Several years ago, I devised a budget for myself to avoid spending extravagantly. I called it my 50-30-20 budget. My budget focused on spending beneath, not beyond my means, which helped me build wealth. Many of my friends and co-workers often drew inspiration from the likes of Carrie Bradshaw on TV. They hoped a promotion or windfall would bail them out. I followed a simpler lifestyle and reminded myself "just because you can afford something on today's salary doesn't mean you should buy it," which I later found was Mitt Romney's mantra.
The 50-30-20 budget does not work for people who are struggling to meet ends, since it assumes a person can in fact save if she doesn't have an extravagant lifestyle. My 50-30-20 budget was a simple way to allocate my take home salary that forced me to live beneath my means instead of racking up frivolous purchases such as designer shoes, clothes and handbags on my credit card. The idea was to spend no more than 50% on fixed costs, 30% on variable or discretionary costs, and save the remaining 20%. I considered any incentive or performance bonus as a windfall and aimed to save the entire amount. This meant that in case I lost my job, I would be able to survive on 50% of my prior paycheck if I took austerity measures to cut back the 30% discretionary spending that was associated with maintaining a good lifestyle.
My fixed costs included housing, basic groceries and food at home, utilities, life insurance premium, and transportation costs above the pre-tax maximum. My variable or discretionary costs were dining (food away from home), entertainment, leisure travel (day trips, outings, vacations), apparel and personal services such as dry cleaning, salon services, housekeeping, landscaping etc. These were a good use of my money, no doubt, and they kept me happy, however, I could cut them back drastically if I needed to. Savings included saving for retirement in my 401(k), in a personal retirement account (Roth IRA), for my home downpayment fund, non tax-advantaged funds such as bank accounts, brokerage accounts, etc. and later children's education accounts (529 plans). The budget excluded some items that were deducted from my paycheck, like federal, state and payroll taxes, pre tax transportation costs, and health insurance premium. I did not have student loan interest, which would be a fixed cost and living in New York City, I saved by not owning a car.
Assume my monthly take home paycheck was $4,000. My life insurance premium was $250 (health and dental insurance premiums were deducted from the paycheck), utilities were $300, basic grocery was $150 for one adult. This meant my budget for housing was $1300, so I could not afford a fancy apartment in a posh locale. All this amounted to 50% in fixed costs and left me with $2000. I was committed to saving $800, or 20%. This meant, I had $1200 per month, or a very generous $14,400 per year as my discretionary expense.
When I thought of my discretionary expenses in this way, I realized even though I was not dropping $500 at a time on shoes, handbags or a single tie or scarf, I did have enough money to buy me happiness. For example, I could set aside $3,000-5,000 annually for travel. I could set aside $400 per month, or $4,800 a year for eating out, meaning I could join co-workers for lunch, as long as it was not fancy lunch all the time. I could occassionally pamper myself with salon services, go out, and not have to skimp on decent brand clothes or "bridge" jewelry, as long as I did not buy several $200 jeans, Tiffany jewelry, or business apparel and handbags that ran into thousands of dollars. Being comfortable within my budget, which emphasized underspending, and saving for the big things, like a house or my retirement accounts, helped me build wealth starting in my early '20s.
*Note: This was written by a Yahoo! contributor. Do you have a personal finance story that you'd like to share? Sign up with the Yahoo! Contributor Network to start publishing your own finance articles.More from this contributor: 10 Reasons I Started Investing Early in a 401(k) Plan First Person: Solidifying My Financial Future While Still in My Twenties First Person: 5 Reasons My 401(k) Retirement Savings Is Not in Company Stock