50/30/20 Budget Rule
What is the 50/30/20 rule?
According to this rule, you must categorise your after-tax income into three broad categories: 50% for your needs, 30% for your wants and 20% for your savings. This way, you set aside a fixed amount from your income for each of the categories. This reduces your urge to withdraw amounts from one category for another.
50% for needs
Up to 50% of your income should be kept aside for your needs. Your needs refer to your essential expenses, financial obligations and other responsibilities. These can include rent, utilities, groceries, healthcare, insurance premium, child’s school or college fees and more.
30% for wants
The next 30% of your income can be used to fulfil your wants. You may want to live a certain lifestyle. You may want to dine out, watch a movie or play in a theatre, pursue a hobby, go on vacation, purchase luxury items like watches or bags, non-essential electronic items and more. Wants may not always be necessary, however, keeping aside 30% of your income for wants gives you the flexibility to enjoy as per your choice while still maintaining financial discipline.
20% for saving
The last 20% of your income should be allocated towards savings and investments. Savings offer you a cushion for any financial emergency, medical treatments, house or car maintenance and more. Savings also help you stay financially prepared to achieve your long-term goals, such as buying a house, your child’s higher education or wedding, a comfortable retirement and more. When you set aside a portion of your income every month, you make progress towards long-term financial security.
Savings also help you avoid falling into debt traps. They reduce financial stress and anxiety, allowing you to focus on the more important aspects of your life. You are better prepared to handle unexpected expenses, manage financial emergencies, and live more peacefully.
Life insurance plans like ULIPs, endowment plans and more help you save money for your financial goals.
What are the benefits of the 50-30-20 budget rule?
Below are some benefits of the 50/30/20 rule:
Promotes financial discipline
The 50/30/20 rule outlines the exact percentages you should allocate to your needs, wants and savings. Diligently following this rule over a long run will build financial discipline and give you greater control over your money. The savings component helps you steadily work toward your dreams – starting a business, travelling the world, or retire early.
Simple and easy
The 50/30/20 savings rule is simple to implement. All you need to do is take your after-tax income and divide it into three brackets: 50%, 30%, and 20%. This can be done manually or with a calculator within a few minutes.
Wealth creation
The 50/30/20 savings rule not only prepares you for emergencies and unexpected expenses but also sets the stage for wealth creation. The consistent savings habit developed in you by this rule will help you grow wealth over time from the power of compounding.
Optimise expenses
The 50/30/20 savings rule encourages consistent expense tracking. With regular tracking, you will notice patterns like frequent takeout orders, unused subscriptions or impulse buys. This awareness creates an opportunity to identify wasteful habits and make smarter choices. Over time even small adjustments can lead to significant reductions, freeing up more money to save.
Debt management
With dedicated allocations to savings and both essential and non-essential spending, you are more likely to avoid debt. This approach helps you stay debt-free, and if you already have debt, it ensures a structured repayment plan, allowing you to clear it sooner.
50-30-20 rule example
Consider the example of Aditi, who earns ₹ 1 lakh per month after taxes. Here’s a breakdown of her income using the 50/30/20 savings rule:
1. 50% of her income is reserved for her essential expenses, which include:
- Term Insurance: ₹ 2,000
- Health Insurance: ₹ 3,000
- Rent: ₹ 25,000
- Groceries: ₹ 8,000
- Utilities (Electricity, Water, Internet, etc.): ₹ 5,000
- Fuel and Transportation: ₹ 7,000
Total = ₹ 50,000
2. 30% of her income is spent on her wants, which include:
- Shopping: ₹ 7,000
- Dining Out/Movies: ₹ 8,000
- Travelling: ₹ 15,000
Total = ₹ 30,000
3. Finally, 20% of her income is saved and invested in different instruments:
- Unit Linked Insurance Plans (ULIP): ₹ 5,000
- Endowment Plan: ₹ 5,000
- Mutual funds: ₹ 5,000
- Emergency fund: ₹ 5,000
Total = ₹ 20,000
This systematic use of her after-tax income allows Aditi to cater to her needs and wants while securing her dreams.
How to use the 50/30/20 rule?
Using the 50/30/20 rule is easy. All you need to do is evaluate your financial needs, your lifestyle wants and your future goals. This is simple and does not require an advanced understanding of finance. Below are the steps you can follow:
Calculate your monthly income
It is important to know your monthly income post taxes. This is your take-home pay that you use on your needs, wants and savings. You may go through your bank statements to determine the exact amount of income you earn after tax.
Categorise your spending for the past month
To calculate your monthly income, you need to review your expenses. You can look at past bank statements for this. Make a list of your needs, wants and savings from the previous months. This will help you understand your spending patterns and plan accordingly.
Calculate a spending threshold for each category
Now that you know your monthly income and the percentage you need to allocate to each category, you can easily calculate the amount to allocate to each category every month. For example, if you earn ₹ 1 lakh, you can allocate ₹ 50,000 to your needs, ₹ 30,000 to your wants and ₹ 20,000 to your savings, every month.
Evaluate and adjust your spending to match the 50/30/20 rule
Compare your current allocation with the allocation calculated above. If you are spending more in one category, look for ways to cut back to align with the recommended percentages. For example, if you allocate ₹ 40,000 to your wants and only ₹ 10,000 to your savings, you may need to realign your budget.
Plan your budget around these numbers
The calculated allocation acts as a guide for your future budgeting. It is important to keep this in mind and allocate your income accordingly. Try to stay within the suggested percentages for each category every month. If you are unable to do so for one month, aim to make up for it in the next.
Conclusion
The 50/30/20 rule can help you be more diligent with your money. It promotes financial discipline for life while also helping you to enjoy life and plan for the future. The rule makes you better prepared financially and empowers you to take control of your money.
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Frequently Asked Questions
What is the 30-day rule for saving money?
The 30-day rule is a strategy designed to help you manage your spending. According to the rule, instead of making an impulsive purchase, you should wait for 30 days before deciding whether to buy the item. If, after a month, you still feel the need to purchase it, then it is likely something you genuinely require. However, if the impulse fades, you do not need the item and can avoid an unnecessary expense.
How can I save money with a low income?
You can save with a low income using the 50/30/20 rule. The 50/30/20 rule ensures that a specific portion of your income is saved each month, regardless of your earnings. Since it works with percentages rather than fixed values, it allows you to prioritise savings while covering essentials.
What are the best ways to build an emergency fund?
One of the best ways to build an emergency fund is by saving a portion of your after-tax income every month, following a structured approach like the 50/30/20 rule. You can also create a budget that helps you identify areas where you can cut back and use the savings to build your emergency fund. Automating your savings can be another way to build your emergency savings.
Can I use the 50/30/20 Rule to save for long-term goals?
Yes, the 50/30/20 rule is well-suited for long-term goals. This method allows you to save consistently, making it easier to build wealth over time. The longer you follow the rule, the more you can save and accumulate, which helps you achieve your goals.
Should I include taxes in the calculation of the 50/30/20 Rule?
No, the 50/30/20 rule does not include taxes in the calculation and is based on your after-tax income. So, you need to calculate your budget using the money you receive after taxes have been deducted from your gross income.
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