 years. But that estimate assumes a 5% real return (i.e., adjusted for inflation) and withdrawal rate. For the more conservative assumption of 4% real return and withdrawal rates, the target savings rate is a daunting 19%, a rate the author calls "difficult to achieve" for most people.

The main focus of the JFP article is a pair of tables showing the ideal financial ratios at 5-year intervals from age 30 to a debt-free retirement at age 65. Both tables use the rather constrictive 1.7 DTI ratio. However, one table uses the more manageable 12:1 savings and 12% savings rate, while the other uses the more aggressive 15:1 and 19% targets. We're offering our own modified version of the table. Ours has a more realistic 2.5 DTI ratio. For the savings-to-income and savings-rate ratios, our table splits the difference between the two JFP scenarios, targeting a retirement nest egg that's 13.5 times gross income and an annual savings rate of 15%.

Financial Health Check	Debt to Income	Savings to Income	Savings Rate
Age 30	2.50	0.1	15%
Age 35	2.20	1.1	15%
Age 40	1.85	2.1	15%
Age 45	1.50	3.6	15%
Age 50	1.10	5.3	15%
Age 55	0.75	7.5	15%
Age 60	0.30	10.1	15%
Age 65	0.00	13.5	15%

Adapted from the Journal of Financial Planning, January 2006

Of course, people can retire successfully after paying off or reducing a DTI ratio higher than 2.5, and financial independence can be achieved without having saved aggressively for 35 years. However, if you have a very high DTI ratio, or start saving late, or want to retire early, you've got to make the right adjustments and monitor your progress.

Create Your Own Roadmap!
The ratios discussed here are intended to be thought provoking, but they are only rules of thumb. So instead of thumbing a ride to retirement, why not make your own custom roadmap to get you there? It's easy to do with the DirectAdvice Planning Tool available on the RYR Tools page. In about the same amount of time it takes to have dinner at your favorite restaurant, you can make a plan to ensure you can afford to eat there for the rest of your life.

A condensed version of this article appeared in the June 2006 Motley Fool Rule Your Retirement newsletter.