Budgeting Made Simple
Nov 23, 2022
What is a 50/30/20 Budget?
Many people shy away from preparing a budget. Most consider it quite boring, and mentally tasking too. Or they find it simply unrealistic to follow through on one.
If you find budgeting a hard nut to crack, I have great news: The 50/30/20 budget rule makes budgeting straightforward to implement!
Although the 50/30/20 rule serves as a guide for budgeting, it is not one-size-fits-all. This means you can (and should) tweak it to fit your current financial situation. To do this, you need to understand how the 50/30/20 works. Now let's get started.
What is the 50/30/20 Budget Rule?
The 50/30/20 budget rule is a budget management strategy made famous by the book written by U.S. Senator Elizabeth Warren and her daughter, Amelia Warren Tyagi, titled "All Your Worth: The Ultimate Lifetime Money Plan." It advises earners to allocate 50 percent of their after-tax income to needs, 30 percent to their wants, and 20 percent to their savings.
#1. 50 Percent Needs
Needs are essential bills you must pay. They typically include rent, insurance, groceries, childcare, health insurance, utilities, etc. While you may have specific essential needs featured on your monthly list, others might be flexible.
Since your needs are things you cannot survive without, you should pay attention to how much of your earnings you devote to them. The 50/30/20 rule recommends 50%.
You may have to reevaluate your budget if you spend more than 50% of your income on your needs. You can do this by cutting out irrelevant expenses and going for cheaper alternatives.
#2. 30 Percent Wants
Wants include everything else that is not a need, from vacations to concerts, movie tickets, new handbags, spa trips, and whatnot. Everyone needs to have moments when they indulge themselves.
This budget rule allows you 30% to spend on your wants. This does not mean you should spend a whopping 30% of your monthly paycheck on fun stuff. Instead, following this rule will ensure you don't exceed the 30% benchmark.
#3. 20 Percent Savings
According to reports, over 1 in 5 working Americans (21 percent) do not have any savings for the future – retirement, emergencies, or other financial projects. This is quite sad as experts recommend saving 10-20 percent of income. The 50/30/20 budget recommends that 20 percent of net income be used for savings, investment, or debt payments.
It is ideal to allocate three to six month worth of savings in case of a job loss or other emergencies. You don't want to be financially stranded at such times.
How Does the 50/30/20 Budget Work?
To apply the 50-30-20 budget rule, you need to do the following:
Calculate the total value of your average after-tax income: You should include the amount taken for a workplace retirement plan. Then split the number according to the three different percentage categories.
Evaluate spending habits. This is the time to analyze your spending pattern and know where you spend most of your money. This is the time to evaluate if you have been frugal or flamboyant in your spending.
Classify your expenses into needs, wants, and savings. To do this, you might repeatedly ask yourself, "does this fall under a want or need?" Here, honesty is vital. There is no better person to dismiss a project as a want than yourself.
Test-run for a short while. Try living by your new budget for some weeks and see how that turns out. It may be challenging, especially if you are a newbie in budgeting, but you must stick to the budget to get results.
Example of 50/30/20 Budget
Here's a 50/30/20 budget example:
Let's say you earn $2,500 monthly on average, and another $150 comes into your 401(k) plan monthly. Then the total income we are dealing with is $2,650.
To apply the 50/30/20 rule,
Needs should have $1325 ($2650×0.50)
Wants should have $795 ($2650× 0.30)
Savings has $530 ($2650× 0.20)
Thankfully, you do not have to do these calculations yourself. You can make use of any 50/30/20 budget calculator of your choice.
The Downside to the 50/30/20 Budget Rule
Like everything else, the 50/30/20 rule has its downside, and they include:
#1. The Budget May Not Work for Low-Income Earners
The 50/30/20 rule does not seem feasible for low-income Americans, especially since the standard of living in certain cities can be pretty high. With the recent hike in prices of things, it may be nearly impossible to continue allocating only 50 percent of income to needs.
#2. High Cost of Needs
Several people face the high cost of housing, insurance, child care, and more and might have trouble maintaining the 50 percent need benchmark.
#3. Three Categories' Restrictions
Some people might have difficulty classifying all expenses strictly into any of the three categories.
#4. Varying Financial Goals
Your financial goals for the future will determine how much you save. It's good to start at 20 percent. However, if you plan to retire earlier than expected, you will have to save more.
Other Budgeting Options
Besides the 50/30/20 rule, there are quite some other budget rules people also consider, including:
The 80/20 Rule:
This is for you if you are not looking for a detailed step-by-step breakdown of your spending. All you need is to save 20 percent of your net income. The other 80 percent is all yours to spend on whatever you want.
The 70/20/10 Rule:
This is quite similar to the 50/30/20 in terms of its division into three categories. While 70 percent of your income goes to essentials, 20 percent to savings, and 10 to debt payments. Where there are no owed debts, you may decide to invest the 10 percent into something worthwhile.
Zero Budgeting:
This rule comes with no specific formulas. It only involves attaching a specific purpose to every money gotten.
One of the best things about this budget system is its flexible nature. Naturally, it places the needs at the core and other things after it.
Bottom Line
Now that you understand how the 50/30/20 works, your next point of call might be to determine if the budget rule is a good option to consider. However, you must know that it may not be the best for everyone. You should evaluate your financial goals and long-term plans to adopt the best budgeting rule.
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