The 50/30/20 Rule on a $6,000 Month: One Deposit, Worked Two Ways
Does the 50/30/20 rule work when you are self-employed? Yes, with one change. Apply it to what you pay yourself, not to what clients pay you.
The 50/30/20 rule divides your money three ways: half for needs, 30% for wants, 20% for savings and paying down debt. It is simple enough to remember, which is why it has lasted.
It was written for a paycheck. When your income arrives as client payments, the rule breaks at the first step, and it breaks in the direction of overspending.
For the rule itself and how to set it up, see our guide to the 50/30/20 rule for the self-employed. This post tests it on one real month.
One payment, divided on purpose. Example data.
The short version
The rule: 50% needs, 30% wants, 20% savings and debt, of after-tax income.
A client payment is not after-tax income. It includes tax and business costs.
Take those out first, pay yourself a steady amount, and apply the rule to that.
When your needs take more than half, change the split. The rule is a guide.
Where the rule comes from
It was set out in the 2005 book All Your Worth by Elizabeth Warren and Amelia Warren Tyagi. Two details from the original matter here. The percentages apply to after-tax income. And "needs" means what you must pay whatever happens: housing, utilities, insurance, minimum debt payments, basic food and transport.
Why it breaks for a business owner
An employee's paycheck has already had tax taken out, and the employer has already paid the costs of the business. What lands is hers to divide.
What lands in your account has had nothing taken out. It still contains:
Tax you will owe on it.
What the business costs to run.
A cushion for the month that comes in low.
Apply 30% for wants to that figure and you are spending money that belongs to the IRS and your landlord.
The same month, worked both ways
Say $6,000 comes in.
Step | Amount |
|---|---|
Received from clients | $6,000 |
Tax set-aside, at 25% | $1,500 |
Business running costs | $1,300 |
Left in the business as a cushion | $400 |
What you pay yourself | $2,800 |
The 25% is an example. Yours is your own, and our post on setting your tax set-aside percentage works through it.
Category | Rule applied to the $6,000 | Rule applied to your $2,800 pay |
|---|---|---|
Needs, 50% | $3,000 | $1,400 |
Wants, 30% | $1,800 | $840 |
Savings and debt, 20% | $1,200 | $560 |
Look at the middle row. Used on the deposit, the rule gives you $1,800 a month for wants. Used on your pay, it gives you $840. The gap is $960 a month, and over a year that is $11,520 spent that was never yours to spend.
This is how a good earner ends up with a tax bill she cannot pay. Nothing reckless happened. A reasonable rule was pointed at the wrong number.
The steady pay figure
The rule also assumes the same amount every month. Yours moves. So choose a pay figure you can meet in an ordinary month, and pay yourself that, on the same day, whatever came in.
Month | Available for your pay | You pay yourself | Stays in the business |
|---|---|---|---|
A strong month | $3,900 | $2,800 | $1,100 |
An ordinary month | $2,800 | $2,800 | $0 |
A slow month | $2,100 | $2,800 | minus $700, from the cushion |
The strong month fills the cushion and the slow month draws on it. Your household sees $2,800 every time, and the 50/30/20 split has something steady to work with. Our post on paying yourself a steady salary goes further into choosing the figure.
Knowing what an ordinary month looks like starts with seeing a few of them. Example data.
When your needs take more than half
For many households they do. Rent alone can pass 50% of take-home pay, and no rule changes that.
So change the split, and keep the idea. The idea is that needs, wants and the future each get a share decided in advance.
Split | Needs | Wants | Savings and debt |
|---|---|---|---|
The original, on $2,800 | $1,400 | $840 | $560 |
60/20/20 | $1,680 | $560 | $560 |
70/20/10 | $1,960 | $560 | $280 |
A 70/20/10 month is not a failure. It is an accurate picture, and an accurate picture is what lets you change it.
So, does it work?
As a way of thinking, yes. Three shares, decided before the money arrives.
As arithmetic on a deposit, no. It overstates what you can spend.
As fixed percentages, sometimes. Use the split your real costs allow, and move it toward 20% for the future as you can.
If you try it, give it three months before judging. The first month shows you what you really spend, the second lets you adjust the split, and by the third you will know whether the shares fit your life.
See where you stand, free
The 20% is the share that changes your net worth. La Soglia, the free membership of the Money Mastery System, shows you that number: everything you own and owe in one place, personal and business together, with no bank connection and no card.
Bring it to the Collective
What split do you really run? The Money Mastery Collective has a discussion feed open on the free membership, and it is a good question to ask there.
Questions we hear
What is the 50/30/20 rule?
A way to divide after-tax income: 50% for needs, 30% for wants and 20% for savings and paying down debt.
Can I use the 50/30/20 rule with irregular income?
Yes. Pay yourself a steady amount from the business first, then apply the rule to that amount.
Should I apply it to my business income?
No. Business income still contains tax and running costs. Apply it to what you pay yourself.
What if my needs are more than 50%?
Use a split that matches your real costs, such as 60/20/20, and adjust it as your situation changes.
References
The 50/30/20 rule is from All Your Worth: The Ultimate Lifetime Money Plan, by Elizabeth Warren and Amelia Warren Tyagi (2005). Every figure in this post is our own worked example.
Start free with La Soglia
La Soglia is the free membership of the Money Mastery System. It gives you the Net Worth Tracker, where everything you own and everything you owe sits in one place, and the Money Mastery Collective. There is no card to enter and no bank connection.
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A note on what this is
This article is educational. The Money Mastery System is an educational tool, not financial software, and nothing here is legal, tax, investment or financial advice. The percentages and figures are illustrations, not a recommendation for how you should divide your own income. For guidance on your own circumstances, please speak with a qualified professional who knows them.
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