Financial experts give different suggestions for how we should divide up our paychecks. With so much varying financial advice, it can be hard to decide exactly how to budget your money. Drawing the line between wants and needs, deciding which of the two should come first, and how to quantify each category are some of the main issues that come up when trying to budget.
You’ll find there’s no concrete rule to setting a budget — but finding the right plan for your finances will make all the difference in making ends meet between paychecks. To figure out a good balance of spending and saving, check out these tips on how to budget your paycheck like Elizabeth Warren and Jean Chatzky.
Divvy Up Those Dollars the Jean Chatzky Way
You can get by without many of today’s amenities, but you need a home. Common financial advice maintains that you should be putting roughly one-third of your paycheck toward housing — that can include the fixed costs of rent, a mortgage, home insurance and taxes, or expenses like maintenance costs.
Some recommend putting aside 30 percent for housing, but personal finance expert Jean Chatzky says that 35 percent is more like it. Either way, housing is what a large chunk of your income should be used for.
Experts advise setting aside anywhere from 10 to 15 percent for transportation — car payments, gas, insurance — though up to 20 percent is recommended by agencies like the Credit Counselling Society.
You should also be devoting 5 to 10 percent each to saving money and repaying credit card debt or other debt, with another 15 percent toward clothing, entertainment and miscellaneous expenses. The CCS is even more specific on this point; it recommends that 3 percent should go to medical expenses, no more than 5 percent to clothing and no more than 10 percent to discretionary spending.
Chatzky recommends budgeting no more than 65 percent of your pay toward all of your expenses, leaving 25 percent for miscellaneous or flexible spending and 10 percent for savings.
Take a look at the graphic below to visualize how this budget looks:
Elizabeth Warren’s 50-30-20 Rule
Despite its name, Elizabeth Warren’s 50-30-20 rule is actually a customizable budgeting guide rather than an inflexible rule. The plan was created by the Massachusetts senator has been touted by financial columnist Liz Weston for its simple financial efficacy.
Putting the 50-30-20 rule in effect means that you divide your after-tax pay into three categories:
Following the 50-30-20 rule involves a few simple steps:
1. Begin With Your After-Tax Income
The amount of your after-tax income is the amount after all deductions — taxes, 401k, health insurance, etc. — have been made. You’ll find this amount listed on your pay stub as net pay.
2. Limit Needs to Half of Your Income
Needs and must-haves include the expenses you cannot skip. Rent, mortgage, utilities, car payments, auto insurance and food fall under this category.
3. Allocate 30 Percent of Your Income to Wants
Weston qualifies the following as wants, or things we can mostly do without:
- Dining out
- Other leisurely spending pursuits
Some overlap does exist, according to Warren: Although a cell phone bill is a need, an unlimited or long-distance plan, for example, is a luxury.
4. Use 20 Percent for Paying Down Debt or Saving
The allotment for paying down debt or contributing to savings warrants the smallest percentage in the 50-30-20 breakdown, but it’s more important than spending on wants. Here, 20 percent is designed for short- and long-term saving, emergencies, tuition, future housing purchases or retirement savings, as well as reducing debt.
“To achieve financial independence and minimize the chances of disaster, you need to get rid of consumer debt, save for retirement and build your emergency fund,” Weston explained on the website of nonprofit financial education organization Cents Ability. “Any loan payments you make above the minimum belong in this category, as do contributions to your retirement and emergency funds.”
The 50-30-20 rule is a malleable structure, according to Jennifer Coates, managing editor for GOBankingRates. “Elizabeth Warren’s rule is, at its root, a guide,” said Coates. “Ultimately, you have to make choices in how you categorize each purchase so that none of your budgets are exceeded.”
Why Either Budget Strategy Works
Both Chatzky’s and Warren’s budgeting guides work because they’re 100-percent friendly to the individual person. They’re not a set of hard-and-fast financial laws; rather, they’re a pair of money management tools designed to be modified according to your needs.
By learning how to budget according to the pros, you can build the foundation for financial success. You can use the tips in this article as a template and adjust the weekly and monthly amounts you budget among your own expenses.
You might allot 25 percent toward housing, or 20 percent to saving. Tweak the numbers and see what works for you. A period of trial and error is part of the process, and you will find out exactly where all of your money is going and what costs are easiest to adjust — likely, food and transportation. After some time, you’ll find the perfect fit according to your income and the cost and amount of your revolving expenses.
By following one of these two plans, you’ll be able to identify the things you can’t afford, stop wasting money on those expenses, and save enough to spend on what you need and really want — which is what financial freedom is all about.