The 70-20-10 Budgeting Rule
Dani Pascarella, a CFP expert and founder of OneEleven Financial Wellness, states that: "Budgeting doesn’t have to be something overly complicated, and there are simple ways to make it easier. A budgeting allocation method called the 70-20-10 rule will help you do just that." So, what is the 70-20-10 rule? Let’s explore it in the article below.
What is the 70-20-10 Rule?
Similar to other financial management methods, the 70-20-10 rule provides a simple solution for effectively allocating after-tax income. According to this rule, your after-tax income is divided into three main parts: 70% for monthly expenses, 20% for savings and investments, and 10% for debt repayment.
The advantages of the 70-20-10 rule include:
- Simple and easy to implement: Anyone can apply this rule without requiring in-depth financial knowledge.
- Helps control spending: This rule encourages reasonable spending, avoiding waste and focusing on important expenses.
- Lays a foundation for the future: Saving and investing help achieve long-term financial goals and ensure financial security in the future.
- Reduces debt burden: Allocating a fixed amount to debt repayment helps alleviate financial pressure and improve financial well-being.
With the 70-20-10 rule, financial management becomes easier and more efficient, allowing you to feel more secure while planning for a stable future.
How to Prepare a Budget Using the 70-20-10 Rule
To prepare a budget using the 70-20-10 rule, you need to divide your income into three specific categories:
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Use 70% of income for needs and wants: Instead of separating living expenses and discretionary spending like other methods, the 70-20-10 rule combines them into one group. The reason is that the line between needs and wants is sometimes unclear. Instead, focus on a fixed spending ratio, including rent, utility bills, and insurance premiums, while allocating the remaining percentage for other needs and wants such as entertainment, transportation, food, clothing, haircuts, and gifts.
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Allocate 20% for savings and investments: The 70-20-10 rule encourages setting aside 20% of income for savings or investments. This amount can be used to build an emergency fund or take advantage of compound interest through high-return investment channels. This not only ensures you have a financial reserve when needed but also helps grow your income in the future.
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Allocate the remaining 10% for debt repayment or charitable giving: The last 10% of your budget is used for repaying debt or making charitable donations. This category covers debts that do not require immediate full payment, helping to reduce financial costs. Payments for car loans or minimum credit card balances are often included in monthly living expenses.
Automating and Monitoring the 70-20-10 Rule
Once you have allocated your income into different categories according to the 70-20-10 rule, simplify financial management by automating transactions:
- Automatically allocate 20% of income to a savings or investment account.
- Schedule transfers of 10% of income for debt repayment or charitable giving.
- The remaining 70% will automatically be transferred to a checking account for monthly expenses and bills.
To maintain good spending habits, check your account balance regularly (daily or weekly). Based on the balance, you can adjust your expenses accordingly.
According to Carbonaro: "The key takeaway from this rule is that you know exactly where your money is going. This is the first step toward financial freedom. Saving and investing 20% of your income will help you build a solid foundation for wealth and enjoy the retirement you dream of."
