Have you ever looked at your bank account and wondered where all your money went?
Or maybe your card was declined because you didn’t realize how much money you spent this past month?
It’s not just you. We’ve all been there at some point.
You know budgeting is an important part of meeting your financial goals, but you don’t want to go through the hassle of documenting everything you buy on an excel spreadsheet.
I get it. That sounds boring as heck.
But the good news is that budgeting doesn’t need to be complicated and boring!
And no, this isn’t an article where I shake my head at you and tell you to stop buying Starbucks every day.
Instead, I’m going to give you a popular guideline on how to budget so you can decide for yourself how you want to adjust your spending habits.
With a clear overview of your budget per month, you can confidently avoid overspending and aggressively build up your savings over time.
So today, we're talking about the 50/30/20 rule. A straightforward, monthly budgeting method that allows you to be more proactive about your financial goals.
The 50/30/20 rule is a popular budgeting method that splits your monthly income into three different categories.
Here’s how it breaks down.
50% of your income goes to “needs”, 30% goes to “wants”, and 20% goes to “savings” or paying off debt.
By simply being aware of where your expenses are allocated every month, you can put your money to work in more efficient ways. And the best part is that there are only three categories. Which makes it easier for you to stick to your budgets and identify what’s unnecessary in your monthly purchases.
So, let’s dive deeper into each category starting with the biggest one - your “needs.”
As I said, with this system, 50% of your income is allocated toward your needs.
“Needs” are expenses that you absolutely cannot avoid such as housing, food, transportation, utilities, or insurance.
So let’s say your after-tax income is $3,000 per month. This means that you should allocate $1,500 towards your needs.
If you find that your “needs” category exceeds 50% of your income, you may be able to make some changes to bring down those expenses a bit. This can include things like finding more affordable car insurance, using coupons at the grocery store, swapping energy providers, moving to a more affordable apartment, or whatever you decide is necessary.
I understand that adjusting your needs can be easier said than done. But the cool part of the 50/30/20 rule is that it makes you aware of your spending. And YOU can decide how to make whatever adjustments are necessary. I know financial responsibility can feel like a job in itself sometimes. But that also means it’s up to you to decide your course of action with this system. And your outcome depends on how you’re willing to strategize.
Now, for the 30% category. Our “wants” category. This includes extra expenses that aren’t essential to living and working.
“Wants” can include things like monthly Netflix subscriptions, travel expenses, going out to eat, entertainment, or going to the bar with friends.
If you’re taking home $3,000 a month from your job, then that means you should allocate $900 or less towards your wants throughout the month.
If you discover you’re spending too much on your wants, it’s worth thinking about which of those you could cut back on.
The 50/30/20 rule isn’t meant to suck the fun out of your life. But you may need to make adjustments depending on your situation and financial goals. One helpful tip is to ask yourself, “could I live without this?” If the answer is yes, then it may be beneficial to refrain from making that purchase.
And the last 20% of your income goes to savings and debt. Savings is the amount of money you put away to prepare for the future.
Now, this part of your budget can vary depending on your goals and your situation.
Savings and debt can include an emergency fund, a Roth IRA, paying off credit card debt, and more.
If you’re taking home $3,000 per month, you can put $600 towards your savings goals.
And if you stick with the 50/30/20 rule, you would have $7,200 saved. And imagine if you decided to invest some of this money or contribute it to your Roth IRA? Then you could likely expect to see your savings grow even more!
Consistently putting aside 20% of your pay each month can help you build a better, more durable savings plan. And this is true no matter what your financial goals are. Especially if you continue to save efficiently every year.
The 50/30/20 rule allows you to be more proactive with your savings rather than reactive. In other words, you’re intentionally meeting your savings goals rather than hoping you meet them every month.
Okay, so now you understand each category of the 50/30/20 rule. Now, let’s dive deeper and talk about how to apply the strategy.
The first step is to calculate your after-tax income.
If you’re a full-time employee, take a look at your paystub and document them every month so you know exactly how much lands in your bank account.
If you’re a freelancer, your after-income tax will be what you earn in a month subtracted from your business expenses and the amount you’ve set aside for taxes.
Now that you know the income you’re working with, we can move on to step two which is categorizing your spending for the month.
No, you don’t need to keep every single receipt from your purchases throughout the month.
Instead, you can simply look at your bank statement to assess your expenses. These days, most banking apps provide a spending summary that breaks down the different spending categories every month.
But if you want to be more thorough, you can go through your bank statements and look through each individual expense and categorize everything on your own.
However you want to approach this, is up to you.
You can then use the 50/30/20 rule we just talked about to figure out your expenses. You can simply write these expenses down on a piece of paper, your notes app, or a spreadsheet.
You can also check out budgeting apps like Mint, PocketGuard, or EveryDollar which allow you to create categories and implement the 50/30/20 rule in your budgeting strategy.
For step 3, evaluate and adjust your spending to match the 50/30/20 rule
Now that you can see how much of your money goes towards your needs, wants, and savings, you can start to make adjustments and plan how you want to allocate your spending going forward.
When adjusting your spending habits, the best way to do this is to assess your “wants” category. For example, you can categorize Netflix in the wants category and you can also categorize going to the bar in your wants category. Depending on your lifestyle, one of these might be easier to give up than the other. Bottom line - the more you reduce spending on your wants, the more likely you are to hit your 20% savings target. And if you have ambitious savings goals, maybe you can even pass the 20% mark.
At the end of the day, no one is forcing you to stick to the 50/30/20 rule. You can take this budgeting system as a guideline, and you can adjust it if you need to.
For example, maybe you want to be more aggressive about your savings goals and you want to save more than 20% of your income. If that’s the case, then you can either find a side gig or you can decrease the amount of money you’re spending on your wants category every month.
Hopefully, the 50/30/20 rule makes budgeting a lot less complicated for you. Different budgeting plans can take hours out of your day. But with this system, you can find a spending system that works for you every month and repeat the process over and over.
If you have changes in your income or monthly expenses, you can simply whip out the 50/30/20 rule again, and strategize however you see fit.
I hope this article helped you and made you a little bit wiser with just a few minutes out of your day.
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