50-30-20 rule of managing personal finances

Personal finance is a term given to the management of personal wealth in terms of savings and investments.

The term encompasses the financial goals of an individual, the constraints, the institutes that provide financial services, investment, and saving opportunities, and the approach to achieving the goal.

One needs to carefully plan a budget to achieve your financial goals and become financially savvy. 

One of the effective ways to budget in personal financial planning is following the 50-30-20 rule.

This 50-30-20 rule splits your income into three categories – needs, savings, and wants.

Let’s take a look at each one separately – 

50% – Needs

These are the necessities for survival such as housing, food, clothing, transportation, medication, insurance, EMIs, school fees or child care, and other basic utilities.

Half of your after-tax earnings or net earnings should be allocated to cover the basic needs for the basic necessities.

Segregation of the basics according to their occurrence in a month or year and allocating funds to each according to the priority will help you plan your finances better. 

For example – Grocery, rent or housing loan EMI, transportation, insurance, child care or school fees, and other debt repayments should be the top priority every month, followed by clothing, medical emergencies fund, and other basic utilities can be a second priority.

30% – Wants

These are the things that are not necessary for survival but something that you desire. They can include – hoteling, electronics, travel, vehicle, entertainment, etc.

Distinguishing needs and wants becomes difficult as the standard of living increases. As the spending capacity increases one wishes to reduce the gap between needs and wants, and focus their attention on satisfying their wants. 

The rule suggests that one should reserve 30% of their income for fulfilling these wants.

20% – Savings

The rule suggests that 20% of the income should be allocated to savings. 

Keeping money in a savings account pays minimal interest which is non-compatible with the growing inflation. Hence it is advisable to invest money to grow money. Investment schemes like SIP, Mutual Funds, Bonds, Shares, Fixed Deposits, investment schemes like retirement plans, child care plans, and bank savings accounts with good interest rates will help you supplement your earnings. 

One can even create an emergency fund for any unforeseen emergency.

Why follow the 50-30-20 rule of personal financial management?

Research states that India’s gross financial savings of households stood at 10.8 percent in FY22, which fell from 15.9% in FY21.

The 50-30-20 rule is intended to help individuals how to divide their income after tax and create an effective personal finance plan.

This helps one to prioritize better and avoid any unexpected financial shortage. Creating assets that generate income to provide for your retirement is a wise financial decision. It should be started from an early age to reap maximum benefits and returns on the investment.

Understanding the importance of retirement savings, a good financial plan, long-term goals, investment planning, and developing a financial plan are recommended for any individual at any age.

For this purpose, MIT School of Distance Education (MITSDE), brings to you a Post Graduate Diploma in Finance Management (PGDM Finance Management) to understand the basics of accounting & finance. The course covers the basics of finance, financial modelling, financial markets, mergers and acquisitions, and international finance and hands-on training in the latest tools and techniques.