Financial Success using the 50/30/20 Rule of Thumb
Finding the right balance of enjoying life now vs. planning for the future is a financial planning goal I hear often from both young people just getting started and well-established families that might be experiencing lifestyle creep. Life is filled with competing demands for our hard-earned dollars. How do we make sure we are not overspending and under-saving?
The 50/30/20 rule of thumb is a great tool that can help you allocate your net take-home pay into buckets. The rule recommends that monthly income is allocated 50% to needs (rent/mortgage, utilities, groceries, etc.); 30% to wants (vacations, dining out, shopping, etc.) and 20% to financial goals (retirement contributions, saving for a house, debt paydown, college saving, etc.).
Here is how to take action using the 50/30/20 rule of thumb:
- Calculate your monthly income.
(Take Home Pay + Retirement Plan Contributions) x Number of Pay Periods Per Month
- Calculate how many dollars are allocated to each of the 50/30/20 buckets.
Monthly income x 50% = Needs Bucket
Monthly income x 30% = Wants Bucket
Monthly income x 20% = Financial Goals Bucket
- Categorize your actual expenses and savings (and debt paydown if applicable) into the 50/30/20 buckets. Make three columns on a piece of paper and title them Needs, Wants, and Financial Goals. Go through all your transactions and put them in the right categories.
- Make adjustments if needed and track your plan each month.
Depending on your personal situation you may need to allocate more than 20% to reach a specific financial goal (like saving for a down payment on a house) or maybe you need to work your way up to allocating 20% of your monthly income to financial goals (you are just starting out or you have had lifestyle creep and need to adjust). Our founder Jim Ludwick wrote about the benefits of saving 20% back in 2019, you can check out his post here.
I like to define financial success as taking action to improve your situation. Life is dynamic so financial success is an ongoing process that you keep working on. That is why this tool can perhaps provide a different viewpoint that helps you ramp up your financial habits. The most important take-a-way is spend less than you make so that you can dedicate a portion of your monthly income to financial goals. Hopefully, going through this exercise gives you clarity on how much you are spending and saving.
If you need help building a plan that helps you find the right balance between enjoying life now and planning for the future please reach out. We here at MainStreet would love to help!