There are so many formulas you learned growing up that seem so irrelevant to everyday living. But one that most people didn’t learn — and still don’t know — is how much money you should be spending on things like rent, car payments, and food, and how much money you should be saving for your goals every month.
While the formula for effectively managing your income will vary slightly depending on your life stage, unique circumstances and more, this one is still an easy rule of thumb when it comes to personal finance.
The 50/20/30 Formula:
- 50 percent of your net income every month should go toward fixed expenses like rent, mortgage, housing costs, insurance payments, utilities, etc.
- 20 percent should go toward your financial goals of additional debt payments, cash cushion, retirement, home down payment, etc.
- 30 percent can then be used on variable expenses like travel, entertainment, dining out, self-care, etc.
With this basic formula you can begin to use your money to live your ideal life both now and in the future.
Here’s what I mean. Let’s say you do this calculation and you realize you are spending more like 70 percent of your income on fixed expenses, not saving at all and spending the rest of variable expenses that really don’t bring a lot of fulfillment into your life. By looking at your specific numbers against the formula, ask yourself, “how can I tweak these ratios to make it work?”
For example, can you relocate to reduce your home costs, get a roommate or cut out expenses you don’t need like late fees, cable TV and excessive dining out?
Or can you find ways to make more money every month by teaching a workshop, selling a product or doing consulting work?
Once you have clarity as to where you stand in relation to this magic formula, you can make informed decisions to do your best to get alignment with these ratios.
Remember, even small changes really do add up. If you can’t save 20 percent yet, start with 1 percent and aim to increase this number every six months. It’s the commitment to constantly reviewing where you stand against this magic formula that counts.
Brittney Castro is a member of the DailyWorth Connect program. Read more about the program here.