Another question this week was about the 50-30-20 rule and whether this is a good rule for budgeting for people to use to make sure that they're spending and saving the right amount.
Now before I get into the answer to that question, let me explain quickly what the 50-30-20 rule is.
Senator Warren and her daughter wrote a personal finance book that popularized this rule by basically saying that people should put 50 percent of their budget into needs.
30 percent into wants and then 20 percent into savings or paying off debt and this is a good set of rules for a number of people because it turns out there are a lot of mistakes that people make when budgeting and the biggest mistake is confusing needs and wants.
There are bills that you have to pay or else you'll have a material impact on your life and your livelihood like the rent, like the electric bill, etc. Not confusing these things with wants like wanting to go on a great summer vacation or go visit your friends over the holiday break is really important because first and foremost you have to cover your needs and so having a framework to do that helps people avoid that mistake. Also of course people tend to under-save and well, Senator Warren points out that you can either direct this money towards savings or paying off debts. We all know that we all could save a little bit more of our money and we'd be better off financially. The reason I don't ascribe to this rule of course is that like every simple rule it's generic and everyone's financial situation is different.
Additionally sometimes people over complicate their lives by trying to stick to this rule every day or every week when really in personal finance it's only your long-term patterns of behavior that matter. But if you're looking for a simple rule that helps guide how much money you're putting into things you need, separating things that you don't really need but you do want and making sure you're saving enough and paying off your debt, this is a great starting point for people creating their first budget.
Please note that the information contained on this page is for educational purposes only and should not be considered tax advice. Any calculations are intended to be illustrative and do not reflect all of the potential complexities of individual tax returns. To assess your specific tax situation, please consult with a tax professional.