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Search Results for: 50/30/20

Q&A: Here’s how to budget your money using the 50/30/20 rule

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Dear Liz: What is the formula now for expenses? When growing up, we were told that one-third of net income should go to rent, but recently, I read that 50% is the standard with the remaining 50% divided between wants and savings.

Answer: You may be referring to the 50/30/20 budget, which suggests limiting “must haves” to 50% of after-tax income, leaving 30% for wants and 20% for savings and extra debt payments. (After-tax income is your gross income minus taxes and is often a different figure from your net income. Your net paycheck may include deductions for insurance premiums, retirement contributions and other expenses.)

The 50/30/20 budget was popularized by Sen. Elizabeth Warren (D.-Mass.) and her daughter, Amelia Warren Tyagi, in their book, “All Your Worth: The Ultimate Lifetime Money Plan.” Warren once headed Harvard University’s Consumer Bankruptcy Project and promoted the budget as a way to help people reduce their chances of going broke.

The “must haves” category includes more than housing payments. It also includes other costs that would be difficult, expensive or dangerous to forgo temporarily, such as food, utilities, transportation, minimum loan payments and insurance.

The budgeting rule you grew up with, just like the 50/30/20 budget, was meant to help people live balanced financial lives. Limiting spending on big expenses, such as rent or mortgage payments, helps ensure there’s enough left over to save for the future, pay off the past and enjoy the present.

Of course, many people find it difficult to limit their must-have expenses to recommended levels, especially in high-cost areas. Housing costs alone can eat up half their incomes, or even more. To avoid going into debt, they may need to reduce other spending or saving or find ways to increase their income.

Q&A: Approaching retirement? Don’t count on rules of thumb

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Dear Liz: I have a few questions about my income taxes during my upcoming retirement. I would like to know if doing a Roth IRA conversion will be worth it for me since I might be in a higher tax bracket when I retire. Is there a rule of thumb in regards to doing this conversion? I’m also getting considerable income from my tax-free municipal bond and money market fund. Will that income be taxable when I retire and will it count toward how the government calculates my Medicare premiums?

Answer: Rules of thumb can be incredibly helpful in many areas of personal finance. Guidelines such as “spend less than you earn” and “pay yourself first” apply to virtually everyone. Even more specific recommendations, such as the 50/30/20 budget, can apply to many if not most situations. (The 50/30/20 budget recommends limiting “must have” expenses to 50% of after-tax income, leaving 30% for wants and 20% for savings and extra debt repayment.)

As you enter retirement, though, you’ll be making decisions that may be irreversible. It can be much harder to rebound from mistakes and you’ll have fewer years to do so. That’s why it’s important to get individualized advice from pros you can trust.

Converting a regular retirement account to a Roth IRA can make sense if you expect to be in a higher tax bracket in retirement and can pay the taxes on the conversion without raiding the account. But the conversion also can trigger higher Medicare premiums.

The same is true for municipal bond interest. Muni bond interest typically avoids income tax, but will be included in Medicare premium calculations and may cause more of your Social Security benefit to be taxable as well.

A tax pro can advise you about these issues and offer strategies to lower your lifetime tax bills.

7 saving strategies you may not have tried yet

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With the holiday shopping season just starting and prices of many consumer goods continuing to rise, saving money can seem impossible. But those financial pressures also make doing so even more important.

“Saving is your margin,” says Eric Maldonado, a certified financial planner and owner of Aquila Wealth Advisors. “When things happen — your car breaks down or there’s a layoff, or smaller stuff like gifts for the holidays — you have something to fall back on.” Maldonado notes that saving can also allow you to have money for fun things.

The personal savings rate for Americans has been dropping in the last few months, and as of July was 3.5%, according to the U.S. Bureau of Economic Analysis.

Maldonado recommends aiming for a savings rate closer to 20% of your take-home income. “You can live off of 80% and put 20% toward deferred gratification,” he suggests.

That guidance matches the popular 50/30/20 budget, which suggests putting 50% of your take-home income toward needs, 30% toward wants, and 20% toward savings and any debt payments. “If you’re just starting out, then it can be too daunting, but you can work toward it,” Maldonado adds.

In Kimberly Palmer’s latest for the Seattle Times, learn 7 saving strategies you may not have tried yet.

Monday’s need-to-know money news

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Today’s top story: 5 ways to protect yourself from Medicare fraud. Also in the news: A new episode of the Smart Money podcast on questioning the 50/30/20 budget, 5 credit card mistakes to avoid during tough times, and the cheapest places to buy an acre of land in the United States.

5 Ways to Protect Yourself From Medicare Fraud
Protect your Medicare number and review your statements to guard against Medicare fraud. If it does happen, help is available.

Smart Money Podcast: Questioning the 50/30/20 Budget, and Company Stock
This week’s episode starts with a discussion of the 50/30/20 budget — why it works and how to use it as prices soar.

5 Credit Card Mistakes to Avoid During Tough Times
By having a plan and knowing about less costly alternatives, you can avoid credit card mistakes that lead to debt.

The Cheapest Places to Buy an Acre of Land in the U.S.
There are still some (relatively) affordable places to put down roots.

Q&A: How much debt can you afford to pay each month? Put it in perspective

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Dear Liz: I’m paying down credit card debts. At what ratio of debt to income would you consider my personal finances healthy?

Answer: The healthiest level of credit card debt is none. Credit card interest rates tend to be high and variable, which makes this kind of debt toxic to your financial health. Congratulations for making progress on getting rid of yours.

There are a number of measures you can use to judge whether an appropriate amount of your monthly income goes to debt payments. Among the most common:

◆ Traditionally, mortgage lenders preferred home loan payments to be 28% or less of your gross monthly income and total debt payments, including mortgage, to be 36% or less.

◆ Debt payments, including mortgages, that exceed 40% of gross monthly can be an indication of financial distress, according to the Federal Reserve.

◆ Under the 50/30/20 budget, all your must-have expenses — including housing, utilities, transportation, insurance and minimum loan payments — would be 50% or less of your after-tax income (your gross income minus income and payroll taxes). That leaves 30% for wants and 20% for savings and extra payments on debt. If a loan payment fits under the 50% limit with all your other must-haves, then it may be considered affordable.

You typically don’t need to rush to pay off lower-rate, potentially tax-deductible debt such as mortgages or student loans. Still, you’ll probably want to have all your debts paid off by retirement so you aren’t draining your nest egg to make the payments.

Speaking of retirement, are you saving enough for that goal? Do you have a sufficient emergency fund? Are you adequately insured? Are you able to enjoy your life without excessive stress about money? Financial health includes all those components in addition to paying down debt.

Tuesday’s need-to-know money news

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Today’s top story: Why buying life insurance for your parents can make financial sense. Also in the news: A new episode of the Smart Money podcast on the 50/30/20 budget, one person’s no-spending month results, and when to hire a tax professional.

Why Buying Life Insurance for Your Parents Can Make Financial Sense
Life insurance can help offset the costs of your parents getting older, but you’ll need their help to get it.

Smart Money Podcast: Money News You Missed and the 50/30/20 Budget
Breaking down the budget numbers.

I Stopped Spending for a Month, and You Can Too
One person’s success story.

When to Hire Someone to Do Your Taxes
When it’s time to call in the pros.