A simple thumb rule can help you put your finances in order. It’s called the 50/30/20 rule of budgeting. It is a rule to allocate your income based on your needs, wants and financial goals.
Let’s look at it in detail to understand how it works.
According to the thumb rule, an individual should allocate 50% of the income to “needs” or essential expenses, 30% to “wants” or discretionary spending, and 20% towards financial goals or savings.
Essential spending
You should restrict your essential spending to 50% of your monthly income. Essential spending includes debt repayment, groceries, children fees, transportation, anything else that you cannot avoid.
Discretionary expenses
You can do without many expenses, such as going to movies, shopping, weekend travel, eating out, and so on. All such expenses you can do without should not be more than 30% of your monthly income.
Such expenses are lifestyle expenses. You can either avoid them or be flexible with them. For example, you can avoid an expensive international holiday and instead go somewhere within the country.
The more you control and restrict them, the better will be your budgeting. In many cases, expenses that enhances lifestyle forms much of a person’s spending.
Saving and investing
No matter how you manage the essential or non-essential expenses, if you save and invest 20% of your income, you won’t need to compromise on your financial goals.
These are thumb rules or guiding principles. If you have never organized your finances before, it is a great way to start. These thumb rules will help you to understand the problem areas and fix them. They will help you to get more disciplineand save better. Once you start with them, you can adjust them based on your situation. For example, high-income earners can save much more than 20%.
It’s all about making a start somewhere.
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