So you’re ready to map out a household budget. Like many people who are new to the idea of budgeting, you might be asking how to budget the money that you bring in each month. In other words, how should you allocate each dollar so that you still have money leftover to save?
The 50/30/20 principle is a philosophy that professional economists and financiers, such as Elizabeth Warren (All Your Worth: The Ultimate Lifetime Money Plan author) encourage everyone to live by. The idea is that every person, couple or family should strive to allocate their income like this:
* 50 percent of your income should be allocated to those things that you must have to survive. This includes your rent/mortgage payments, housing-related expenses (like repairs), loan payments (car or student loans) and monthly minimum credit card payments. This also covers groceries, daycare expenses, transportation expenses (insurance, gas or public transit tickets), home heating, electricity and basic phone service.
(It should be noted that professional economists and financial advisors stress that credit card use should be avoided as much as possible. If you must have one, use it only for emergencies. Otherwise it’s too tempting to use it impulsively, thereby continuing the cycle of personal debt. This income allocation is not meant for paying off credit card debt on current purchases. It is meant to reduce the debt you accumulated before you began living by a budget.)
* 30 percent of your income should be allocated to things that you “want” but could get by without. This includes entertainment (cable television, going to a movie, playing golf, etc.), eating out, clothing (other than very basic clothing needs), vacations, expensive and unnecessary features like cell phone data plans or land line add-ons like call waiting.
Nice but not-needed big-ticket items like a speed boat or large-screen TV would also fall into this category. Even basic Internet falls into this category for many consumers (unless you work remotely from home, in which case it would be a necessity). In short, anything that you don’t absolutely need to survive on a day-to-day basis goes under this line.
* 20 percent of your income should go to debt repayment and savings. Remember, your monthly mortgage, student loan and credit card payment fall under the first category. This 20 percent, by contrast, is meant to be applied over and above your regular payment.
(If you only pay your credit card’s minimum payment each month the interest you’ll accumulate will add years to your re-payment schedule.)
It’s important to note that some people break down this 20 percent category even further, into 10 and 10, to accommodate charitable giving. Many people do this for religious, moral and philanthropic reasons.
Most economists acknowledge this and agree that giving 10 percent to a charity or church every month is a reasonable expenditure. Some even advise consumers to make this a non-negotiable part of budgeting because it has spin-off benefits for everyone involved.
If you opt for this, then you will allocate the last 10 percent to debt and savings. Or, you may want to adjust another category. You could reduce your living expenses from 50 to 45 percent and your non-essentials from 30 to 25 percent. This way your savings and debt payment budget can remain at 20 percent and you’ll still have 10 percent to give each month.