Budget Rules: How to Divide Your Income Between Your Needs, Wants and Goals

Do you find that year after year, you make very little progress toward your financial goals? Perhaps you’d like to buy your first home but struggle to set aside money for a down payment. Maybe you’re getting close to retirement age but worry that you have too little saved. Some people dream of paying off their student loan debt faster or helping pay for their child’s college but can’t make it happen.

Even if you create a budget and use it regularly, you might still find yourself shortchanging your overall financial goals, especially if your income goes only to your present needs and wants. Adopting a budget rule is an effective way to make sure your longer-term goals don’t get left out of your budget equations.

What are budget rules?

Budgets are indispensable for making sure you don’t live above your means on a day-to-day basis. To make your budget an even more effective long-term financial tool, you can apply a budget rule to it, which is a framework for allocating a set percentage of your after-tax income into these three buckets:

Your needs:

The money in this bucket is for everything you absolutely need to live, including your mortgage or rent payment, your car payment and gas or public transit fees, utilities, groceries, insurance premiums, out-of-pocket healthcare costs, childcare expenses and the minimum payments due on your credit cards and other loans.

Your wants:

This bucket is for things you can live without but that make life nicer and easier, such as entertainment, subscription services, gym memberships, new clothes, travel, etc.

Your financial goals:

Some people refer to this allocation as your savings bucket (using a high-yield savings account) because it sets aside money for your emergency fund, retirement and other investments. But it also includes money to repay your debts beyond the minimum payments, another key financial goal.

What are the most common budget rules?

The 50/30/20 rule gets a lot of attention because it creates a fairly equitable distribution. It calls for using 50% of your after-tax income for your needs and splitting up the remainder between your wants (30%) and your financial goals (20%). Sometimes, people flip it to 50/20/30 and allocate 20% to wants and 30% to financial goals.

Here are some other common budget rules:

• 60/20/20: Needs get 60% while wants and goals evenly split the remaining 40%.
• 70/20/10: Needs are the priority at 70% with wants (20%) and goals (10%) taking smaller shares.
• 80/20 rule: This rule combines wants and needs into one category and allocates 80% to them and leaves the remaining 20% for financial goals.

How do you know which budget rule is right for you?

As you can see, budget rules vary. In fact, you can make up your own budget rule if you want—say 45% needs, 30% wants and 25% goals. The point is to make sure that all three budget buckets are getting an adequate share of your after-tax income based on your particular circumstances and future plans and aspirations.

For example, if you’re a young family that often lives paycheck to paycheck with little to no savings, you might need to opt for a budget rule that is heavily weighted toward needs, such as 80/10/10 or even 90/5/5. But having a rule in place and following it as much as possible helps build up an emergency fund so that one unexpected crisis like a major car repair or medical bill doesn’t spell financial disaster. That should enable you to gradually adjust your budget closer to the popular 50/30/20 rule.

On the flip side, let’s say you’re an empty nester who’s just a few years away from retirement, and you want to build a bigger nest egg for yourself. Now that you have fewer monthly expenses with your children out of the house, you can potentially apply a budget rule that puts more of your income in the goals bucket so you can invest it for your retirement.

How do you use a budget rule?

Applying a budget rule is pretty straightforward. Take Jack and Jill: They’re a married couple with two young children. Per their paystubs, they bring home $5,000 a month in after-tax income. They also contribute $500 a month toward their 401(k)s, giving them a total of $5,500 to be allocated toward the three budget buckets. They chose the 60/20/20 rule because their childcare costs make the 50/30/20 rule impractical right now.

This is how they divide up their budget:

• $3,300 or 60% toward needs
• $1,100 or 20% toward wants
• $1,100 or 20% toward goals with $500 going straight from their paychecks into their 401(k)s, leaving them $600 to put toward other financial goals, which they’ve prioritized as building up their emergency fund and paying off their credit card debt.

Adopting a budget rule can help you reach your financial goals, too, no matter what they are.

Editor’s note: Quorum is not affiliated with any of the companies mentioned in this article and derives no benefit from these businesses for placement in this article.