Bad At Budgeting? Give The 50/20/30 Rule A Go

Creating and sticking to a budget is the first step in successfully managing your personal finances.

A budget can help you plan and control where your money is channeled, so you can keep on top of important expenses. Yet budgeting is more than just making sure bills are paid on time. It’s also about allocating money toward savings and paying down debt.

Sometimes it’s difficult to strike a balance between how much money should be assigned to various expenses, debts, and savings. That’s when budgeting becomes over-complicated and quickly turns into an array of complex spreadsheets.

So, what’s the answer?

Enter the 50/20/30 budget:

Bankruptcy expert Elizabeth Warren originally coined the phrase 50/20/30 in her book, All Your Worth: The Ultimate Lifetime Money Plan which she co-authored with her daughter Amelia Warren Tyagi. Warren understood that complicated budgets can actually discourage people from managing their finances properly, so she developed a simple, but effective budgeting system that anyone can use.

This personal financial planning system sees you assigning monthly expenditure into three categories summed up as Needs, Wants and Savings, with each category making up a proportional percentage of how you spend your income.

The benefits of using the 50/20/30 rule

The 50/20/30 rule works for anyone, no matter what your income or stage of life, because it’s a percentage based system. If you’re new to managing your personal finances, it can help you create a balanced budget that instills strong savings habits.

Better still, the system can be customized to fit your needs, especially if you want to increase your savings by forgoing a few luxuries. Best of all, using the system is incredibly simple. Here’s how:

How to get started

Firstly, calculate your monthly take-home pay. This is the amount you’ll be dividing into the three categories.

Next, determine your expenses as well as where and how you spend your money – right down to the last cent. From there, adjust your spending accordingly to fit the 50/20/30 percentage budget guidelines.

Lastly, allocate your spending into the Needs, Wants and Savings categories using the guidelines below:

Needs – allocate 50% of your income

Up to fifty percent of your income should be spent on living expenses and essentials. These costs are the ‘must haves’, not the ‘nice to haves’; allocating half of your income to meeting these essential costs ensures you can maintain your well-being and basic living standards.

These costs typically include:

Mortgage or rent.
Basic groceries.
Utilities.
Health care.
Transportation.

Savings – allocate 20% of your income

Apportion at least 20 percent of your income to building your savings or paying down debt. This typically involves paying:

Credit card debt.
Student or other loans.
Savings and fixed term investments.
Retirement savings.

Wants – allocate 30% of your income

Wants are the personal lifestyle expenses that aren’t absolutely necessary to survival, but in today’s world are part of everyday life. Everyone’s expenses in this category will differ, and a lot of items fall into this category including:

Internet/phone.
Shopping.
Dining out and takeaway coffee.
Entertainment.
Personal care.
Gym memberships.
Travel.

The fewer costs in this category, the more money you can channel toward building savings and debt reduction. It all depends on how much you’re willing to sacrifice these extras!

3 easy ways to maximize the 50/20/30 system

The 50/20/30 budget is a guideline that can be altered to fit your own situation.

For high income earners:

If your income is at the higher end, then the 30 percent ‘Wants’ ratio is probably too high a figure to spend on discretionary items. Consider lowering this percentage and increasing the savings and debt reduction percentage.

For low income earners:

For those on low incomes, you may discover your essential living expenses extend far beyond the 50 percent mark. If that’s the case, consider reducing the other categories proportionally, while still ensuring money is funneled into loan or credit card debt reduction – no matter how small the amount - and you’re still able to enjoy life.

As your income increases, you can re-adjust your budget’s ratios so at least 20 percent of your income is directed toward savings.

Be flexible

The percentages don’t have to be targets. In fact, you can take the 50/20/30 system and make it work for your circumstances. For example, college and university student bloggers share how they’ve used a 30/70 rule, where 30 percent of income was spent on living expenses and 70 percent on debt reduction of a student loan. They were prepared to trade off all luxuries and live frugally, in exchange for being debt free faster.

Similarly, if reducing debt or increasing your savings is more important to you than enjoying yearly holidays, you could allocate 30 percent of income toward savings and reduce discretionary spending to 20 percent of your income.

The takeaway

The 50/20/30 budget is the perfect framework for learning good budgeting habits. Following the percentage guidelines ensures you have money to cover expenses, while saving for the future and still allowing you to enjoy life along the way.