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What is the 50/30/20 Rule of Thumb for Budgeting

Aug 10, 2017

Budgets are about paying your monthly bills on time, with the goal of giving you more power over your spending. The best way to give you that control is for you to be able to figure out exactly what you are spending your money on each month. This can allow you to better proportion your spending and align your financial activity with your savings goals.

Enter the 50/30/20 rule of thumb, also referred to as the 50/30/20 budget. This budget is a proportional guideline that you can apply to your budgeting system. These guides, which can be tweaked to suit your unique situation, can help you simplify the budgeting process so that you are gaining financial ground each month rather than finding yourself in the red. Here are the four steps involved in using the 50/30/20 budget.
Step 1: Figure Out Your After-Tax Income Before you can create a budget, you need to know how much money you have to spend each month. This is equal to your take home pay, or after-tax income. If you have a salaried position with a steady paycheck, this should be an easy find. If you are hourly or self-employed figure out your average take home pay each month. Items that you should add back in for all of these include retirement contributions, health care, and other benefit deductions. Step 2: 50% of Your Income Pays for Needs Now that you have an after-tax income figure to work with, you can create an accurate budget. No more than 50% of your after-tax pay should go towards your "needs." This includes such things as housing, food, health care, utilities, and car insurance. Other "needs" include minimum payments on any outstanding debts. This "needs" category is fairly strict as it includes only items for basic subsistence and survival. Some of the things that you think you "need" are actually "wants." Step 3: 30% of Your Income Pays for Your "Wants" Devoting 30% of your budget to "wants" may sound attractive, until you realize how much is omitted from the "needs" category. For example, cable TV and smartphone plans are "wants," not "needs." Some gourmet foods are also "wants," as are visits to the hair salon and brand new clothing. Plan your budget wisely, however, and you'll be able to fit a few of these items in comfortably. Step 4: 20% of Your Income Goes Towards Savings and Debt Repayment Last, you should devote 20% of your monthly budget to saving money and debt repayment. Everyone should have an emergency fund and begin saving for retirement as early as possible. It's also a good idea to put extra money each month towards debt repayment beyond just the minimum monthly payments that were allocated for in your "needs" bucket.

Establishing good budgeting and saving habits is a skill that will provide you and your family with a lifetime of benefits. This percentage-based system can be applied to just about any living or salary situation, but feel free to adjust it so that your budget makes the most sense for you.

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