Don't Like Tracking Expenses? Try the 80/20 Budget
A Great Alternative to the 50/30/20 Budget
One of the most popular budgeting strategies is the 50/30/20 budget, which recommends that people spend 50% of their money on necessities, 30% on discretionary items, and 20% on savings.
The 50/30/20 budget is one of the most popular budgets, but it isn't your only option. Another plan is known as the 80/20 budget. For those looking for a simple way to maintain financial stability, this plan is worth exploring.
Here's how it works, and how it compares to the 50/30/20 plan.
The 80/20 plan is a spinoff of the 50/30/20 plan, so it may be helpful to start with understanding the latter.
The 50/30/20 budget was proposed by Sen. Elizabeth Warren (then a Harvard economist) and her daughter, Amelia Warren Tyagi. The two detailed their budgeting plan in their book, "All Your Worth: The Ultimate Lifetime Money Plan."
The duo says you should base your budget on your “take-home” income, which is your income after taxes, health insurance premiums, and any other expenses that are taken out of your paycheck.
The plan states that 50% of that take-home income should go toward necessities like housing, electricity, gasoline, groceries, and the water bill. Another 30% can go to discretionary items like restaurant dining, buying a new cell phone, drinking beer, or getting tickets to a sports game. Finally, 20% should go towards savings or debt repayment.
Concerns With the 50/30/20 Budget
The 50/30/20 plan is sound advice, but there are two aspects of concern.
Differentiating Between Wants and Needs Is Difficult
It can be tough to discern what's a want and what's a need. For example:
- Internet is a "need" if you conduct business from home, but a "want" if you don't
- Clothing is a "need," but how many outfits do you "need" and what's a "necessary" price to pay for them?
- Bread and milk are "needs," but ice cream is a "want"
Tracking Expenses Is Time-Consuming
Even if you know things like ice cream are a "want" and other foods are a "need," it still takes time to go through your grocery receipt and separate the costs on a line-item basis. This gives us our second concern: some people don’t want to classify and track their spending as closely as the 50/30/20 plan requires.
Budgeting tools like Quicken and Mint can help people track their expenses. Even if you decide the 50/30/20 budget plan isn't for you, it may be worth trying one of these tools to get a better sense of your spending habits.
The 80/20 Plan
The 80/20 budget plan is essentially a simplified version of the 50/30/20 plan. Under this budget, you put 20% of your income towards savings and spend the other 80% on everything else.
The beauty of this plan is that you don’t have to do any expense-tracking, and you don't have to discern between "wants" and "needs." You simply take your savings off the top and spend the rest.
How This Plan Works in Real Life
A person aiming to follow the 80/20 budget plan could establish an automatic withdrawal from their checking account. Plan the withdrawals so they happen a day or two after every paycheck, and send the money to a savings account. This way, the money that hits your checking account is yours to spend. Your savings are automatically stashed away.
It may be tempting to spend your money in an account that's directly linked to your checking account. That's why you might want to consider saving in a specialized account with another institution. In general, the harder it is to withdraw from your savings, the safer they'll be.
Not all the savings have to go into a traditional savings account. You can redirect some of the money into a brokerage account or a retirement savings account such as a Roth IRA.
In fact, those following an 80/20 plan may be better off directing the vast majority of their savings towards retirement. Experts advise saving between 10% to 20% of your income for retirement, depending on the age at which you start to save. Fidelity, for example, recommends that someone who starts saving at age 25 should put 15% of their paychecks into retirement accounts. If you wait until your 30s or later, you may need to save more to have enough by the time you retire.
The Bottom Line
The 80/20 budget plan is a great starting point, but it should be viewed as the minimum you should save. The more you can save, the better. Once you achieve 80/20, push yourself towards a 70/30 savings rate, then 60/40.
As your savings grow, so does your flexibility and opportunity. The savings don't all have to be in a retirement account. You can put those funds in accounts that are easier to access, so they can be used to buy a rental property, start a small business, take a career risk, or enjoy extra vacations.
However, don't let your savings goals come at the expense of debt. Keep debt guidelines like the 20/10 rule in mind as you work to grow your savings and control your spending.
Fidelity. "How Much Do I Need to Retire?" Accessed June 1, 2020.