The Simplest Rule for Budgeting – the 50/30/20 Rule
Many of us want to budget, but it’s hard to find the right way, much less enough time to do so. The 50/30/20 rule is one of the best ways to make sure you are budgeting well and to gain a better understanding of how you are spending your money.
The 50/30/20 rule is based on a simple, broad-level allocation of your expenses. Generally speaking, you should spend 50% of your after-tax income on your necessities, such as housing costs, healthcare, and utilities. You should spend 20% on your savings, including retirement, education for your children, if applicable, and an emergency fund for things such as an unexpected car repair or temporary loss of a job. It is recommended that, at a minimum, you have enough saved in your emergency fund to cover three months of expenses should you lose your job or become unable to work for some unforeseen reason. Lastly, you can still spend up to 30% of your income on your wants, which include things like dining out, entertainment, vacations, and luxury items.
Some items can be put into one group or the other depending on the specifics. For example, dining out at a nice restaurant would go in the wants category, while cooking at home could go in the needs category. Buying clothes periodically at a reasonable price would probably be allocated to the needs category, whereas buying designer clothing or a nice watch would definitely belong to the wants category.
Additionally, the percentages could be tweaked depending on your lifestyle and unique financial situation. If you have a higher income with more discretionary money to spend, maybe you allocate a slightly higher percentage to your wants if that fits your lifestyle. Or if you want to live more comfortably in retirement, you may allocate more to your savings. Parents who want to prioritize saving for their children’s college could allocate a higher percentage to their savings category and earmark that for education.
The key takeaway is that the 50/30/20 rule is simply a general guideline. In order to properly apply this rule, you must tailor the guidelines to match your lifestyle and priorities. Once you have established what those are, you can automate the process of allocating and reviewing your expense categories. Many credit cards do this to some degree, and there are various apps that help with this process. Budgeting can be a pain to set up, but once you get everything going, it is actually pretty seamless; you can simply monitor and adjust when necessary. Having the peace of mind of knowing that you are spending your money the way you want and giving yourself a better picture of the progress toward your financial goals can be truly life-changing.