Budgeting your salary can be a fight to the death with expenses. Add the need to impulse buy once in a while and you have a complete nightmare. For many people, the key struggle has been knowing exactly when to save and what to save. When talking about budgeting, we cannot help but mention the 50/30/20 rule.
What is the 50/30/20 rule? It is really is a formula for spending and saving. When applied correctly, this formula might change the way you look at money and your salary. We are going to discuss this in great detail.
What is the 50/30/20 rule in Budgeting?
This simply refers to splitting your income into three parts. These three parts are often described as
- Compulsory expenses (50)
- Your wants or lifestyle choices (30)
- Financial Goals or savings (20)
However, that is really the short answer. Understanding this rule means understanding what we mean by expenses, lifestyle choices, and financial goals. Let’s take that one at a time.
Compulsory expenses refer to things that we simply need and not what we want. A good example of this will be paying the rent. Other related examples include getting your groceries or paying the utility bills or transportation.
However, buying that nice dress you have been looking at for the last 3 months is not a compulsory expense. The key to knowing what your compulsory expenses are is thinking about what you need and not what you want.
Your compulsory expenses might also be smaller or larger depending on your lifestyle. However, eating out regularly and clubbing with friends will not fall under the compulsory expenses. They fall under the next category.
This is more about your wants and not your needs. This refers to things that you simply can live without. A good example of a lifestyle choice will be choosing to go on that vacation. It could also be going to the cinema with friends and family.
Lifestyle choices can be mistyped for needs in various situations. One of these situations includes choosing to go out to eat a lot instead of cooking your own food. That really is a lifestyle choice and not a necessity.
Here are some other examples of lifestyle choices
- Having dinner
- Shopping for new and expensive clothing
- Buying a new car
- Other forms of entertainment
Financial Goals or savings
This is the smallest part of the equation. This refers to the money that you put aside from your income. This money can go to three different places. These places include
- Debt payments
- Future investments
For most people, this part of the equation is used to ensure that they are financially free moving forward.
How was this rule of budgeting invented?
The first real attention was given to this rule after Harvard Law Professor Elizabeth Warren made mention of it in her book “Your Worth- The Ultimate Lifetime Money Plan”. The aim of promoting this rule was to help middle-class families plan their monthly income perfectly.
Since then, the rule has provided to be effective when dealing with finances.
Why the 50/30/20 rule is so effective
Are you wondering if the 50/30/20 rule on budgeting is actually ideal for people who are just learning to save? Here are some of the best reasons I can think of.
1. It’s balanced
The world today is actually all about personal finances and budgeting. However, the 50/30/20 rule allows you to actually remain balanced.
Think about it. If you spend all your time saving more money than you spend, you really will burn out in the long run.
On the other hand, if you spend a large portion of your time spending your money on new experiences, it usually ends badly. You will probably not be able to achieve your goals in the long run. The 50/30/20 rules allow you to put everything in the right perspective.
2. It’s realistic
The rule is quite realistic. Let’s be honest. The bulk of our income often goes into rent or mortgage. By the time those payments have been made, almost half of what you earn monthly might be gone. This leaves you with just half of your income. Spreading it across your wants and savings is completely realistic.
3. It’s A Great Way to Save for Beginners
If you are just starting to save as a beginner, this is the easiest way to get things done. It also allows you to track your savings and keep your finances organized. This can be tough to handle especially if you have a busy schedule.
4. It makes you make real priorities
Here’s the good thing about this budgeting strategy. It allows you to have real priorities around your wants and needs. Many people just jumble everything together. However, deciding that you want to
How to calculate the 50/30/20 rule on Budgeting
Do you want to start using the 50/30/20 rule? If you do, here’s how you can do this.
· Calculate Your Income First
First, you should calculate your income. To get your total income, you have to calculate all sources of income. This might include your regular job as well as all passive income. Combining them will give you the total income you get.
So for the purpose of this article, we are going to assume you have earned $5000.
- Full-time Job- $3,500
- Blogging- $1500
Once you have gotten your total, it’s time to move to the next stage.
· Divide that income
Next, it’s time to divide that income into three parts using the 50/30/20 rule. Assuming you earn $5000 as your total income, this is how your final budget should look like.
Tips on How to Make This Rule Work for You
It’s easy to understand how a concept works. However, it can be quite difficult to actually get it to work for you. I understand that perfectly. So, here are some tips on how to implement the 50/30/20 rule on budgeting.
1. Set a Threshold
Set a threshold or limit for each of the three sections. For example, make a habit of not spending more than you need on lifestyle choices will ensure that you keep to the limits. You’ll quickly find that the most flexible part of your income is your wants. So, take advantage of that.
2. Cut Down On Debts
While debt repayment might be part of the 20%, it really should be cut down. Taking on more debts because you have an allocation for it is really a recipe for disaster. So, try to slowly reduce the amount you owe in debts. You will be happy you did.
Is The 50/30/20 A Strategy For Everyone?
The 50/30/20 rule is a strategy that can accommodate everyone. However, it might be preferred by some people. First, the strategy allows a lot of freedom. 30% for lifestyle choices is a lot of room. Most people who are already professionals in budgeting will be able to reach this pretty easily.
However, it is an excellent way to start. If you are simply trying your hands at budgeting, this principle will surely go a long way in helping you.
Weaknesses of the 50/30/20 Rule
There are several weaknesses of this rule that you should know about. Let’s consider some of them
· It Might Be Not Suitable For Low-Earning People
While this rule might make perfect sense for persons who are in the middle class, it might not be true for lower-class persons.
These people might use a large proportion of their income on their needs. This might significantly reduce what they have left for savings or their wants.
· Too Much Freedom for Wealthy Households
While it might be too bad for lower-income families, it might be too good for people who are on the other end of the spectrum. They might not have to spend 50% of their income on their needs. This will leave way too much for their lifestyle and savings. Interestingly, it’s highly likely that the extra money will go into their lifestyle choices.
· It Can Be Limiting
Here’s another problem. This rule can be limiting. We all have our various goals. If you’re like me, you are probably working really hard towards financial independence. If so, you might find the 20% saving too limiting. You probably thought about it when you started reading this article.
It might not be a good fit for you if you are on a quest or have a timeline to achieve your goals.
· What If You Get A Sudden Cash Flow?
So what if you suddenly get some extra cash? What do you do with it? Where does it fall into? The strategy doesn’t really tell you. In the end, you will have to figure out where to place your extra funds.
Customizing the Rule Is Allowed
The best way to solve this problem will be to customize the rules let’s face it. Everyone’s earning capacity is not the same? So, the best way to solve this problem is to customize this rule to suit your preferences.
However, while doing this, make sure that you do not give yourself too much freedom.
The 50/30/20 rule is a great way to start budgeting. Once you feel you can handle this easily, you can easily customize it to fit your preferences.