THE 50-30-20 MONEYPLAN – THE MOST IMPORTANT STUFF
KEEP FIXED EXPENSES UNDER 50% OF TAKE-HOME INCOME
If I had to pick one thing as the single most important piece of advice in personal finance today,
this would be it: The biggest source of financial distress, of being forced to turn to debt, of
inability to save, is overspending on the large fixed expenses.
If you can bring these under 50% of take-home income, then everything else falls into place.
What's everything else? The rest of what your income goes towards can be divided into two
major categories: discretionary spending and saving.
You should spend less than 50% of your take-home income on fixed expenses, at least 20% on
savings and the rest is discretionary – you can spend it on anything you desire from
entertainment, restaurants, to new clothes, to video games, to a big screen TV.
Now, one might argue that saving at least 20% is the most important component, but saving that
much is very difficult or impossible to do if fixed expenses are not brought under control.
Moreover, as soon as something goes wrong with fixed expenses at the current typical level of
75% you can only cut back your expenses by 25% in the short run to weather the setback. This
easily may not be enough, and then there goes your savings. You may have to draw those
savings down to zero, and the crisis still may not be over, so then you have to start taking on
debt.
With new debt would come new debt payments, which have to be made each month. This would
cause your fixed expenses to go up even higher. Suppose that the new debt payments equaled 5%
of your take-home income. This would boost your fixed expenses from 75% to 80%, so now
you're even farther from being able to meet your monthly expenses, so you have to borrow even
more. The vicious circle continues on and on until you're financially ruined.
This is called a debt spiral. And if your fixed expenses are over 50% it can happen all too easily
today.