The 50/30/20 budgeting rule mantra was designed to encourage you to reduce your spending and increase your savings capacity.
- 50% Essentials — budgeted to pay essentials like rent, electricity, gas, etc.
- 30% Wants— Budgeted to pay towards comforts in life, like Netflix, movies, travel etc..
- 20% Savings — Budgeted towards savings or paying off your debt.
The 50/30/20 rule was devised by Harvard bankruptcy expert Elizabeth Warren her book “All Your Worth: The Ultimate Lifetime Money Plan” in the year 2005.
Considering at the time of writing it is at least 15 years old and the question that would pop, is this 50/30/20 rule still relevant for budgeting? will you be able to build your wealth using this strategy?
The 50/30/20 rule based calculator.
The answer is, yes and no based on your situation, let me elaborate.
Let’s consider a situation where you are living on paycheck to paycheck and the debt is piling up. This is a stressful situation for anyone to be in where week after week you are can only repay the interest and not able to make a dent on capital, you are not able to figure out the flow of money in and out of your wallet.
This is where I would recommend to follow the 50/30/20 rule and start budgeting. For every journey, there is a starting point, to get rid of that debt budgeting is where you start, this 50/30/20 rule gives you a good framework to tackle it.
Your aim will be to start increasing the 20% savings part. At first, you may find it difficult to save 20%, I suggest to start with 1% and aim to increase this saving month after month.
No doubt this framework will help you to not only get out of debt but will instil a good money habit for your financial future.
So where does this 50/30/20 rule fail you?
Refer to my other blog post on Why you shouldn’t do 50/30/20 rule as is? where I did explain in detail how to implement this rule for budgeting?
If you are not in debt, then aiming to save to 20% every month is a recipe for disaster.
No matter what you believe, but you can never be rich by saving. At PiggyWise we believe at spending less than your income is the cornerstone of building wealth and debt-free life.
Consider the story of Ronald Read, a Vermont gas station attendant who worked as a retailer.
He died at the age of 92 with a net worth of $8 million dollars in stock holdings and property.
CNBC’s Michelle Fox explains “Mr Read was never a high wage earner. He didn’t earn a ton of money each year. Instead, he lived simply, saved some of his money each year, and wound up with a lot of it late in life.”
Most people start increasing expenses as the income increases this is called lifestyle inflation, this is not required, but the common excuse they tell themselves is #enjoylife, ending up with little or no savings.
Not sure if you have captured the key here it’s not savings that make you rich but it’s investing. Moreover, with saving you can always fall into the trap of temptation when you see a big bank account it’s easy to be tempted for an expensive purchase.
Another advantage of investing your money rather than saving is that you will beat inflation. Considering the current bank interest rates, the interest that your money earns will be barely enough to scrap the inflation rates.
You might be disillusioned that your money is accumulating in the bank account with the interest rate but if you consider the inflation then its either depreciating or remaining the same.
How do you tweak the 50/30/20 rule to make it work?
Change the rule from 50/30/20 to 50/30/5/15, with this new rule you will commit to saving 5% of your after-tax income for emergency purpose and investing the rest of 15%.
First, start saving 20% till you accumulate 6 months of living expenses, then slowly move from 20% savings to 5% savings.
Investing can be anything from self storage property, real estate to shares, irrespective of the product you are committed to investing.
For a bigger investment like the property, you need to go through a savings process to accumulate the money for the deposit or you can also invest in shares as they can be easily liquidated.
Investing in shares or ETF can be made a regular monthly investment, this will also give you the advantage of distributing your investment overtime smoothing the ups and downs of the market.
While investing not only increases capital it will also add regular income through dividends and rent.
That’s the way you change the 15-year-old 50/30/20 rule of budgeting to build wealth.
Leave a Reply