We'll show you how and why to set up a budget using the 50/30/20 rule of thumb yourself.
The 50/30/20 rule of thumb is a way to allocate your budget according to three categories: needs, wants, and
financial goals. It's not a hard-and-fast rule but rather a rough guideline to help you build a financially sound budget.
To better understand how to apply the rule, we'll look at its background, how it works, and its limitations,
and we'll go through an example. In other words, we'll show you how and why to set up a budget using the 50/30/20 rule of
thumb yourself.
Key takeaways
-
The 50/30/20 rule of thumb is a guideline for allocating your budget accordingly: 50% to "needs," 30% to
"wants," and 20% to your financial goals.
- The rule was popularized in a book by Elizabeth Warren and her daughter, Amelia Warren Tyagi.
- Your percentages may need to be adjusted based on your personal circumstances.
- It's only a rule for how to plan your budget; it doesn't actually track your budget for you.
What is the 50/30/20 rule of thumb?
The 50/30/20 rule of thumb is a set of easy guidelines for how to plan your budget. Using them, you allocate
your after-tax income to the following categories.
50% to needs
Needs are what you can't live without, or at least not very easily. They include things like:
- Rent
- Groceries
- Utilities, such as electricity, water, and sewer service
30% to wants
Wants are what you desire but don't actually need in order to survive. They might include:
- Hobbies
- Vacations
- Dining out
- Digital and streaming services like Netflix and Hulu
20% to financial goals
This category covers two main areas:
- All savings, such as retirement contributions, saving for a house, and setting money aside in a 529
college savings plan (note that contributions to a 401(k) come from your pre-tax income)
- Debt payments such as student loans
Because this is just a guideline for planning your budget, you'll need to supplement it with something to monitor spending,
such as a budget tracker like YNAB (You Need a Budget), Mint, or Quicken. You can then set the 50/30/20 percentages as
targets within whichever budget tracker you prefer.
Where does the 50/30/20 rule of thumb come from?
The 50/30/20 rule was popularized by Senator Elizabeth Warren (a Harvard law professor when she coined the term) and her
daughter, Amelia Warren Tyagi, in the book All Your Worth: The Ultimate Lifetime Money Plan. It was designed as a rough
rule of thumb for working-class families to plan their spending in order to prepare for the future and unforeseen circumstances.
How to use the 50/30/20 rule of thumb for budgeting
Most people save too little, and unknowingly spend too much. The 50/30/20 rule of thumb is a way to become aware of your
financial habits and limit overspending and under-saving. By spending less on the things that don't matter that much to
you, you can save more for the things that do.
Here's how it works:
-
Calculate your monthly income: Add up how much you receive in your bank account each month. If you have a workplace
retirement plan, find out how much is withheld, and add that amount back in with your take-home pay. If you pay estimated
taxes, reduce your monthly income amount accordingly.
-
Calculate a spending threshold for each category: Multiply your take-home pay by 0.50 (for needs), 0.30 (for wants), and
0.20 (for financial goals) to see how much you should ideally spend in each category.
-
Plan your budget around these numbers: Think of these three categories as "buckets" that you can fill with monthly
expenses. List and tally your monthly expenses under the category that each falls into and see whether you're spending
less than the monthly targets you established in the prior step.
-
Follow your budget: Track your expenses each month, and make changes where needed, in order to stick to your spending
thresholds going forward.
An example of the 50/30/20 rule of thumb
Here's an example using the steps above:
-
Calculate your monthly income: Let's say you and your spouse have a total of $4,787 deposited into your bank account each
month from your jobs. You both check your pay stubs and see that a total of $532 was taken out for 401(k) contributions.
This means that together, your monthly income is $5,319 ($4,787 + $532).
-
Calculate a spending threshold for each category: Based on the 50/30/20 rule, the amount you should allocate to "needs" is
$2,659 ($5,319 x 0.50). The amount you should allocate to "wants" is $1,596 ($5,319 x 0.30). The amount you should allocate to
financial goals is $1,064 ($5,319 x 0.20). Since you've already contributed $532 to your 401(k)s, use the remaining $532 to pay
down debt or save for other financial goals.
-
Plan your budget around these numbers: Go through your budget to either plan out your spending or see how well it is
already aligned with these targets.
Total monthly income = $5,319
Needs: $5,319 x 0.50 = $2,659
Wants: $5,319 x 0.30 = $1,596
Goals: $5,319 x 0.20 = $1,064
Why the 50/30/20 rule of thumb generally works
Figuring out your finances is confusing, and it's often hard to know where to start. That's one reason the 50/30/20 rule of
thumb works so well: It's an easy way to get a handle on something that can otherwise be intimidating.
Even if you don't take it any further by tracking how well you stick to these targets, it's still a good way to take
your financial pulse.
Grain of salt
Like any rule of thumb, it's a good idea to take the 50/30/20 rule of thumb with a grain of salt.
Potential for gray areas
It's sometimes hard to sort out your spending according to three categories. Everyone needs to eat, for example, but
some groceries fall into the wants category (like sugary sodas and unhealthy snacks).
Savings might not be enough
On the flip side, if you have big goals, like retiring early or buying a house in a high-income area, 20% might
not be enough.
For example, the average home price of a house in San Francisco was more than $1.6 million in June 2022.1 You would
need to save, on average, $320,000 to afford a 20% down payment there.
You still need to track your budget
The 50/30/20 budget rule is only one piece of the budgeting puzzle. It's good to shoot for these percentages, but
unless you track your spending, you'll never know whether you're actually hitting them.
The 50/30/20 rule of thumb vs. other budgeting methods
The 50/30/20 rule of thumb isn't the only game in town. Here are a few other budgeting techniques that might
work better for you:
-
The 80/20 rule: With this method, you immediately set aside 20% of your income for savings. The other 80% is yours
to spend on whatever you want, with no tracking involved.
-
The 70/20/10 rule: This rule is similar to the 50/30/20 rule of thumb, but you instead parse out your budget as
follows: 70% to living expenses, 20% to debt payments, and 10% to savings.