What is the 50-30-20 Rule?

Creating a budget can help you make confident decisions and enjoy peace of mind. However, a detailed budget can be complex to manage.

The 50-30-20 rule splits expenses into just three categories. It also offers recommendations on how much money to use for each. You can get on the road to financial well-being with some basic information.

The 50%

Once you are aware of your income, calculate your bills which includes rent or mortgage, car loan, electricity, and phone bills. After this, take an estimate of how much you spend on groceries each month. Add up these, these are your bare necessities. If it’s half of your salary or less, then you’re on track for a 50-30-20 budget.

Ask yourself where you could cut back if it’s more than half your income. Do you need that car for your job or just to show off to your friends and neighbors? Is it more beneficial for you than detrimental? Are you conscious about the budget when grocery shopping? You need to ask yourself these questions and find the honest answers to them.

The 30%

Once your necessities take up half of your post-tax income, it’s time to consider how you spend the rest half. Your bank and card statements can help you see your spending on entertainment like streaming services, eating out, buying clothes, traveling, shopping, and self-care.

Look back over several months to see how much you’re averaging and how it compares to your total income. If its breaching the 30% threshold, go through the list to see which enjoyments you’ll miss the least, and then cut it down for the months to come.

The 20%

The remaining 20% consists of debt repayment and savings and requires some real discipline. It’s quite tempting to postpone saving and limit debt payments to the minimum each month, particularly if you’re starting. However, credit cards and student debt typically have high interest rates. High-interest debt can be a massive impediment to meeting your financial objectives.

If your debt is not unmanageable, and that 20% is earmarked for savings, figure out what you’re saving for. Many financial experts recommend having six to eight months of expenses kept in an easily accessible and liquid emergency fund, usually a savings account.

If you’re saving for long-term goals like retirement, you may consider opening an individual retirement account (IRA). If your employer offers a pension plan, contribute as much as possible, particularly if they match a portion of your contributions.

Importance of Savings

The average savings of Indians varies depending on their income, location, and lifestyle choices. According to a 2022 survey by Moneycontrol, the average savings of most thirty-year-old Indians is approximately INR 1.5 lakhs.

The 50-30-20 rule is to help individuals manage their after-tax income, primarily to have funds for emergencies and retirement savings. Every household should prioritize having an emergency fund in case of job losses, unforeseen medical expenses, or any other emergency monetary cost.

If an emergency fund is used, then you must first focus on replenishing it.

Saving for retirement is a critical step as the life expectancy has increased significantly. Calculating how much money you will need for retirement and working towards that number will ensure you a comfortable retirement.

What are the benefits of the 50/30/20 Budget Rule?

This 50/30/20 rule can be a game changer for individuals chasing financial prosperity in a number of different ways. Some of the potential benefits of this rule include:

Long-term financial security: Using this rule, you prioritize your financial future by regularly setting aside 20% of your salary. This savings can help you accumulate money, invest the accumulated money, meet long-term financial objectives, and give your family a sense of security as you approach retirement age in either the short-term or long-term timeframe.

Ease of use: 50/30/20 rule gives a simple and straightforward framework for budgeting, making it simple to comprehend and execute. You can distribute your income immediately without the need for intricate calculations. Everyone, including the least financially savvy person can adhere to these rules.

Prioritization of vital expenses: By prioritizing these basics, you can ensure that you cover your fundamental needs without breaching budget or taking on too much debt. As these rules stipulate that half of your budget is used towards needs, this plan helps ensure that your essentials are met.

Emphasis on savings goals: When allocating 20% of your income to savings, you can also set up an emergency fund, pay off debt, invest, prepare for retirement, or pursue other financial goals. By consistently saving this amount, you have sound finances and build a safety net for unforeseen expenses or future goals.

Better money management: By being on a budget, you may manage your money in a healthy way. You can ensure that all your necessary expenses are covered, that you have money for other spending, and that you’re actively contributing towards your future. In this way, you can save for future needs and still have a little fun with your finances.

How to apply the 50/30/20 rule?

Implementing the 50/30/20 rule is easy and can be understood by anyone and everyone. Below are the steps you can follow:

Step 1 – Calculate your monthly income

It is the first and most important to know your monthly income after taxes. This is your take-home pay, which you use for your wants, needs, and savings. You can go through your bank statements to figure out the exact amount of income you earn after tax.

Step 2 – Categorize your spending in the past month

For calculating your monthly income, you need to review and categorise your expenses. You can start by making a list of your needs, wants and savings from the past months. This will help you gauge your spending patterns and then plan accordingly.

Step 3 – Calculate a spending threshold for each category

Now that your expenses are categorized and you know your monthly income as well as the money you need to allocate to each category, you can calculate the amount needed to allocate to each category every month. For example, if you earn ₹ 2 lakh, you can allocate ₹ 1,00,000 to your needs, ₹ 60,000 to your wants and ₹ 40,000 to your savings every month.

Step 4 – Adjust your spending to match the 50/30/20 rule

You need to compare your present allocation with the allocation calculated above. In case you are spending more in one category, look for ways to align with the recommended percentages. For example, if you allocate ₹ 80,000 to your wants and only ₹ 20,000 to your savings, you may need to realign your budget.

Step 5 – Plan your budget around these numbers

The 50-30-20 allocation acts as a guide for budgeting. It is important to keep this calculation in mind and allocate your income accordingly. You must try to stay within the suggested percentages for each category each month. If you cannot do so for one month, try to make up for it in the next.

What About Unexpected Expenses?

Unforeseeable expenses such as one visit to the hospital can eat up all your funds. Therefore, you must have enough savings stashed aside to ride over such testing times. Without any doubt, this is your most essential financial bucket.

Ideally, you should have emergency funds to cover all urgent, unforeseen expenses. These funds should cover half a year’s worth of your average monthly expenditures.

But remember, more than just savings is needed since inflation is steadily eating into our money’s purchasing power. What is valued at ₹ 100 today will cost ₹ 150 tomorrow. Long-term, goal-based financial planning should be your aim to fund all your life’s major milestones.

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For that, investing in inflation-beating avenues should be your top priority. With age on your side, you can consult a financial advisor and work on an investment basket that ensures optimal asset allocation to meet your short and long-term financial goals.

Wrapping up!

When you’re just starting out, hitting your target numbers in the short term will seem almost impossible. A decent apartment in a big city can easily take up to 50% of your salary.However, as and when your salary changes, this will change as well. Various other life changes like the birth of a child or a career change can also interrupt your 50-30-20 targeting.

It’s a criterion, not a hard-and-fast mandate. If and when you experience a setback, just make sure to return to 50-30-20 as soon as possible. By the same token, when the budget is good, you can raise the savings rate above 20% and invest it into Stocks, ETFs, Mutual funds etc. Do this, and your future self will thank you.