Start the Journey
The road to any journey begins with where you’re at and today we are going to talk about the 5 easy steps to create a budget using the 50/30/20 rule to help you see where your starting point is. So you want to get on the road to financial liberty, peace and prosperity? Do you have a budget? I would say that creating a budget is the foundation for your finances. If you need help getting started on this step, you are in the right place. I also have a video, in English and Spanish, on my YouTube channel on this subject. I post a new YouTube video and blog every week on Thursday at 11 a.m. ET so bookmark this website for the future.
When I was in my 20s, my finances were a mess like most twenty year olds. I just pulled out the credit card and prayed to God that it wouldn’t get declined; and there were plenty of times that it did. That’s one of the most embarrassing things that can happen to someone: the cashier handing you back the card, some even kind enough to whisper so the people behind won’t know, but they know. With my cheeks getting red and sweat trickling down my back, I would start fumbling around looking for cash or another credit card. I’ve had to apologize and leave my items behind because I had no way to pay for them.
Then I signed up for that “cool” feature the banks started to offer: overdraft protection! “No more shame for declined transactions”, I thought. Even if you didn’t have the funds in your bank account, no problem! The transaction would still go through. The overdraft game actually contributed to one the lowest and most vivid financial memories for me. One day I opened up my mailbox and it was over-filled with overdraft notices from Wachovia (RIP Wachovia); I think one day the total fees added to over $150. There was a $35 fee for a transaction that was nothing but a water bottle; that $2 bottle ended up costing me $37!!!! What a robbery!
I knew something had to change but I didn’t even know where to start. I shared my despair with my co-workers the next day and two of them offered to help me out. And do you know where we started? Yep with creating a budget and tracking my spending. It’s been over 15 years and I still track my spending. It can be so easy to under-estimate how much you spend but creating a budget and tracking everything you spend money on helps prevent that by putting you back in control of every aspect of your finances.
There are several methods to creating a budget but I like the 50/30/20 rule for beginners because of how simple it is. There are 3 categories within the 50/30/20 rule that make budgeting easy, and as you get more consistent and comfortable with it you can start to get more detailed in your categories. So let’s get started!
What is the 50/30/20 Rule
The 50/30/20 rule is broken down into 3 categories: 50% for Necessities, 30% for Wants/Personal Expenses and 20% for Savings.
Necessities are things that you need or are required to pay and you should strive to spend no more than 50% of your total income in this category. This category includes things such as a roof over your head (mortgage/rent/taxes/insurance), transportation to get to work (car note, gas, insurance), food, utilities (electricity, water), debt (minimum payment on credit cards, lines of credit, student loans), cell phone and internet. Some might argue that you don’t need internet, but with so many people working from home and kids doing e-learning, during this day in age, I would consider it a necessity. However, this could be one of the expenses you eliminate if you need to reduce the amount of spending in your necessity category.
Next is Wants or Personal Expenses; you should spend no more than 30% on wants. Wants are those things that you don’t need to have but are nice to have. No one needs a gym membership, instead we could buy weights, follow a YouTube video and go for a run outside but some people prefer the gym; that is a monthly expense that is considered a want. If you’ve already went shopping for groceries and you have food at home, then getting take-out or going out to eat is also considered a want. It’s the same with cable and even that isn’t enough now right? How many of you have cable and also Netflix, Hulu and/or Disney+.?
All these things are nice to have but you could make a choice to not spend your money on these things if you really wanted to. And that is where the control starts: when you make conscious choices on where you are going to spend your money. You take control of your money instead of your money having control over you. Once you determine how you are spending your money, the wants category (30%) is where you should start examining to determine if there is anything you can cut back on to help you meet your goals in the other 2 categories.
My husband and I are mostly teleworking since the pandemic started and we are not spending as much money as before. We don’t go into work every day so we don’t spend as much on gas or buying lunch. A few months ago I looked at our finances to determine where that extra money should go. As I looked at where we were spending our money, I realized that there were other places where we could save money.
Our kids don’t watch cable, they watch Netflix and Youtube. My husband and I hardly watched it either. When we cancelled our cable and house phone (yes we still had one, lol. It was a triple package deal) we saved $125. And we were definitely helping make Mr. Bezos from Amazon get richer. By cutting back and eliminating costs in these things alone, I increased the amount of money that was available to us, known as cash flow in finance lingo, by $400.
My point is that we can all find places to increase our cash flow regardless of our economic situation. My husband and I are starting different business ventures and we can use the extra cash (who can’t right?). You can only increase your cash flow by writing down all your income and expenses so you can see it in black and white. The numbers don’t lie.
The last category is Savings, which should be 20% of your total income. I realize that this can seem like a big number, especially if you are not used to saving money but the 50/30/20 rule should be your overall goal. This could be money for retirement, a home, a vacation and/or your kid’s education. However if you don’t have an emergency fund, that is where you need to start. Next week’s blog and video will be about emergency funds, another important step to get your finances in order.
How do we determine if we are meeting the 50/30/20 rule? Using the 5 easy steps below. You will need a pen, piece of paper, calculator and all your bills and access to your bank account.
Step 1 – Calculate your Income
Start by writing out all your income (after taxes) on one side of the paper. This includes your full time/part time job, child support, alimony and/or investment property; pretty much anything that brings money into your pockets. Next add it all up. In our example, we have a husband and wife who both have a full-time job and the husband also has a part-time job. Their monthly income is $5,000:
Full time job – Husband: $2,500
Full time job – Wife: $2,000
Part time Husband: $500
Step 2 – Calculating 50/30/20
Take your total income from step 1 (5,000 in our example) and determine what the numbers are for each percentage. Necessities is 50%; to calculate 50%, multiply 5,000 0.5= $2,500. That is the most you should be spending on your necessities. Now do the same for wants (30%) and savings (20%). After you do the math (5,000 x 0.3 and 5,000 x 0.2) you get $1,500 for wants and $1,000 for savings. Remember, these numbers should be used as guidelines at first but a goal you should be striving to get to as soon as possible.
Necessities – $2,500
Wants/Personal Expenses – $1,500
Savings – $1,000
Step 3 – Calculate your expenses
Let’s calculate your actual expenses. But before you do that, let me encourage you in telling you not to beat yourself up if your numbers are way off, most people’s numbers are going to be off at first but you are on the right path. You have taken time out to read this article and are on your way to the next step. Just keep going through the steps. Make a decision and take the action to change the things that are within your control. This is great advice for not only finances but life in general, right?
To calculate how you are spending your money, you will need a copy of all your bills and your bank statement. Write “Savings” to the right of where you wrote the income and then list what money you put into savings.
Then split the paper into two columns, writing “Personal Expenses/Wants” on one side and “Necessities” on the other and then list all your expenses by category. I look at my last few bank and credit card statements to get accurate numbers. I list out all the times I have eaten at a restaurant, add them all up for the total in “Take out and Restaurants” same with groceries, gas and all my other expenses. You get the picture. Do not guess!!! I will be honest, this will take time if you have a lot of expenses but the more detailed you are in this step, the faster you’ll be able to get your finances on track.
Step 4 – Compare
Step 4 is pretty easy and that’s a good thing since the previous step probably has you rubbing your forehead. In this step all you are doing is comparing your actual spending in step 3 to the 50/30/20 numbers you calculated in step 2. In our example, this couple is spending $2,520 in necessities and they should be spending no more than $2,500; they are spending $20 more than they should be. They are spending $1,515 on wants, $1,500 is the goal and in the savings category they are saving $965 and the goal is $1,000. This couple is doing really good with the 50/30/20 rule. They are only falling short by $35 in their savings.
Most people though that are just starting out managing their finances are not going to be doing as good as our example and that’s ok; we all start somewhere. Most will see that they are overspending in necessities and wants and saving very little or none at all. This is because 80% of Americans are living paycheck to paycheck? This step will give you a starting point.
Step 5 – Identify Necessary Changes and then Make Those Changes
Now that you know where you are starting at it’s time for the hardest step: Identify necessary changes and then make those changes. This step is the hardest because it requires changes and sacrifices; two of the things humans hate the most. Although the family in our example is doing pretty good, let’s pretend that they were spending $1,700 ($1,500 goal). That means they would be falling short in one or both of the other categories.
When we take a look at their expenses we can see that there are plenty of places where they can save money! They should look at each line in their necessities and wants and find ways to save more or cut costs completely. One way to do this is shop around for different businesses and stores. I now buy my daily necessities (toothpaste, laundry detergent, deodorant, body wash, etc) at CVS instead of Walmart. The CVS app offers a lot of deals and coupons that saved me $600 dollars in the last 6 months.
Another area that they could save in is eating out; that cost is more than they spend on groceries. If they cooked at home more, that’s a few hundred dollars they could be saving. Also, I’m not sure what they are buying on Amazon but if they are like most of us, it’s probably a lot of stuff they really don’t need. If this couple decided to make some temporary sacrifices, they would have long-term financial success. This family could be saving about $500 in their Personal Expenses category and be putting it towards savings.
Want to know a secret of the rich? They pay themselves first and you should do the same. We have monthly auto-save going into our Individual Roth Accounts (IRA) and Thrift Savings Plans (TSP), our kids Uniform Transfers to Minor Accounts (UTMA), and a savings account. Then we pay our necessities and we buy our “Wants” with the money that is left over. You and I work hard for our money, why shouldn’t we pay ourselves first? If you never make saving a priority, you will be chasing your goals of financial freedom for the rest of your life.
Like I said before, 20% can seem like a lot to be putting in a savings account but start with $50 and then every month increase it by $25. Did you know that if you are able to save $100 a month for 10 years, with a 7% rate of return you would have $17,509 by the end of the 10 years. You would have put in $12,100 of your own money and would have made $5,409 off the rate of return. Even if you have met your 50-30-20 goals, make a new goal of saving more every month.
Shop around for the best savings account so you get the best interest. Right now there are banks out there that are offering as high at 0.8% with $0 minimum balance. Here are two articles I recommend for the best savings accounts for Jan 2021.
My Deal with Yotta Savings Bank
I personally use the new online bank Yotta Savings. It encourages saving with a fun weekly lottery-type raffle. They guarantee a base 0.2% interest rate but with the lottery tickets you could earn as much as 3% and a $10,000,000 jackpot. In October alone I made $11.61 in prize money compared to cents at other banks; that’s a 2.93% APY. I highly encourage you to take a look at this bank and decide if it’s right for you. If you would like to try it out and also get 100 free tickets, download the app Yotta Savings and use my code ANA12.
So what story do your numbers tell? How close are you to your 50/30/20 goals? Can you see where you are over-spending? Is there things that you can cut out or areas that you can save in? For my household, our take-out expenses have been increasing slowly but surely in the last 3 months so we are cutting back on that and that’s just one area. It doesn’t matter how much education, experience and for how long you have been managing your finances. You have to continuously keep checking to ensure you are staying on course. Especially because we have a way of under-estimating how much we spend. Do the math and see the numbers in black and white.
Lastly, once you have created your budget you should be checking your progress every month. I do this at the end of every month. We want to ensure that every month we are getting closer to our 50/30/20 goals. It can be very easy to start overspending when we don’t do the actual math.
My friends, congratulations on the steps you have already taken in your finances creating your budget using the 50/30/20 rule! Let’s continue on this journey, learning and growing together. Let me reassure you, regardless of what age you are or how far along you are, you will always wish you had started earlier or feel like you should be further along. I feel like this from time to time but we can’t do anything about the past. Instead let’s focus on the present, on the things we have control over and set ourselves up for success in the future.
To your finances,