Do you want to save but none of your strategies work for you or you don’t know how to do it? The 50-30-20 rule allows you to manage your money efficiently and organize your income to save more. Below we tell you what it is, how it works and how you can put it into practice.
What is the 50-30-20 rule?
The 50-30-20 rule is a technique for managing your money easily and effectively. Specifically, it consists of dividing the net income you receive each month into three groups:
- 50% to cover your basic needs.
- 30% for non-essential expenses, such as eating out.
- The remaining 20% is allocated to savings
This rule allows you to organize your money with the goal of saving, since each month you will have in mind the percentage of savings you want to achieve. In addition, it is flexible and can be adapted to your personal situation. It is a way to balance your expenses and a good strategy to achieve your financial goals, such as saving to buy a house, saving for retirement or creating an emergency fund.
This savings method, also known as the 50-20-30 rule, first appeared in the book “All Your Worth: The Ultimate Lifetime Money Plan.” Author Elisabeth Warren, a U.S. senator, explains how you can take control of your finances to save more.
How does the 50-30-20 rule work?
The 50-30-20 rule works very simply and only requires some basic math. Keep in mind that the amount to save, that 20%, will always depend on your income, that is, the higher your income, the greater your savings. Therefore, the first thing you should do is calculate your income to create a monthly budget. Then, you just have to follow the percentages indicated by the rule and adapt to them as much as possible.
50% to cover basic needs
According to the 50-30-20 rule, 50% of your income should be used to cover your basic needs, that is, the basic and essential expenses for living:
- Home rental or mortgage.
- Supplies: gas, water, electricity, etc.
- Feeding.
- Transportation to work.
- Clothes you might need.
- Expenses related to the compulsory education of children.
These expenses should not exceed 50% of your income. If this is the case, it would be advisable to try to find solutions to reduce your basic expenses or increase your income. If your situation is the opposite, basic expenses do not reach 50% of your income, then you could allocate that money to savings, to non-essential expenses or to both.
30% for non-essential expenses
The second number of the 50-30-20 rule indicates that non-essential expenses should not exceed 30% of your income. But what are these expenses?
- Non-essential clothing and footwear.
- Eating out.
- Trips.
- Purchases that are not necessary.
- Subscriptions to non-essential services (courses, pay TV, etc.)
Sometimes it can be difficult to differentiate between basic expenses and non-essential expenses. So, let’s take an example. Imagine that you buy a coat for the winter. Would you be able to continue living the same way if you hadn’t bought it? If the answer is yes, it would be a non-essential expense. So, continuing with the example, if you buy a coat but already have several that satisfy that basic need, this expense would be part of the 30%.
20% for savings
The 50-30-20 rule states that 20% of income should be allocated to savings. Thus, basic and non-essential expenses would add up to 80% of income, and the remaining 20% would be for savings.
A good way to apply this rule is to set aside 20% of your monthly net income to avoid spending that money on unnecessary expenses. You can open a checking account to deposit that 20% every month, or a savings account, which also gives you interest that you can add to your total savings.
How to put the 50-30-20 rule into practice?
Now that you know what the 50-30-20 rule is and how it works, it’s time to put it into practice. We explain how in three steps:
Calculate your monthly net income
The first thing you need to do is calculate how much net money you earn per month. To do this, you just need to add up all your active income and your passive income. If you work for a company, you will have to add your salary to your other income, for example, the profits you get from renting a home. And if you are self-employed, you will have to deduct the self-employed taxes (Social Security and IRPF) from the amounts you invoice your clients.
Analyze your frequent expenses
Analyze the expenses you usually have each month. Log in to your bank account through your bank’s website or app and download or write them down. Then, classify them between essential expenses and non-essential expenses in order to apply the first two percentages of the 50-30-20 rule. Keep in mind that if you use cash, you should also include it, even if it is an approximation.
Adjust your expenses
If you have too many expenses, you just need to adjust them so that you can allocate 20% of your income to savings. However, doing so is not always easy, especially if they are basic expenses. Below, we help you achieve this.
How to reduce expenses to comply with the 50-30-20 rule?
If your expenses exceed 80% of your income, you will have to make some adjustments to be able to apply the 50-30-20 rule to your personal finances.
Reduce basic expenses
If your basic expenses exceed 50%, it will be difficult to reduce them because they are essential expenses for your daily life. However, there are some tips you can follow:
- Try to use less gas, electricity and water: take less time to shower, cook for several days, etc.
- Choose appliances with energy-saving features and low-consumption light bulbs.
- Review the contracts for the basic services you have contracted and look for cheaper alternatives or take advantage of offers for new customers.
Reduce unnecessary expenses
If non-essential expenses exceed 30% of your income and you want to implement the 50-30-20 savings method, you will have to analyze and adjust them.
Many of these expenses may be ant expenses or vampire expenses. The former are small, occasional and avoidable expenses; the latter are fixed, larger in amount and cannot always be avoided. Write them down on a list and eliminate some.
