What is the 50-30-20 rule of budgeting? Explained with Examples

Finance

The 50-30-20 rule is popular for those who cannot keep track of their expenses. It is an effective and straightforward method for tracking expenditures, controlling them, and saving money. You divide expenses into three parts: your need (50%), your want (30%), and your savings (20%).

Budgeting makes it difficult to estimate accurate expenses every month. The 50-30-20 rule is a known, more flexible budgeting technique for your spending plan.

Managing a financial budget can be time-consuming and complicated. However, if you understand the spending plan easily, it can stabilize your future financial security. The 50-30-20 rule helps organize spending on your needs, wants, and goals. The budgeting rule breaks down your expenses into just three categories. It provides recommendations on how much you have to spend on each, with some information that can start your financial wellness.

If you follow the 50-30-20 rule, it will help you manage your money and grow your money rapidly. This unique rule can help you easily achieve your financial freedom and goals.

We make it clear with an example. Your gross monthly income is $6,350; your net income is $5,000 after tax. If you use the budgeting rule, you will have $2500 (50%) for your needs, $1500 (30%) for your wants, and the rest $1000 (20%) for saving and retirement.

Key Takeaways

The 50-30-20 budget rule insists that you spend no more than 50% of your after-tax income on needs and obligations, whether or not you must have or do.
The other half should be 20% for savings, with 30% for wants you want but certainly do not need.
This rule is not enforceable but is rather a template intended to assist people in managing their expenses.
It must balance paying for necessities and deferring certain funds for emergencies and retirement.
Those who want to abide by the 50-30-20 rule can implement it by making automatic deposits, setting up automatic payments, and monitoring changes.

The 50-30-20 Budget Rule Explained with Real-Life Examples.

The 50/30/20 rule is very simple and effective for managing your money. It helps you divide your tax-adjusted income into 03 main spending categories. According to the 50/30/20 budgeting rule, 50% is spent on your needs, 30% on your wants, and 20% on retirement or savings.

Note that if taxes are subtracted, withhold that amount from gross income. Do not subtract other amounts, such as retirement contributions or health insurance, that are automatically deducted. These amounts will become part of your budget. The saving 20% section will include the money you need for your future goals. Let’s take a close look at each section of the budget.

Here is a breakdown of each category type of expenses that might fit into each category:

50%: Needs

This covers all essential expenses you can’t live without and can’t easily avoid. Needs are the costs that keep your life running, which must be paid for survival necessities. 50% of your adjusted tax income is all you need to cover those basic needs and obligations.

If you are spending more than 50% of your income on your needs, it might be time to cut down or downsize your lifestyle. This could mean moving to a smaller house, buying a more modest car, or cooking at home instead of eating out.

About 50% of your budget should be according to your basic needs. These are examples of needs, including but not limited to:

Required Expenses you cannot avoid

Housing Rent or mortgage payment
Food
Transportation/ Car payments
Groceries
Basic utilities
Minimum debt payment
Health care and insurance
Child care

If you can’t live without the basic items, then you have identified a need, including making the minimum payment on your credit card.

30%: Wants

Wants are not basic needs, but when you divide all expenditures into three categories, the line between needs and wants can get blurred. The 50-30-20 budgeting rule says to spend 30% of your take-home pay on your wants that improve your standard of living.

Spend money on wants that are not essential. You can work out at home instead of going to the gym and watching sports on TV instead of getting tickets for sports. This (wants) category includes expensive decisions, such as buying a Mercedes car instead of an economical Honda, and you can watch TV using an antenna for free instead of watching cable Television. Wants are extra spending money that makes life entertaining and enjoyable.

Some examples of wants are included here but are not limited to:

The wants that are not essential to living.

Unnecessary accessories or clothing, like jewelry or handbags
The latest and upgraded functional electronics goods that you already have.
Ticketing for sports events or concerts
Non-essential travel
Self-care services like getting haircuts or nails
Unlimited ultra-high-speed internet
New tech
Streaming services
Gym memberships
Dining out
Entertainment

These are all expenses that are not necessary for everyday living. You don’t need to go out to eat when you have your fridge and your child outgrows school shoes or jacket, and there is no need to buy new clothes unless every month.

20%: Saving

With the 50-30-20 budgeting rule, focus on retirement to put 20% of your monthly income toward distant financial goals and create a financial cushion. Examples of saving (20%) can include the category:

Growing an emergency fund by saving
Making retirement through a 401(k) or IRA to a mutual fund account
Paying off debt, including the house loan, beyond the minimum requirements
Setting sinking funds for travel, car repair, and buying physical property for long-term survival.

Try to allocate 20% of your net income to feel secure and be safe in retirement. You should have at least three months’ emergency funds if you face an unforeseen event or lose your job.

The percentage (%) of the 50-30-20 budgeting rule can be changed according to your financial circumstances. If this budgeting rule is not suitable for you, you can explore other budgeting systems.

Pros and Cons of the 50-30-20 Budgeting Rule

Pros

The 50/30/30 rule is simple but powerful and can guide individuals to take control of finances in several ways. Here is why it works:

Simple to Use: The rule offers a simple framework for individual budgeting into its three clear parts- Needs (50%), wants (30%, and savings (20%). It is easy to use and does not require intricate calculations. Everyone, even beginners, can use the rules needing financial literacy.

Balanced money management: Using a budget helps you manage your money. You can ensure that you cover all essential costs for discretionary spending and save for the future. You can save for present and future needs, as well as have a little fun with finances.

Keep priorities of vital expenses: You can ensure half of your budget goes towards your basic income needs to cover fundamental needs like rent, utility bill, and groceries, and likely avoid debt.

Encourage saving goals: If 20% of your net income goes to savings, you can build emergency funds, pay off debt, and prepare for retirement. By consistently saving an amount, you can also ensure safety for unforeseen costs and sound financial practices.

Support long-term financial security: Build financial security in the short and long term by consistently setting aside 20% of income as savings.

Cons

The 50/30/20 rule is great for budgeting, which encourages splitting income into needs, wants, and super-important savings. However, this method is unfit for all solutions and falls short for many people. Here is why:

It does not reflect the reality for most budgeters.

The 50/30/20 rule is impractical for the average person because most people spend above 50% of their net income.

Let’s break down the math:

The median household income is $80,610 after taxes, Medicare, and social security; the average monthly home pay is $5,406. According to the budget rule, $2,703 (50%) should go to needs like house rent, healthcare, transportation, and groceries.

But here is the monthly average expenses for basic needs, roughly closer to $4,500, which is above 80% going towards (housing, transportation, healthcare, etc.). And that’s not counting many factors like debt payments, car loans, credit card bills, and student loans.

For most people, the recommended budgeting rule of percentage does not work. Another issue is that the rules of expenditure categories will stay the same, but life does not play by the rules. In some months, you may need unexpected expenses like medical bills; in another month, you may need car repairs. So, the budget has to be flexible to adjust with income, not pressure to hit rigid (%) every time.

It does not prioritize saving first.

With this budgeting rule, 30% wants and 20% toward saving of your net income. Yes, 20% for saving is better than saving 0, but it is not an effective way to build your savings.

Saving should be a must for emergencies, not an afterthought. Whether you’re building an emergency fund for your financial goals, like a down payment for a home, your savings should come first. The 50/30/20 rule makes it easy to treat saving like a back burner; it should be the very first priority in your budget for each month.

The budget doesn’t help pay off debt faster.

With the rule, you are paying debt at a slow pace. Because it combines savings and extra debt payments in just 20% of the overall budget. If you have a serious intention to pay debt, that’s not enough to cut it.

If you have debt, you should not spend 30% of your net income non-essential. You should focus on how you can get rid of your debt first you can. Cutting extra costs helps minimize your debt and regain control of your income.

Trying to juggle major financial goals keeps you progressing. You are much better at tackling them and staying fast to make big money.

How to Build a Balanced Budget with 50-30-20 Rule

There is a single method for tracking a budget that will work for everyone. We will provide high-level tips on adopting the 50-30-20 budget rule that is relevant to everyone.

Understand your net income.

The first step is knowing the exact net income. Gross income is different from your net income. Gross income is before tax, and deductions from federal and state income taxes are withheld. So, create an accurate budget after adjusting taxes on net income. Know the actual amount each pay period and divide the amounts into three categories (needs, wants, and savings).

Track your Expenses

Track your monthly expenses and understand your spending habits to get a clear picture. Analyze each expense and classify it into three categories: needs, wants, and savings. This can be done easily using a spreadsheet, which will help you see how closely your spending aligns with the 50-30-20 budgeting rule. The only way to stay on budget is to track your spending using Microsoft Excel or budgeting apps to make your budgeting decisions easier and more accurate.

Identify your essential expenses.

Essential costs cover maintaining your daily life, including rent, transportation, utilities, groceries, debt repayment, insurance coverage, etc. These basic costs take up the largest portion of your budget and must be managed carefully. Because these costs must be incurred, you usually have the least amount of flexibility to adjust them once you have committed.

Automate savings

Saving becomes easier if you automate the process. Set up a monthly automatic transfer from your checking account to your savings account. If you follow this method, your money will consistently increase without a manual process. You can review your budget and make sure it aligns with your financial objectives and lifestyle.

Stay consistent

Successfully adopting the budgeting rule relies on consistency. Be committed to your spending plan over time, and avoid going over it. The spending method works best when you have clear and steady guidance that can be leveraged each month. Mind it, reset your spending limitation every month, and aim to keep consistency from one month to the next.

FAQs

How to Split Your Income with the 50-30-20 Rule?

Using the 50-30-20 budgeting rule, divide your monthly expenses into three main categories: 50% (needs), 30% (wants), and 20% (savings).

Can I adjust the 50/30/20 Rule to fit my Budget?

Yes, you can adjust or modify the percentage of the 50/30/20 rule based on priorities. Modifying the percentage can better suit financial needs and goals. It is relevant for people who live in high-cost areas and who want a long-term retirement savings plan.

Is the 50-30-20 rule after taxes?

When you budget with the 50-30-20 rule, the rule is based on your monthly after-tax net income (take-home pay).

Can the 50/30/20 Rule Help Me Save for Long-Term Goals?

Yes, you can use the budgeting rule to save your long-term goals. Allocate the 20% saving or 30% wants categories towards your goal, like an investment portfolio, home down payment, education fund, etc. The rule is designed to bring focus on saving while managing everyday expenses.

Does the 50-30-20 rule include 401k contributions?

Yes, it includes a 401 (k) contribution to savings. However, since your employer automatically deducts a 401 (k) contribution from your paycheck, you need to account for this when budgeting based on your take-home pay.

Why You Love the 50-30-20 Budgeting Rule

A set of formulas for the basic three categories makes it easier to see spending clearly. Knowing that 50% of net income goes towards needs, 30% towards wants, and 20% towards saving keeps you stress-free. You can always adjust the basic to suit, giving you a 40/30/30 rule, a 60-30-10 rule, or even a 70/20/10 budgeting rule.

The Bottom Line

The 50/30/20 budgeting rule can be an effective and simple structure to find a perfect fit to manage your finances. Saving is always difficult, especially when unexpected expenses arise, making it hard to stay on the right track. The rule helps to provide individuals with a plan for managing their finances after-tax income. If their expenses increase by over 30%, they reduce basic expenditures and direct funds from critical areas such as retirement and emergency funds.

Life should be joyful, and living with restrictions is not recommended, but having a solid financial plan and sticking to it is. It can cover expenses and save more for retirement while enjoying the activities that bring you joy, which are all about balance.