Proportional budgeting with the 50/20/30 rule
By Anne K. Fisher
Sunday, April 22, 2018
For many of us, the word “budget” evokes overwhelming dread and a vision of giving up all of our favorite splurge items. A budget that makes you account for every single dollar you spend can seem suffocating. However, budgeting is essential for paying bills on time now, and for planning for your future. The good news is that you don’t need complicated spreadsheets to understand how to budget your monthly income. The 50/20/30 rule is a proportional guideline that can help you keep your spending in alignment with your personal savings goals and allows you some flexibility to spend your money on what’s most important to you.
The goal of the 50/20/30 budget is to break down your monthly take-home income into three broad categories, 1. Essential living, 2. Financial goals, and 3. Flexible spending.
The first step is to determine your monthly take-home income. This is the “net” amount on your pay stub after all taxes, health insurance, and any other deductions have been made. Once you know how much money you have available to work with each month, you can build your budget using the three broad spending categories:
• Essential living expenses (50 percent). A maximum of 50 percent of your income should go to essential living expenses. This category includes rent/mortgage payment, utilities, groceries, insurance, daycare for children, medications, transportation for work, and other unavoidable monthly expenses.
• Financial goals (20 percent). You should dedicate a minimum of 20 percent of your take-home pay toward important payments or contributions that will help you secure your financial foundation. This includes savings for retirement, paying down debt, and building an emergency fund. This category of expenses should only be paid after all your essential living expenses are taken care of but before you even consider anything in the last category of flexible spending.
• Flexible spending (30 percent). Whatever is left over after paying all your essential living expenses and your financial goals is available to you for flexible spending. This includes everything that you want to buy but don’t necessarily need. These personal lifestyle choices include money spent on travel, entertainment, dining out, shopping for clothes or home décor, gym memberships, etc.
The percentages for living essentials and flexible spending are the maximum you should spend. If you spend less than the recommended guidelines, you will have more funds available for your financial goals. Every person’s financial situation and goals are unique. If you are committed to saving money for a down payment on your first house, you may want to decrease your flexible spending percentage and increase your financial goals percentage to accumulate the down payment funds more quickly. Using the 50/20/30 guidelines provides the flexibility to budget your money based on what is most important to you.
Before your set up your budget percentages, you need to track your current spending. Keep a log of everything on which you spend money, including rent, utilities, groceries, dining out, movies, Starbucks …. every single expenditure. There are lots of software programs and apps available that make tracking expenses easier than ever.
Next, allocate your spending into one of the three categories: essentials, financial goals and flexible spending. From here, you can adjust your spending to ensure that you’re within the 50/30/20 guidelines.
You may find ways to cut some of your essential living expenses by cutting grocery expenses, driving a less expensive car, or comparing insurance rates. Most of the potential decrease in spending will come from your flexible spending, though. Look carefully at your dining out habits. Is this an area where you can trim fat? Inspect your TV, phone, and internet bills to determine whether you really need each service for which you are paying. Pay close attention to your personal shopping expenditures. This is likely an area where you can decrease spending.
Keep in mind that the 20 percent of your budget helps you the most. The goal for budgeting is to get out of debt and to increase your savings. By spending at least 20 percent of each paycheck paying off debt and contributing to your personal wealth now, you will be able to afford to splurge more in the future, and, more importantly, have a comfortable and independent retirement.
The 50/20/30 Rule gives you flexibility in deciding how you spend your money while putting you on the path to sound financial health. This plan allows you to prioritize your expenses and then weed out those that you can live without. Give it a try and reassess after one year to gauge your success and make necessary adjustments.
Anne K. Fisher is a teaching instructo in the Finance and the College of Business Scholarship Administrator in the ECU College of Business.