Budget percentages are a little like closet organizers—they can keep your money in the right place, so it’s there to help you meet your financial goals. Of course, some people just throw all their clothes in a pile (and they’re the ones who can never find matching socks). If you apply that approach to your budget, you could find yourself out of cash when it comes time to make an important payment, because you may already have spent it in a different place.
So why use percentages to help you budget rather than simply allocating a dollar amount to each of your expenses? The answer: Your income and expenses can change—sometimes by a lot. As a result, you could potentially come up short on some expenses if they’ve increased, or with extra income with nowhere to go if you suddenly get a raise. Percentages can help you maintain guardrails around your spending and saving as your income and expenses fluctuate.
How budget percentages help
Budget percentages can offer a quick and easy way to help you gain insight into how your financial security relies on your income and expenses. Let’s say your rent is $1,500 a month, which is 30% of your hypothetical $5,000 monthly take-home pay. Now say your landlord increases your rent by 10%, to $1,650. Overnight, your rent just became 33% of your budget, so you’ll need to cut 3% from another portion of your budget.
Some budget percentage goals are meant to keep you on track through life, while others are useful in specific circumstances, such as when you’re buying a home or considering other major purchases. Percentages can create a balance during all life phases. Here are some popular and proven budgets.
The 50/30/20 Budget
Back when she was a Harvard professor, Massachusetts Senator Elizabeth Warren studied how and why average Americans get into financial trouble. In 2006 she wrote a book with her daughter, Amelia Warren Tyagi, called All Your Worth, in which she introduced the 50-30-20 budget, a percentage plan that’s now considered standard advice.
People and families can potentially live more easily within their means by dividing their expenses into three simple percentage groups. Here’s the breakdown:
- 50% of your take-home pay goes to “must-haves,” meaning necessary expenses like housing, transportation, groceries and insurance. Housing should include property maintenance and taxes.
- 30% goes to spending for “wants”, like vacations, restaurants, and other non-essentials.
- 20% goes to saving for the future.
To some, this breakdown might seem tricky—especially residents of big cities, where housing costs alone can easily consume half your pay. But the 50/30/20 budget is really more of a set of guidelines than firm commandments. If, right now, you need to spend 60% of your budget on essentials, you can cut discretionary spending to 20%. The point is recognizing that all the categories must add up to no more than 100%.
One more budget to know about is the zero-sum budget, also called the zero-based budget, because the goal is to get to $0 every month—in other words 100% of your monthly take home pay is allocated to some part of your budget. It may sound scary, but it’s really not.
With the zero-sum budget, you’ll assign the specific percentages and categories for your entire monthly income, whether that’s paying back your debt, paying for your groceries, or even just buying something you want, such as a new shirt or dress. The zero-sum budget gives every dollar you take home a specific function and leaves you with no unused cash at the end of the month.
You can find out more about that here.
The 28/36 rule
A general rule of thumb says you should spend no more than 28% of your total income on housing costs, including rent, the principal and interest on your mortgage plus property taxes and home insurance (also known as PITI), as well as utilities and any condo fees.
And you should aim to spend no more than 36% on your total debt payments each month. These debts include student loans, revolving credit card debt, car and personal loans, and your mortgage or rent.
Both numbers can factor into your debt-to-income ratio (DTI), which banks and other lenders use when considering how much mortgage to extend to you. And they also can be good lifelong percentages to remember for keeping housing costs within your budget range.
These percentages are not arbitrary. Years of data collected by the U.S. Census and the Department of Housing and Urban Development show that households tend to wind up in financial trouble when DTI extends beyond these percentages.
The 20/4/10 Car Loan Rule
If you drive a car, making monthly payments for your car is something to consider when budgeting.
Car loans are inherently risky because, unlike real estate, cars are guaranteed to lose value over time. If you’re not careful, you could easily find yourself owing more on your loan than your car is worth. When that happens, you can’t just sell the car and pay off your loan.
With that in mind, according to the 20/4/10 Car Loan Rule, you should try to pay a minimum down payment of 20%, and take out a loan with a maximum term of four years that features a total monthly payment worth no greater than 10% of your gross income.
How to make budget percentages work for you
The good news about percentage budget goals is that you don’t need to pick just one. They can all work together. You can start by trying out a couple of formats and adjust accordingly.
To start percentage budgeting, organize your expenses into the basic categories of needs, wants, and savings. After that, you can refine within each category toward a total budget plan.
And don’t worry—as your income grows, your housing costs could gradually become a smaller percentage of your budget, leaving more money for savings and fun. Percentage goals can be flexible— and hopefully they won’t leave you with a drawer full of unmatched socks.