Many people encounter a challenge when it comes to saving money, and the sad part is that even those with high income suffer the same problem. A budget is one of the many tools available to help control expenses, and all you need to do is identify all your incomes and expenses every month. Once you know how much you earn and how much you spend on basic and discretionary expenses, ask yourself if your budget is ideal the way it is. Ask yourself if you are spending your money in the right way and if you are saving enough based on the level of your income.
This is the place where you should make use of the 50/30/20 rule on your budget. It is a great budgeting tool that will help you categorize your expenses more ideally in classes such as needs, wants, debt and savings. So, how do you apply the 50/30/20 rule in your finances?
1. Calculate Your Net Income After Tax
Know how much you are left with after local tax, state tax, income tax, social security and Medicare deductions. This is very easy to calculate, especially of you have a steady paycheck. For the purposes of applying the 50/30/20 rule, be sure to include any retirement contributions that are automatically deducted from your paycheck, as these will need to be categorized under your savings budget.
For the self-employed persons, you will have to subtract your business expenses from your gross income. This includes your self-employment tax payments. Mountain Ridge Associates says that if you are not sure of how or when to calculate and remit your taxes, it is advisable that you work with a reliable tax consultant. Nonpayment may result in hefty fines or even jail time.
2. Make Sure Your Needs Only Takes 50 Percent or Less of Your Income After Tax
Review your budget and identify how much your needs have been accounting for. Your needs include housing, groceries, car payment, car insurance and utility bills. Make sure the total for this category of your expenses does not exceed 50 percent of your after-tax income. When deciding this, you must be very careful in differentiating your needs and your wants to avoid confusion.
For instance, the cable bill might seem like a need, but it is a want because you can do away with it even it comes with minor inconveniences. However if you require cable to make the most of a bundle with internet and phone service, and these are required for you to work from home, this becomes a need (and a business expense). Anything that can affect the quality of your life such, as prescription medicine or food, falls under the need category. A minimum payment on a credit card is a need because if you forgo this amount, it will negatively affect your credit and fines may be levied. However, any amount you pay on top of minimum payment is not a need and you can do away with it if the 50 percent rule has been affected.
3. Make Sure Your Wants Take 30 Percent or Less of Your After-Tax Income
The grand total of everything in the ‘wants’ category should total 30 percent or less of your after-tax income. Before you get excited about going for a vacation or buying designer clothes with 30 percent provision, stop to understand what the category, ‘want’ refers to. It is not about purchasing extravagances, but rather the basic things that make your life more fun and enjoyable. For instance, expenses such as a cable bill, unlimited text message plan, streaming services or cosmetics among others. The rules may sound unfair and somehow tricky but if you want to be realistic with your budget and save more, be willing to make the sacrifice.
4. Use the Remaining 20 Percent on Debt Repayments and Savings
This is a provision from your income after tax that will help you save money and repay your debts faster. One thing you need to know about paying debts using this 20 percent is that any minimum payment for your mortgage loan, car loan or credit card balance does not fall here; these are a need. Therefore, the payments are accounted for under the 50 percent category. However, any amount you pay beyond the minimum payment falls under the savings and debt repayment category. This is also the category where you get money to establish an emergency fund or contribute to your retirement accounts.
Budgeting can be tricky for many people not knowing what expenses to add or reduce in the effort to try and save more or balance the budget. The 50/30/20 rule will help you to focus on perfecting you finances rather than trying to categorize individual expenses. However, depending on your circumstances such as your location, your lifestyle and level of income, you will be able to tell if the budgeting system is right for you or not. According to Mountain Ridge Associates, you should feel free to adjust some percentages on the rule to fit within your circumstances as long as you don’t go beyond with your expenses. If you are that person who does not like having a detailed budget, the 50/30/20 rule budget can be a perfect option for you.