What Is the 50-30-20 Rule for Managing Money?

source: firstpost

It is common for someone who has already studied handling finances to come across the traditional 50-30-20 rule. Its popularity, however, is not traced to some recent incident. Instead, it is an old concept first described in “All Your Worth: The Ultimate Lifetime Money Plan” by US Senator Elizabeth Warren.

This plan is effective because it does not require you to repeatedly stress about adopting habits to control expenses. Instead, you calculate the monthly post-tax income once, and now you can deploy it immediately. Continue reading to know what 50-30-20 budget is.

The 50-30-20 money managing rule is a flexible scheme you can adopt to save for your long-term goals without compromising on your current needs and wants. This rule applies to the monthly revenue you retain, i.e., the money left after paying tax.

If you abide by this rule, you must contribute 50% of your monthly income towards procuring resources necessary for your survival. Here are some examples of expenses which need to be taken care of first to maintain the basic standard of living:

• Home rent
• Utility bills such as electricity, internet, water bills, etc.
• Grocery expenses
• Existing EMIs
• Insurance premiums
• Children’s educational costs

Moving on to the next segment of this rule, 30% of the monthly income has to go towards funding ‘wants’. We can compromise these expenses during a financial crisis, but not supposed to entirely overlook them as life becomes dull without these added elements.

These are some expenses that are typically listed under one’s list of ‘wants’:

• Ceremonial shopping
• Gym membership
• Subscription of various OTT platforms
• Vacation costs and the list goes on

Now speaking about the last segment of this budgetary allocation, 20% of the income will likely strengthen your future self. This remaining amount builds up your contingency fund, ensuring the standard of living does not get compromised even if you lose your job. You save money by keeping the following things in mind:

• Procuring retirement funds
• Arranging for a child’s higher education
• Buying a house, etc.

Some popular savings instruments include mutual funds, PPF, NPS, regular savings bank accounts, etc. To explain what 50-30-20 budget is for individual lifestyle expenses, we have included the following sections.

Each of us has ambitions to fulfil and, at the same time, must stay realistic enough first to fund our basic sustenance requirements. Taking care of all these things can be hectic for someone from a non-financial background who intends to avoid hiring a financial advisor. This is where the 50-30-20 budgeting rule is beneficial, as it is simple to understand and follow.

We expect a professional or self-employed individual who remains preoccupied with work throughout their day to spend the least time thinking about necessary improvements in spending habits. Thus the 50-30-20 rule comes to the rescue as it ensures the following:

• Guarantees Consistent Positive Results: The rule eliminates the chances of you experiencing a sudden economic downturn. As you figure out the ‘wants’ clearly, you can make necessary adjustments to avoid cash shortage during month end.
• Offers Scope for Budget Re-Evaluation: Suppose a specific area of this budgetary principle indicates that you need to reconsider and cut down on your mandatory expenses. Then you can either look for refinancing options immediately or step down in the quality of your lifestyle.
• Plan Is Simple to Follow: You would seldom notice someone repeatedly putting up the question of what 50-30-20 budget is if they have understood the outline once. This plan is simplified enough to ensure you stay aware of complex budgetary metrics while planning finances.

As students, it is difficult to manage expenses and live a comfortable life with limited resources, especially if you are living alone. Hence, budget managers recommend staying financially disciplined and following a convenient 50-30-20 rule that offers a flexible framework to save sufficiently and simultaneously enjoy life.

This rule directs your psychological spending habits. As most of us would agree, in student life, there is a greater tendency to attend events and movies frequently, catch up with friends for a shopping haul, or eat outside. When the 50-30-20 rule is put into place, you do not overindulge in luxuries that add no value to your lifestyle.

Moreover, when these expenses are controlled by a budgetary outline, they ensure adequate backup funds in case of a probable job loss. Therefore, even if you lose access to whatever little income source you enjoy, you will be able to sustain the required expenses for another 6-7 months. During this buffer period, you will probably find a viable solution to clear your financial problems.

Let us understand the 50-30-20 rule with the help of a hypothetical case study. Mr. Subramanian lives with his wife and son in an apartment in Chennai. He works a 9-5 job where he earns a monthly salary of ₹35,000, and he is the family's sole earner. His gross annual wage sums up to ₹4,20,000, meaning 5% of his income comes under the taxable bracket. Therefore, his monthly payment after the tax deduction is ₹33,250.

As he desires to allocate the resources uniformly to ensure his family experiences quite an enjoyable life, he decides to follow the 50-30-20 rule. Thus every month, he first keeps aside ₹16,625 to reimburse all the necessary bills like property maintenance, electricity bills, funding his son's school fees, etc.

This habit automatically reduces a large chunk of financial stress, allowing him to allocate roughly 30% of the remaining ₹16,625 towards 'wants' like watching movies outside, eating in a restaurant, etc. Additionally, it facilitates enough room for extra savings besides the remaining 20%, which is meant for contingency funds. The surplus money gets saved if there are fewer utility expenses in a particular month or less money utilised under the 'wants' section.

You have definitely developed a rough idea regarding what 50-30-20 budget is by now. But having this knowledge will only be efficient if you realise how to implement this system in real life. So, this is how you successfully abide by a 50-30-20 budgeting rule:

• Calculate the Monthly In-Hand Cash: If you are a salaried professional, you need to evaluate the take-home monthly payment in this step. Otherwise roughly evaluate an average sum that gets credited to your bank account every month from all income sources.
• Evaluate Budget Limit as per the 50-30-20 Rule: Before allocating funds to fulfil specific desires and save for the future, keep aside half the monthly net pay for supporting utility costs. Again, this budget allocation is flexible based on your present situation. Suppose you recently took a loan with EMI crossing 50% of the budget threshold by a small margin when added to other monthly necessary expenses. Then you can adjust the extra requisite amount from the ‘wants’ section for some months.
• Stick to the Budget: Once budget segmentation is done, as per the thumb rule, it is time to stick to the fundamentals. Monitoring the elements under the spending section is necessary to make modifications that will lead to higher profitability in future.

As we have already gone through the key benefits of this conventional wealth-building plan, now let us know the cons before making an informed financial decision.

Some widely accepted disadvantages of the 50-30-20 rule include:

• This plan is not situation-specific; if you are in financial distress, you need to change the original scheme to attain the necessary solutions.
• It should have created more urgency regarding debt payment.
• The scheme does not prioritise savings. With only 20% savings throughout your career, you can hamper your financial well-being in future.
• There arise moments when too much money gets spent on unnecessary things.

Calculating the required money correctly each month can be tricky, especially if you do not follow any underlying principle. Hence, we have clarified all your doubts regarding what 50-30-20 budget is so that you can decide whether it aligns with your goals. Also, evaluate the pros and cons to ensure your receive optimal benefits down the line.