Despite the fact that the 50/30/20 rule is known to many and seems like a rather old recommendation for financial literacy. it was invented not so long ago — only 17 years ago. In 2005, US Senator Elizabeth Warren and her daughter Amelia published the book Money Plan for Life, where the 50/30/20 budget rule was first clearly stated.
Interesting! According to the author of the book, the 50/30/20 savings rule allowed her to save money for education at George Washington University, successfully receive a bachelor’s degree in speech pathology from the University of Houston and then get a master’s degree in law from Rutgers University.
Let’s see what the essence of this rule is and how to use it!
So, budgeting 50/30/20 means that you need to divide all your income into three parts — 50% for basic needs, 20% for savings, and 30% for random wishes. Such financial management will allow not only to avoid debt, but also to effectively accumulate capital.
50% — For needs
This category includes obligatory expenses: bills for an apartment, utilities, loans, public transport, as well as things without which you cannot survive. The latter typically refers to:
- clothing, etc.
Sometimes life, health and property insurance are added to the list.
30% — For the wishlist
Under the 50/20/30 rule, the last category includes bonuses that make life more enjoyable, more fun, and more varied. A person definitely won’t die without them — you can live without a Netflix or YouTube subscription, restaurants or a new bag.
Unlike needs, these additional wishes are easier to manage. For example, you can buy a subscription to a trendy fitness center, or you can choose a simpler gym or even do sports at home. Or instead of going to an expensive Italian restaurant, just make risotto at home.
20% — For savings
And finally, when using the 50/20/30 budget recommendation, remember to set aside 20% of your income. First of all, it is worth saving for a safety net (the amount on which you can live for about six months without income or repay major unexpected expenses). After accumulating the required amount, you can switch to saving for large purchases or even investments, such as bank deposits, stock exchange or even cryptocurrency assets.
How to implement this rule?
If you decide to figure out what is the 50/30/20 rule and how to use it effectively, follow these steps:
- Calculate your monthly income, taking into account regular salary, stock dividends, part-time jobs, and all potential sources of funds.
- Re-allocate expenses to the new budget. Calculate exactly how much you can spend on basic needs list, wish list and savings.
- Figure out whether you can optimize your desires to spend less on unnecessary things and save more.
And, of course, don’t get carried away with keeping score. Even if you are roughly following a 50/30/20 budget recommendation, you will immediately notice how effectively it gets to manage general income.
What risks does the 50/30/20 rule have?
If you are going to use the 50/20/30 rule calculator, you should take into account some risks:
- Not everyone has enough income to save 20% without compromising quality of life — for example, if you spend more than 50% on basic expenses, then the share of savings can be slightly reduced (up to 10-15%);
- It’s easy enough to “deceive” yourself by distributing expenses — for example, food is clearly one of the basic needs, but the menu can be very different (you definitely can’t do without full breakfasts, dinners and suppers, but beer and chips for a football match are obviously on the wishlist);
- The share of savings should depend on the ultimate goal (if you are saving for a house or a car, then 20% is unlikely to be enough, and you will have to save up to 30%).
That is, even a rule as basic and simple as 50/30/20 requires attention for the analysis of individual needs and optimization for a certain lifestyle and circumstances.