Financial Rules You MUST Know, Rule1

The 50/30/20 Rule is the foundation of budgeting, above shows some graphics to show the types of categories in each.

I’ve come to learn these over the last several years, but up until now, I never really thought much of it. As one gets closer to retirement, the thoughts become more real.  I was talking to someone the other day who had no idea about the rule of 52 (or rule of 7), and that triggered this series in general.  Over the next several weeks, I’m going to break down some of the most important investment, retirement, and general financial rules to help you take control of your wealth.

Let’s start with the most basic of rules, and then we will scale up from there.

50/30/20 Rule

Everything starts with budgeting because when you get to retirement, you are going to need to live on a budget, so you might as well start now, and hey, it will help you get there that much faster.

This one is pretty straightforward and helps to put a perspective on the reality of your budget.  Is it in line, out of whack, or maybe just needs some fine-tuning?  The 50/30/20 rule is a general rule of thumb to get you started on budgeting, since when you get started, you probably have little to no idea.

First, get your after-tax Income number (before benefits, retirement, or anything else comes out).  For $100,000 a year income, that equates to about $8,300 a month, and assuming you get 20% towards taxes, you have about $6,500 to play with now.

50: NEEDS - Example = $3,250. Simply put, 50% of your After-Tax income should go to meet your needs, such as housing, utilities, food, and transportation. Remember, this is after-tax, not after retirement savings. After taxes and benefits are paid, take that number and divide it by 2. Then, set up your budget based on that number. Now, another rule to help keep things under control: 25% of that should be for housing (rent/mortgage, along with any taxes and home insurance).  As you look at your budget, this is the first marker that will help you see if you are in control.  Is your mortgage/rent taking up the full 50%?  If so, it may be time to reconsider your housing.  Do not listen to mortgage lenders, because they will many times approve up to 50% of your income.  And if you are considering changing jobs, or someone staying at home, it will put a dent in your income and may throw things out of whack.

30: WANTS! Example = $1,950. Clothing, Home Improvement, entertainment, Restaurants, Misc, and other general categories should all fit in here. That is all the extra stuff, like those random Amazon purchases.  Take that initial After-Tax Income number and multiply it by 0.3. If your initial 50% is out of control, it is going to bleed into this 30.  Now it may sound like it is ok, since these are just wants, but in reality, these are the things that end up on credit cards, or Klarna payments, and other areas of debt.  We all have wants, and they may become needs (e.g., late night, no time to cook, and you want to stop somewhere).  Please, be sure to budget 30% here, because otherwise, you will find yourself feeling like you have no money to do anything, and we should be able to enjoy some of it.

20: SAVINGS and DEBT Payments. Example = $1,300. I do not fully agree with this one. I would love for you to get to 20% in savings, but at a minimum, I would like to see you at 15% in retirement and maybe 5% for extra savings. Debt payments… if you are in debt to Credit cards, all of this should be going to pay those off and get rid of them. If this is your car, the payment should not be more than 8% of your After-Tax income and should be paid off in 3 years. Then you should drive it forever, until it dies. Once you have no car payment, it is time to add that money to the savings bucket, so your next car can be purchased with cash.  Ideally, you should NOT be managing these debt payments to fill this 20% bucket; do not take out that $800+ a month car payment because you can afford it. Realize that it will rob your savings for the future.

So what is good about 50/30/20?  It is a good general guideline to get you started on budgeting.  It is not perfect and not meant to be the end-all of budget planning.  The rule is there to give you a baseline to see what areas are in control and what are out of control.

What’s missing?  For me, giving is missing from this equation.  I’ve said it before, and I’ll say it again: if you are not giving, you are missing out on the blessing.  It is a critical muscle that will help you be grateful and live on less than you make.  For me, that is 10%, so I might adjust the rule to 50/25/15/10 to make room for giving in the rule.  Other than that, I believe it is a good standard to help you get started.

Now the challenge, setting a budget is one thing, but actually living it is a whole other story, which takes time and discipline.  If you need help there, that is where a coach comes in to help you take control and hold you accountable to your budget.