What is the 50 30 20 Rule?
The 50 30 20 rule was introduced by United States Senator Elizabeth Warren in her book “All Your Worth: The Ultimate Lifetime Money Plan.” The book provides tons of personal financial advice, and the 50 30 20 rule was one of the highlighted concepts. If you are a first-time renter and still trying to nail down your budget, this fundamental rule is a good place to start. The 50-30-20 rule says that you should spend 50% of your after-tax income on necessities, 30% on discretionary spending, and set aside the remaining 20% to pay off debt and contribute to your savings.
The rule states that 50% of your after-tax income should be spent on things that can be considered necessities. Expenses that fall under this umbrella include the following: rent, utilities, food, car payments, gym membership, cell phone, and cable bill. These are your main priorities and often the largest monthly expenses. That’s why 50% of your income goes to this category. Curious how much of this should go towards your rent versus the other essentials? Check out our advice here.
The 30% is for your discretionary spending. If the 50% is about your needs, consider this 30% dedicated to your wants. Whether it’s on shopping, traveling, entertainment, or a daily Starbucks run, only 30% of your take-home pay should be put towards this category.
The remaining 20% goes towards bettering your financial security. This small portion of your income pays off those outstanding debts and builds up your savings or retirement funds. Prioritize tackling debt with high-interest rates first. Try to avoid paying the minimum payments on things like your credit card or student loans. Instead, focus on paying these debts off as quickly as you can. Build out your savings accounts and max out those Roth IRA‘s and 401k’s. Your future self will be thanking you when you decide to retire and travel the world.
The 50 30 20 plan is just a general rule of thumb, but your financial goals depend on what you want. Focused more on generating long-term wealth? Cutting back on the discretionary spending and contribute more to investments can get you there. Whatever it is, calculating your after-tax income with the 50 30 20 rule in mind is a great place to start.