LOVE IT: 50-30-20 budgeting
The 50-30-20 rule - the best budgeting concept
Harvard Professor Elizabeth Warren and her daughter Amelia Warren Tyagi wrote published their book "All Your Worth: The Ultimate Lifetime Money Plan" in which they first referred to the 50-30-30 rule.
What is the 50 - 30 - 20 rule?
This rule is a very simple rule to help you set your budget. How exactly does it work, step by step?
- Calculate your net income
- Collect your expenses
- Categorize your expenses
- Analyse your expenses
- Adjust them
- Set up a long-term plan.
Calculate your net income: First you need to calculate your net income, so your income after taxes and social security contributions. If you are an employee this should be easy to find out. For all those that are self-employed, this is your income after all deductions and taxes.
Collect your expenses: Second, collect your expenses by writing them down or tracking them via a household book or an app (for example, Money Control).
Categorize your expenses: Once you have collected your expenses, you can divide them into three categories:
- Fixed costs of living: This includes your rent, food, insurance, etc. basically all the expenses you incur for your everyday life
- Lifestyle costs: This includes your expenses for the “nice” things in life such as visits to a restaurant, travel etc., mainly all entertainment expenses
- Savings: this encompasses all savings, investments or pension plan contributions, and all contributions to a savings plan
Analyze your expenses: After you have categorized your expenses, it is now important to understand your biggest expense categories. The 50 - 30 - 20 rule states that:
50% of your net income should be spent on fixed cost of living
30% of your net income should be dedicated to your lifestyle costs and
you should save 20% of your net income.
Adjust them: Identify if and where you should limit your spending. If your lifestyle costs are over 50% and you are not saving at all, then you should consider which expenses you could reduce e.g. eating out. Ideally, you first pay off all debts and build up a cushion (emergency saving) before saving for investments.
Set up a long-term plan: The 50 - 30 - 20 rule is especially useful for achieving your long-term goals. For example, if you want to buy a house / an apartment, you can contribute around 20% of your earnings to savings and slowly but surely save for a down payment (once you have reduced your debt).
IN A NUTSHELL:
50- 30-20 helps you to control your spendings more effectively. It also shows you in which category you should save more in order to get closer to your long-term goals.
Written by Clara Creitz
Finelles Founder. Coach and Consultant (UBS, Towers Watson).