If you’re new to budgeting, you’ve probably wondered which method you should use. While some (like me) take a detailed route and list all their bills, creditors and activities out, others may find that a bit intimidating or simply just don’t have the patience for the detail. To determine if it’s the right plan for you, read on.
What’s the 50/30/20 Budget Rule?
In a nutshell, the 50/30/20 budget is one in which you bucket your after-tax pay into three categories: 50% of that pay into needs, 30% to wants, and 20% to debt and/or savings.
To figure your after-tax income, you need to look at your net pay on your pay stub and add back any non-tax deductions. So add back any retirement contributions, health insurance, etc. that aren’t taxes. Voila! You have your after-tax income and your starting point. Now figure your percentages and start categorizing your expenses.
Your needs should fall into that 50% bucket. This includes things like your housing payments, utilities, healthcare (add that health insurance back in), transportation, minimum debt payments and groceries. Wants are the 30% category. That’s shopping, entertainment, kids’ sports, travel, etc. The 20% group is for savings (both savings accounts and retirement) and debt.
Go back to last month’s bank statement and separate all your payments into the right categories. Add them up, then check against that ratio to see if you’re lining up with those figures.
After you budget this way, you’ll still need to monitor your spending throughout the month to make sure you’re still on track. Tracking could take the form of a paper log (notebook or page in your planner), use of free tools that some banks offer, computer software or an app on your phone. That’s the method in a nutshell.
The 50/30/20 rule might be good for you if:
- You’ve never budgeted and the mere thought of a budget scares you. The 50/30/20 method will get you started, and you might not feel “hemmed in.” Having a plan is important, and if this is the way to get you started on a monthly budget, then do it.
- You have little to no debt. If you don’t need to pay down debt, that’s more that you can put toward savings and retirement. You likely don’t have to be as watchful of each dollar.
- You don’t live in an area with high housing costs. Expensive housing markets can really skew your 50% and throw the whole ratio out of whack. A more modest rent or house payment leaves more room in that big category for utilities, healthcare and other “needs.”
The 50/30/20 rule might not work for you if:
- You dislike ambiguity. This method is a bit more generic and flexible. There’s some ambiguity in which category some of your expenses fall into. For example, where do your transportation expenses go? Part of them is definitely a “need” so you can get to work, but what about going out with friends, or heading out of town for an event? How do you cut that expense between the “needs” and “wants?” If you’re the sort of person that wants a clear roadmap to follow, this might not be good enough for you.
- You’re trying to pay off a lot of debt or you’re trying to pay it off quickly. Putting 30% toward “wants” doesn’t leave you much of a shovel to work on that pile of debt. You’re better off trying to trim that 30% as much as you can, to pay off the debt as fast as you can. If you’re only putting 20% to debt, that’s going to take a long time.
- You’re trying to come up with a full an emergency fund, and fast. Related to the point above, if you can free up more of your paycheck for the 20% category, you’ll have that emergency fund available even faster. If you’re concerned about the possibility of a job loss, the faster you can fund that savings, the better you’ll sleep at night.
- You’re a high income earner. If you make a lot of money, your percentages are likely going to be very skewed. It would put too much on “wants.” That’s a lot of money to blow each month!
- You don’t want to write things down or track them. You still need to track your expenses each month! The way to get better at managing your personal finances is to keep an eye on them and know where you’re actually at in relation to what you planned out for the month. You still need to track your spending in an app, a spreadsheet or old school, on paper. Otherwise you may not be able to catch overspending.
Still unsure? Give it a try.
While the 50/30/20 budgeting method is a little to flexible for my personality, it could work really well for you. A lot of people use this method and are able to stick to it. The most important thing is to make a plan for your money each month – ANY PLAN.
If you aim at nothing, you’ll hit it every time. So whichever budgeting method you pick, stick with it. You’ll be more likely to reach your personal financial goals, whether they include paying off debt, buying a house, travel, or something else.