It’s human nature to seek an easier way to deal with a complex task, and for many people, developing and managing a personal budget can qualify as a challenge. This explains why there are so many budgeting approaches out there intended to help you better manage your money. Some, like the “envelope system” for instance, are deliberately low-tech, while others are far more sophisticated including app-based personal budgeting systems that take advantage of the latest smartphone features.
One particular approach that has endured since it was first introduced in the 2005 book All Your Worth: The Ultimate Lifetime Money Plan, is the 50 / 30 / 20 Rule. Co-written by U.S. Senator Elizabeth Warren when she was a law school professor, Warren along with her financial analyst daughter saw the need for a straight-forward budgeting system that was easy to implement and follow. She also felt it was critical to prioritize saving and debt repayment.
The 50 / 30 / 20 Rule has been credited with helping people who’ve had difficulties in the past get a handle on their budget. Unlike many traditional budgets where you list each monthly expenditure and then track your spending to these individual expenditures, the 50 / 30 / 20 rule requires you to assign your expenditures to one of just three categories.
The first thing you need to do when adopting the 50 / 30 / 20 Rule is to review your monthly spending and assign each expense to one of the following categories:
Necessities – “Necessities” are the essential things you must pay for each month. This includes items such as your housing expenses (rent or mortgage plus your basic utilities), groceries, and at the very least, the minimum payments on your outstanding debt.
Wants – This covers the things that you’d like to have but, strictly speaking, aren’t essential. This is where you would include expenses such as dining out, cable TV, internet, vacations, and non-essential shopping.
Savings – One of the key benefits of the 50 / 30 / 20 Rule is that it provides for continuously building your savings. Whether you’re saving for a specific goal, or just setting aside some “what if” funds, this is where you include personal savings into your budget.
Next, determine your monthly take home pay net of taxes. If your income varies from month to month, take the average of your after-tax income for at least the last six months and use this as your monthly income amount.
Budget allotment by category
Now that you have assigned all your expenses to one of the three categories and established your monthly income, it’s time to allocate a portion of your income to each category based on the following requirements:
50% for Necessities
The largest chunk of your budget – a full 50% of your monthly income – is reserved for essential items. While it may be tempting to include some extra things you’d like to buy each month, for this budget it’s important to clearly distinguish between the things you really need each month, and other things it would be nice to have.
30% for Wants
You can’t be expected to totally eliminate all non-essential spending, but it is important to keep a handle on how much of your monthly income you spend on those nice-to-have things. Up to 30% of your budget can be used but if you find that you’re having difficulty managing your necessities, you will either have to find a way to increase your monthly income or reduce the amount in this category.
20% for Savings
We’ve saved this category for last in our discussion but building your savings should still be a priority. To ensure you have money in your budget to save for your future be prepared to commit 20% of your budget to this category.
Other things to keep in mind
While the 50 / 30 / 20 Rule clearly outlines how much of your monthly income to commit to each category, the reality is that depending on your specific situation, you may need to adjust the weighting for each category. For instance, if you have a lot of debt you may need to reduce the Wants category so you can direct more to the Necessities category to pay your debt down faster. On the other hand, if you’ve delayed building up your savings, you might increase the amount you reserve for the Savings category to something greater than just 20%.