What Is the 50/20/30 Budget Rule?

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Setting up a budget for your small business isn’t easy, but managing your personal expenses can be especially tricky if you’re using one account for both. Whether you have a startup or not, you may have issues with impulse spending or tracking where your hard-earned money went.

If you struggle to keep up with a personal budget, you can try the 50/30/20 rule. In this article, we’ll take you through what this system is, why it works, and other alternatives you could use.

Man counting coins

What is the 50/30/20 budgeting rule?

The 50/30/20 budgeting rule divides your after-tax income into three general categories:

  • 50% for needs (necessities, essentials, and needed wants)
  • 30% for wants (non-necessities and non-needed wants)
  • 20% for savings (outstanding debt and general savings)

Some financial planners will also say the “30%” is for “everything else,” but that can lead to confusion. If someone is having trouble with their finances, how will they know how to tell the difference between an actual need and a want? What qualifies as a non-needed want to you?

While these questions will be answered later, it’s important to note that the 50/30/20 budgeting plan isn’t a hard and fast rule. You may need to tweak that percentage allocation for your needs.

How to budget 50% for needs

The “needs” category is understandingly the largest and the most important because it includes everything you need to survive. However, “needs” don’t just include food, water, and shelter, as modern comforts are also considered essential or become necessary due to other factors.

For example, you could turn off the water in your house during the winter and buy bottled water, but if water is sitting in the pipes and freezes, they could burst and damage your shelter.

There are also government-declared necessities, like car insurance, health insurance, and minimum debt payments. If you don’t pay these expenses, your credit and health outcomes will be affected. Don’t forget to consider the internet, phone plan, and low-cost entertainment.

Ideally, half your income will go to your necessities, but if that isn’t the case, you’ll either need to make more money, cut down on your wants, or downsize your lifestyle. For example:

  • Consider if something is really a need or a want.
  • Carpool or use public transport instead of driving your car.
  • Find a pay-per-usage insurance policy (available if you have good credit).
  • Downgrade your cable, phone, and internet plans.
  • Switch utility providers to get a better deal or limited-time promotion.

Before moving on to wants, estimate your monthly payments for variable costs, like utilities or groceries. Add more to the estimate (at least $100-$300 more) so you’ll never miss a payment.

How to budget 30% for wants

Never feel guilty about spending money on yourself. If you’re spending within your means and saving money at the same time, there’s no harm in buying a video game or an outfit every now and then. Keep in mind that “wants” don’t include extravagances, like a new iPhone or purse.

If you have a shopping addiction, the 50/30/20 method can help you spend consciously. We don’t recommend spending 30% of your after-tax income on entertainment every single month. However, the 30% can give you some wiggle room if you do spend more than you intended.

To encourage you to spend less than 30%, consider putting your extra income inside a separate savings account that’s dedicated to exorbitant expenses, which include but aren’t limited to:

  • A National Parks Annual Family Pass
  • A new home or a separate vacation home
  • Plastic surgery, Lasik eye surgery, or Invisalign braces
  • A once-in-a-lifetime vacation, retreat, or experience
  • A broadway ticket to a show in New York City

Nice things are fun to have, but you’ll need to save for them if you don’t want to go into debt. If you’re in extreme debt, limit this section to 5%-10% instead of removing it entirely.

How to budget 20% for savings

According to the Federal Reserve, 36% of Americans don’t have enough money to cover a $400 emergency. 51% of Americans have less than $5,000 in savings, while 35% have $1,000 or less. Most financial experts agree that you should have 3 times your monthly income in savings.

With high inflation and wage stagnation, that isn’t easy, so don’t beat yourself up if you can’t save that much. If you can only save $10 a month, that still amounts to $120 a year.

If you have debt, all extra income should go towards it. Once that’s settled, start building an emergency fund equivalent to 2 times your monthly after-tax income. Then, once you’re confident you’ve saved enough, set up a high-interest retirement account and pay into that.

3 Alternatives to the 50/30/20 budgeting rule

The 50/30/20 rule is ideal for people who don’t have debt, have a variable income, or need to dedicate their entire paycheck to rent. If you fall into these categories, here are 3 alternatives.

1. The envelope system

Some budgeters find that automating saving account deposits makes it easy for them to set money aside. However, visualizing can help you become aware of how much you spend. The envelope system is an example of a visual saving system that uses labeled envelopes.

Grab four to six envelopes and label real-life and online purchase groups, such as “Bills,” “Groceries,” and “Misc. Shopping,” and insert the amount of money you’ll spend on each category. Whatever cash is left over can be placed in a separate envelope or savings account.

2. The 80-20 plan

The 80-20 plan is similar to the 50/30/20 plan except much simpler. All you do is add 20% of your after-tax income into a savings account, and you keep the 80% for yourself. 80% of your income will account for necessities, wants, debts, big purchases, and everything in between

If you’re going to use this system, make sure you have a clear overview of your expenses. The last thing you want is to pull from your savings account because you underestimated what’s included in your 80%. If 20% in savings is too much, experiment with 15%, then 10%, then 5%.

3. The custom system

Your budgeting needs are going to be different from your neighbors and friends, so a custom system may be the best option. Any budgeting system can work for you as long as you calculate your expenses, determine your post-tax income, and keep track of your spending.

Since a custom system doesn’t come with its own rules, be sure to set your own parameters, like a payoff date or savings goal. For example, self-employed individuals should always create a budget that includes tax payments, which range from 25% to 35% based on their earnings.

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