Budgeting methods help you achieve your financial goals faster and make your life easier.
If you are looking for an easy way to get your finances back on track without digging into specific budgeting details, you are in the right place.
Hello, the 50/30/20 budget rule!
In this post, you will learn
- What Is The 50/20/30 Rule Budget?
- How Does The 50/30/20 Rule Work?
- An Example Of The Approach
- How To Use The Budgeting Method To Your Advantage
- Pros And Cons Of The Strategy
- Where The Rule Doesn’t Work
- And Continue Reading To Find Out More
Let’s dive right in.
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What Is the 50/30/20 Budget Rule Of Thumb?
The 50/30/20 budget rule (also named “50/20/30 budget rule”) is a simple budgeting method.
It divides your monthly take-home pay into three categories (needs, wants, and savings and debt repayment), making it easy to follow.
Let’s face it. Budgeting can get complicated and put people off. But you don’t have to get caught up in all the nitty-gritty details using the 50/30/20 budget rule.
In other words, you can budget your finances without tracking down every dollar you have spent.
How Does The 50/30/20 Rule Work?
Here is how the simple budgeting method works.
Budget 50% For Your Needs
50% of your after-tax income should go to your basic needs (things that are necessary for your survival and work, aka must-haves).
Your needs might include:
- Shelter (rent or mortgage)
- Utilities (electricity, water, and gas)
- Food (basic groceries)
- Basic clothing
- Health insurance
- Minimum debt repayment (monthly credit card payment)
- Other necessary expenses
Budget 30% For Your Wants
In the 50/20/30 guideline, 30% of your after-tax pay will be budgeted for your wants (things you can live without, aka nice-to-haves).
Your wants might include:
- Streaming services (Netflix and Hulu)
- Monthly subscriptions (Amazon Prime)
- Dining out
- Shopping sprees (new clothes, shoes, and handbags)
- Entertainment (parties, concerts, and sports events)
- Luxury upgrades
- Other desires you would love to have to make your life more enjoyable
Depending on your lifestyle, the list of nonessential expenses goes on and on.
Budget 20% For Your Savings And Debt Payment
The remaining 20% of your net income should go to savings and any outstanding debt. This smallest category is essential for your financial future and wealth creation.
If you don’t have any debt, you could allocate the rest to your financial goals (including investments).
Your savings and debt repayment might include:
- Savings goals (e.g., an emergency fund, a college savings plan, and a down payment on a house)
- Retirement plans (e.g., 401(k) and IRA)
- Debt payoff plans (e.g., credit card debt, student loan, and auto loan)
How you save money depends on your personal financial goals and current situation.
But you need to build a financial cushion for the unexpected expenses (such as unforeseen medical expenses and major auto repairs).
Financial experts recommend saving at least three to six months’ worth of expenses in your emergency fund.
1 in 4 Americans doesn’t have an emergency fund, so you are already way ahead of 25% of households if you have one in place. And if you can save three months’ worth of expenses in the fund, you beat 51% of Americans (source).
Note that your emergency fund should be instantly accessible in response to whatever life throws at you. If you have ever used the money in the fund, remember to replenish the account.
When you have enough money for the safety net, you can confidently focus on tackling your high-interest debt first.
Once you eliminate your debt (mortgage is not included), you can increase your savings and work toward other financial goals (like your retirement plan).
The retirement fund is the second most crucial fund following the emergency fund.
The earlier you start planning for your retirement, the more comfortable your golden years will be.
An Example Of The 50/30/20 Budget Rule Of Thumb
Let’s say if your take-home pay is $4,500 per month, using the 50/30/20 budget rule, the ideal monthly budget will look like this:
- 50% for essential costs: $4,500 x 0.50 = $2,250
- 30% for wants: $4,500 x 0.30 = 1,350
- 20% for savings and debt payoff: $4,500 x 0.20 = $900
|Needs||$2,250||($4,500 x 0.50)|
|Wants||$1,350||($4,500 x 0.30)|
|Savings||$900||($4,500 x 0.20)|
Note: You can make minor tweaks to your monthly expenses based on your circumstance.
For example, after having enough money in your emergency fund, you might want to use 20% or more of your budget to pay off your existing high-interest debt and save money on interest.
Or, if you spend more than the recommended amount on your needs, you might want to cut down on your discretionary spending and cut back on your essential expenses until you’re under the threshold.
That could be eating out fewer times or finding a more affordable place to live.
You also need to determine how much you want to pay off debt and how much you will save when it comes to 20% of your net income.
Note that the minimum payment on your debt should be in the needs category, as failing to do so will negatively affect your credit score. Anything above the minimum can go to the 20% category.
How To Use The 50/30/20 Rule Of Thumb For Budgeting
If you want to apply the 50/30/20 rule to your budget, here is what you should do.
Step 1. Find Out Your After-Tax Income
The budgeting technique is based on after-tax pay, so the first step is to know the number.
If you receive a fixed amount of pay, simply check your paystubs.
And if you have automatic deductions on retirement contributions and health insurance fees from your company, and personal savings, don’t forget to count them in.
As for self-employed individuals, you can use your gross income to deduct your business expenses and taxes.
Step 2. Do Simple Math
Once you get the number ready, calculate how much you should spend in the three distinct categories.
Multiply your total net income by 0.5, 0.3, and 0.2 individually. You can refer to the 50/20/30 budget example in the previous section.
Step 3. Define Which Expenses Go To Each Category
When differentiating your needs and wants, you need to be honest and realistic with your finances. And it could be tricky.
A need is something you have to have to survive, whereas a want is something you wish to have to make you happy.
For example, you might need a regular car to get to work, that’s considered a need, but buying a luxury car with leather seats and the latest technology features is a want.
It’s also true for daily expenses. Having basic food is a need. However, dining out in a fancy restaurant is a choice that goes to the want category.
Before having a little bit of fun, make sure you take care of your needs first.
Step 4. Track Your Spending And Make Adjustments If Needed
No budgeting method will work without actually sticking to it.
Once you follow the 50/30/20 rule, make sure you track your spending.
If you have exceeded the category thresholds (50% for your needs, 30% for your wants, and 20% for your savings and debt payoff), you might want to adjust.
Review your budget weekly or monthly to find areas where you can reduce spending and save money.
Depending on your lifestyle and spending habits, the areas vary from person to person.
Maybe you are getting your coffee at Starbucks five times a week. Or, you have a premium gym membership that you barely use.
– How To Stop Spending Money On Unnecessary Things (#1 will surprise you)
Is The 50/30/20 Rule Good For You?
The 50/30/20 budget rule is ideal for people who are new to budgeting and want a simple solution to manage money.
You can organize your finances by dividing your income into three broad categories: Needs, Wants, and Savings and Debt Payments.
Let’s look at the pros and cons of the 50/30/20 budget rule so that you can see whether it’s a good budget rule for you to follow.
Pros Of The 50/30/20 Budget Rule
Why is the 50-20-30 rule easy for people to follow, especially for those who are new to budgeting and saving?
Here are some good reasons.
- Unlike a detailed budget, the 50/30/20 budget rule is easy to understand and implement.
- The budgeting method is motivating by visualizing where your money is going.
- The 50/30/20 budget template can help manage your money painlessly without digging into every individual expense.
- You can make tweaks to percentages based on your personal circumstance.
- The budget strategy encourages you to save money for your financial future every month while making financial obligations and enjoying your life. The 50/30/20 budget rule is beneficial for those who are struggling with saving money.
Cons Of The 50/30/20 Budget Rule
- Whether using the traditional way or a budget app, you still have to track your budget by following the 50/30/20 budget rule.
- It’s hard to determine needs and wants.
Where The 50/30/20 Rule Of Thumb Doesn’t Work
When it comes to budgeting, there is no one-size-fits-all rule. And the 50/30/20 budget rule is no exception.
Here are some scenarios where the money management technique might not work.
1. If your essential costs exceed 50% of the take-home pay, it could be unrealistic to follow the rule unless you take some or all of the money from your “wants” or “savings.”
For example, living costs alone (like living in Sydney or New York) could eat up more than half of your net income, especially for those who earn less. Hence, there will be little financial wiggle room for other categories.
2. If you live on a low income and struggle to make ends meet, you will probably spend more on necessities, leaving little room for your wants and financial goals.
Sometimes, no matter how hard you try, there’s just not enough money to get by. Then you can try to explore different options to make more money.
I started this blog on the side to earn extra money, and it turned out to be great.
3. This budgeting rule might not work for high-income earners.
For example, you might want to grow your savings more aggressively instead of spending 30% of your total income.
4. You have ambitious financial goals that need significant savings.
If you want to invest more in your retirement fund or save for a house mortgage, which requires more than 20% of your monthly income. In this case, the 50/30/20 rule might not be suitable.
5. You receive irregular payments (like a freelancer), making it harder to determine your after-tax income.
6. You have a large amount of high-interest debt, which requires more than 20% of your paycheck to reduce financial stress.
It also makes more sense to get out of the vicious debt cycle as soon as possible with the money you have.
When the 50/30/20 rule of thumb doesn’t work for your financial situation, don’t panic.
There are many more budgeting methods for you to explore (see below). You can view the 50/30/20 budget rule as a guideline and create a financially sound budget that suits your personality and lifestyle.
The Envelope Budget System
As the name suggests, you will put a certain amount of cash in envelopes for your monthly spending. And you will only use the money in the envelopes for the whole month.
The envelope budget system can help you curb overspending and achieve financial success more quickly.
The Zero-Based Budget
Zero-based budget (aka the zero-sum budget) is a budgeting method that allows you to assign every dollar a specific purpose (expenses, savings, or debt repayment).
That means your income minus your expenses will equal zero by the end of the month.
The 50/30/20 Rule Alternatives
Similar to the 50/30/20 rule, here are more percentage-based budget rules (the 70/20/10 rule money, the 60/30/10 rule budget, the 30-30-30-10 budget rule).
The 70/20/10 Rule Money
What is the 70-20-10 rule money?
Here is how the budget rule works.
70% of your monthly income should go toward your spending (everyday spending and monthly bills), 20% toward saving and investing, and 10% for giving (debt payoff and donation).
The 60/30/10 Rule Budget
- 60% of your after-tax income should go toward savings, investments, and debt payment.
- 30% of your after-tax income should go toward your needs (things like housing, food, utilities, transportation, and healthcare).
- 10% of your after-tax income should go toward your wants (choices you make to enhance your life).
Compared to the 50/30/20 rule, the 60/30/10 rule budget is more ambitious in saving.
The 30-30-30-10 Budget Rule
The 30-30-30-10 budget rule breaks down your spending into the following categories.
- 30% of your after-tax salary goes to your housing (rent or mortgage).
- 30% of your after-tax salary is for other necessary costs (e.g., your food, utilities, and transportation).
- 30% of your after-tax salary should go toward your financial goals (debt payoff or savings).
- 10% of your after-tax salary is for your wants (like eating out or shopping online).
How Much Money Do You Save Using The 50/30/20 Rule?
If you follow the 50/30/20 budget rule, you should save 20% of your after-tax income. The 20% could be used for your savings goals, debt payoff, or investments.
Where Does The 50/30/20 Rule Of Thumb Come From?
In the book, All Your Worth: The Ultimate Lifetime Money Plan, Senator Elizabeth Warren and her daughter, Amelia Warren Tyagi, popularized the simple percentage-based rule.
Bottom Line – The 50/30/20 Rule Of Thumb
Budgeting for the first time is not easy. And you are less likely to get the numbers right as a newbie.
However, the 50/30/20 rule of thumb offers an easy way to budget your money and keep your finances in order during your financial journey.
You break down your take-home pay into three budget categories (50% to your needs, 30% to your wants, and 20% to your savings and debt repayment).
If you want a simple budgeting method to manage your after-tax income, build your financial plans, achieve your money goals, and view your spending patterns, give the 50/30/20 budget rule a try.
I hope this post can help you better understand the 50/30/20 rule and how it works.
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