We know that we’re supposed to start a budget to get our finances under control. But it can be hard to know exactly how to make a budget plan to make sure we’re not spending too much or saving too little – not to mention trying to figure out how to stick to it! Luckily, the 50/30/20 rule is about to do all the hard work for you.
What’s the 50/30/20 rule?
The 50/30/20 rule is probably the easiest way in the world to figure out how to budget.
Not only does it make it super easy to see how much you should (or shouldn’t) be spending in each budget category, it also means that it’s immediately clear where you should be making some changes.
The numbers in the name of this rule mean that 50% of your income should go towards “needs”, 30% towards “wants” and 20% towards “goals”.
This makes it really straightforward to see where you might be overspending and, importantly, how to fix it.
For example, say you decide to start a 50/30/20 budget. Great!
But you’re…kinda not really careful with your money and then, at the end of your first month, you calculate your expenses. And whoops, you don’t have enough to make that contribution you definitely intended to make this month to your retirement account.
Straight away, you’ll be able to see that, say, too much is going into “needs” and “wants” and not enough into “goals”. And then you can figure out just where you need to tweak your spending.
It’s also perfect for avoiding debt as it means that you’re only using money you actually have.
After all, using this budget, you’ll have a certain amount allocated to savings/debt repayments (or “goals”) and some to expenses (or “needs” and “wants”).
This means that all of your money is being used for something but you’re not spending a cent more than you have.
Which means no more debt!
How to make a budget plan using the 50/30/20 rule?
Firstly, you’ll actually need a budget to follow, so grab your free template here!
Step 1: Figure out your after-tax income
The taxman always comes first (*sigh*), so take out any income tax, state tax or local tax from your paycheck.
Things like social security and Medicare should also be taken out, as should your business expenses if you’re self-employed.
However, deductions like retirement contributions should be added back in.
From here on in, we’re going to look at the example of my good friend, Budgeting Betty (whose parents clearly hated her with that name), who has a monthly take home income of $3,800.
Step 2: Calculate 50% of your after-tax income to allocate to your “needs”
So in our example, Budgeting Betty can spend 50% of $3,800, or $1,900, on her needs.
And what are “needs” here? Well, it includes things like housing, groceries, utilities or health and car insurance.
The main issue here is making sure that you distinguish between “needs” and “wants.
A great rule of thumb is that any payment you could (theoretically!) give up without it truly impacting your life, like your cable bill, is more than likely a “want”.
At the same time, something that would really have an effect on your life, like if the electricity was cut off, is a “need”.
One grey area here is things like payments on credit card debt. The minimum payment should be considered a “need” as your credit score will be negatively affected if you don’t pay it.
But any additional payments – although we definitely recommend doing them to get out of debt – shouldn’t be classed as a “need” for the purposes of the 50/30/20 budget.
Step 3: Calculate 30% of your after-tax income for your “wants”
This sounds amazing at first. You’re telling me that I can devote 30% to whatever I want??
TIme to go shopping!
Well, no, sorry. Take a look again at the strict meaning of “need” above and you’ll see that what counts as a “want” is actually fairly broad, meaning you have to stretch your money to cover all of those things.
So this isn’t just “eating at a nice restaurant once every two weeks” or “that new bag”. It’s also your cable bill, that lunch you bought at the cafe down the road last week when you couldn’t be bothered bringing your lunch and most of your clothes.
“But I need to eat!” you say. Sure, but the absolute need is to get groceries from the supermarket. Anything that adds a layer of convenience, like buying food at work, is more than likely going to be a need.
MORE INFORMATION: HOW I SAVED $300 ON MY GROCERIES IN ONE MONTH
Similarly, you’ll need some clothes. But “needs” for clothes include, say, a winter jacket. “Wants” is everything else you bought during the sales last weekend.
I know. I’ve said before that budgeting isn’t the most fun activity on the planet.
But having a budget is hands down the best way to start getting your money under control. Which means that it’s the first step towards your financial independence.
Step 3: Allocate 20% of your after-tax income for your “goals”
“Goals” are all those great things we now have to think about as adults but that are hugely important for our future.
It includes things like making extra payments towards your debts, contributing to your retirement account, setting up or beefing up your emergency fund, or adding to your other investments.
AND SPEAKING OF YOUR RETIREMENT ACCOUNT: HOW TO MAXIMISE YOUR 401(K) BY TENS OF THOUSANDS OF DOLLARS
Step 4: Make sure you actually stick to the numbers
Now, it’s all well and good to write all of this down.
In fact, by doing that, you’re already doing better than most people who don’t track their spending yet can’t understand why they keep going further and further into debt.
But you also need to monitor your spending to make sure you’re only spending as much as you have in each category.
But this is actually why the 50/30/20 budget is so good – it’s so easy to monitor.
For example, let’s look at Budgeting Betty who has 30% of her budget to spend on “wants”, which equals $1,149.
As she goes through the month, she knows that she only has that much to spend on everything.
She may be really smart and set it up so that her ongoing wants, like her phone contract with unlimited data so that she can Snapchat her heart out, are paid at the start of the month.
(This is what I do – all my recurring expenses as well as my “goals” are immediately taken out of my account each month. This means that I never ever spend more than I have and I’m always pumping up my savings each month.
FIND OUT MORE: HOW TO AUTOMATE YOUR FINANCES AND SAVE MONEY IN 3 EASY STEPS)
This means that she’ll have enough to pay these bills AND will also know exactly how much is left over for some of her random “wants”, like going out for breakfast with her friend on Saturday morning when the friend just broke up with her partner and is having a meltdown and really needs a massive coffee and a good gossip fest to get through it…
(Can you tell how I spent my last Saturday morning?)
The first month you do this, you may find yourself a bit tight on money by the last few days, especially if you haven’t been so good at budgeting in the past.
But that’s normal and you’ll adjust. And as you continue to apply this method from month-to-month, you’ll find yourself getting better and better at making your money last through to your next payday without struggling.
You may even find yourself able to boost the savings allocated under the “goals” section.
And before you know it, you’ll realise that hey, you’re actually budgeting properly!
What do you do if you can’t actually follow your budget plan?
If you haven’t been particularly, ahem, diligent about your budgeting in the past, then you may feel that this is a bit of a struggle at first.
But, as they say, no pain no gain.
So maybe you find yourself going over the allocated amount in certain categories, which means that you’re not able to meet your goals…
Or perhaps you’re going over your monthly income as a whole, which is doubly bad as it means you’re going into debt to sustain your lifestyle…
…then you, my friend, are going to have to make some changes.
TRY THESE AS A FIRST STEP: 15 AWESOME AND TOTALLY FREE MONEY MANAGEMENT TOOLS
They may hurt at first but trust me, they’ll be oh so worth it.
Of course, the most straightforward way out is to try to cut back on your “wants”.
And there are a range of ways to do this:
- 17 THINGS TO STOP BUYING TO SAVE MONEY
- HOW TO SAVE $1,000 IN 3 MONTHS (AND STOP LIVING PAYCHECK TO PAYCHECK)
- 50 FREE THINGS TO DO ON A NO-SPEND WEEKEND
So if this sounds like you, it’s time to take a good, honest look at your “wants”, have an adult chat with yourself in the mirror, and start seeing just what you can give up.
(And do everything you can not to cut back on your “goals”! Future you needs those retirement savings and debt repayments!)
But what if you’re struggling with the “needs” part?
Let’s take Budgeting Betty’s example again of having $1,900 to spend on “needs”.
This includes your rent or mortgage, so this means that you probably can’t afford $1,700 monthly payments unless the cost of the rest of your needs is incredibly low.
The best way to maximise your savings over the long term is to focus on the big wins.
That is, the more you can reduce your regular, large expenses, the more you’ll save over time.
(This is why we think it’s fine to have the occasional coffee when you’re trying to manage your money. Having the odd takeaway latte won’t ruin your finances. Spending way more than you can afford on rent or your mortgage absolutely can.)
So if you’re renting, you may be locked in for now until the end of your lease and may have to look back at cutting back some of your other “needs”.
Some ideas are:
- Refinance your student loans – not only is it incredibly easy to refinance your student loans, but it’s also free to do! However, the best part is that using a company like LendKey can save you an average of $10,000 on your student loan repayments. So if you’re struggling to meet these repayments – or even if you’re not! – consider taking two minutes to see if this is an option for you.
- Check you’re not paying too much for your insurance – it can be really easy to just pay your insurance premiums each time they’re due as it’s just so much effort to check if you’re getting a good deal…right? Well, not really. You should absolutely be keeping an eye on the market to see if there are any better options for your circumstances.
- Spend less on groceries – those supermarket trips can really add up, but luckily there are a range of ways to save money on your household’s food bill. For some tips, check out HOW I SAVED $300 ON MY GROCERY BILL IN ONE MONTH.
- Reduce your cell phone bill – most of us never use all of the data or minutes in our cell phone plan, despite the fact that most of us are paying big money for these things. So consider seeing if you can cut back on this, as it can save you a ton. To see just how to do this, take a look at HOW TO EASILY SAVE ALMOST $1,000 ON YOUR CELL PHONE CONTRACT.
But if you’re looking for somewhere to rent now or know that your lease runs out in a few months, you should seriously consider moving somewhere that’s way more affordable.
Not only is it great for your budget, but removing some financial pressure is amazing for your stress levels.
If you have a mortgage with high repayments, selling is a much bigger decision. While I won’t go into all of the relevant factors here, sometimes selling can cost just as much in the long run, what with the costs involved and, worst of all, if your house has lost value since you bought it.
At the very least, consider checking out some mortgage refinancing options – or even call your bank to see if the rate can be dropped.
This is something that most people don’t ever try doing, but trust me when I say that it can be a hugely effective way to stop lining your bank manager’s pocket.
After all, this is what I have done to have all my bank fees waived (bonus tip: that article even has a script for you to follow!) and the strategy there works just as well on your mortgage rate.
I’ve cut everything I can and I’m still having trouble getting this budget to work
Firstly, are you absolutely sure?
Like, really really sure?
Then it may be time to look at increasing your income.
Luckily, there are tons of ways to do this that can all be tweaked to fit into your life (and your schedule), even if you already have a job.
After all, I run this blog with a full time job as well!
So take a look at some of these ideas to see what might work for you:
- 11 WORK FROM HOME JOBS THAT PAY A FULL TIME INCOME
- MAKE MONEY FAST: 30 WAYS TO MAKE $100 EVERY DAY
- HOW TO START A BLOG IN LESS THAN 15 MINUTES (and for only $3.95 per month – which includes a free domain)
- 9 OF THE BEST SURVEY SITES TO MAKE YOU MONEY ONLINE
Just make sure that you aren’t using your increased income to increase your “wants”.
In fact, if you find yourself meeting all your “needs”, the best way to use any extra money you’re able to find is to put it towards your “goals”.
This may end up changing the budget formula a bit to, say, 40/30/30 but putting 30% of your income (or more!) towards meeting your financial goals is an amazing step in the right direction.
That can actually be a nice ongoing challenge with the 50/30/20 budget rule – it’s a great place to start when you’re trying to figure out this whole budgeting thing.
But over time, you can push yourself to decrease the “wants” and even the “needs” percentages and put that extra money towards your “goals”, like your retirement savings.
After all, if you save just $500 per month, you’ll have $1,000,000 in 36 years – even though you’ll have only invested $217,800 over that time!
(That might sound like a long time, but 36 years is less than the average working life. So it means that not only will you potentially get to retire early, but you’ll be a millionaire. Not a terrible outcome, all things considered.)
So when cranking up your savings could result in you getting $782,200 for free over your lifetime, that’s some pretty good motivation to get started with your brand new budget!