Simplify Your Budget With the 50-30-20 Rule

Simplify Your Budget With the 50-30-20 Rule husband and wife with family finance concept

This article originally appeared on ValuePenguin

With unexpected events and irresistible cravings hiding in every corner of our lives, controlling our expenditures on a daily basis can be a difficult task. However, just because it’s difficult to do, it doesn’t mean we can ignore it completely. One way to keep our spending habit in check is to create a budget and try to stay within the limits that you have set for yourself. However, planning out your budget and following it are different matters altogether. A common problem is that it is annoying to have to keep track of every little expenditure that you make. While most people begin this budgeting process with great enthusiasm, they soon give up and revert to their old ways.

However, budgeting is an important part of achieving long-term financial happiness, as it is also crucial in helping you set some money aside for your retirement. According to a recent survey conducted by HSBC, seven out of 10 working Singaporeans above the age of 45 say they would like to retire within five years. This is not possible unless you have a substantial level of savings.

What is the solution? Is there any method that you can consistently follow to acquire a disciplined approach to spending? How can you ensure that you put some money aside every month for your retirement? The 50-30-20 rule, developed in part by Elizabeth Warren, is a method that will allow you to simplify your budget and plan for your retirement without having to spend the beginning of each month figuring out how to allocate your money. Here is how this method works.

What is the 50-30-20 rule?

The 50-30-20 rule advocates splitting your income into three categories:

  • 50% should be spent on your essential needs;
  • 30% should be used for discretionary spending;
  • 20% should go towards your savings, investments, and emergency expenses.

Suppose you earn S$7,000 a month, after all taxes and deductions. According to the rule, S$3,500 should be spent on your needs, S$2,100 should be used for your wants, and the remaining S$1,400 must be used for your savings and investments. Of course, this is easier said than done. But it is possible to follow this plan if you allocate your money based on the bracket an item falls into.

Spending on your needs – 50% of your income

This includes expenditures such as grocery shopping, housing society bills, Singapore Power bills, and fuel. This category also includes irregular and compulsory payments, such as annual life insurance premiums or car insurance premiums. Basically, your “necessary spendings” include everything you need in order to continue your regular life.

If you are to cut back on your expenditure, you may have to re-examine some of your spending habits on these categories of spending, including where you shop and what kind of products you use. For example, you may want to compare the different supermarkets or retail outlets in Singapore and choose which of them to shop at. For example, ValuePenguin’s study found that NTUC FairPrice tends to lead the market in terms of grocery prices.

Discretionary spending – 30% of your income

Discretionary spending is the money you allocate towards those activities that you enjoy, but don’t need in order to survive. This expenditure cannot be classified as “essential,” but it does help to improve your quality of life. Items which fall into this category can include going to the movies, dining out, or going on a holiday.

To control this part of your expenditure, you must make sure that you do not classify your ‘wants’ as ‘needs’. While you may want to spend more on certain things by labeling them as essential, thinking twice about a purchase may help you decide whether you really need it. For example, a monthly budget of S$2,100 for discretionary spending allows you to use up to S$70 per day. That amount may not go too far given that Singapore is one of the most expensive cities in the world where even a pint of generic beer can cost around S$15-S$20.

Therefore, make a habit of keeping track of how much you’ve spent each week on these discretionary spending areas. If you are planning a big trip overseas, try to cut back on your other discretionary spendings to save up enough money. If you don’t have much room for change in your budget, you can also use a great credit card to earn cash back or miles to help you save extra 3-5% on your spending.

Savings, investments, and emergencies – 20% of your income

Saving and investing money for your retirement is absolutely essential, but not always easy because you cannot benefit from it immediately. Therefore, you can use the 50-30-20 rule to force yourself to allocate 20% of your net income towards savings at the beginning of the month. If you wait till the month-end, there may be little left over to invest.

Also, ensuring that you’re investing in the right products is a good way to begin. While you may feel that putting your money into a term deposit will be a profitable option, investing in stocks and mutual funds may yield higher returns. To do this, you may want to compare the terms that different online brokerages operating in Singapore offer. The trick is to find an online broker that charges the lowest fee possible, so that your trading costs don’t eat into your returns.

You should also set aside some money for emergency expenses, especially medical and hospital bills. If you feel there isn’t enough money to cover your savings as well as emergency expenses, you can try using some of the money meant for your discretionary spending towards this.

Sticking to the 50-30-20 rule and some final thoughts

The 50-30-20 rule is easy to follow because it shows you where your biggest expenses lie, thereby allowing you to cut out or reduce certain expenditures. However, this is not a rigid approach that must be followed in a certain manner. It’s a guideline to help shape a healthy spending habits, and you could re-allocate funds between categories if the situation demands.

For example, if your monthly income is S$7,000 and your expenses vary each month, you could allocate your money in the following ways:

Salary: S$7,000 January February March
Essential (50%) S$3,500 S$4,000 S$3,000
Discretionary (30%) S$2,100 S$1,000 S$2,500
Savings and investments (20%) S$1,400 S$2,000 S$1,500

The 50-30-20 rule is meant to help identify and cut back on unnecessary expenses (especially recurring ones which add up and take away large chunks of your money) and force you to consistently save money for your retirement. Maintaining a written record of your spending will help you avoid making stressful mental calculations each month. It is true that it will require a little effort to cut back on your discretionary expenditure. But if you are able to do this, your post-retirement self will thank you in the future.

Value Penguin

Value Penguin

ValuePenguin is personal finance company based in New York. DJ is responsible for building ValuePenguin's presence in Asia, from researching personal finance topics in the region to building relationships with financial and media institutions. He previously worked as an investment analyst at leading hedge funds in New York including Cadian Capital and Tiger Asia. His expertise is in the global technology, consumer and financial industries. He graduated from Yale University with a degree in Economics, and speaks Korean, English and Mandarin Chinese.
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