Should You Budget Your Money Using Percentages?
One topic I'm frequently asked about by readers is “percentage budgeting.”
There are a lot of articles out there that give you a very clear outline of where you should be spending your money, and what percentage of your take-home income should be spent on predetermined categories (saving, debt-payoff, and required expenses).
For example, Dave Ramsey recommends 10-15% on food, 25-35% on housing, 10-15% in savings, and 10-15% on charitable giving.
Another example is Elizabeth Warren's book All Your Worth. She suggests people spend 50% on required expenses (housing, food, utilities, transportation, etc.), 30% on “wants,” and 20% should be spent on paying off debt or saving.
Both of these examples make sense on paper, but the real question is does using these types of percentage restraints really work?
PROS OF PERCENTAGE BUDGETING
Percentage-based budgeting is simple. It uses and relies on the percentage of your income to determine how much you can spend and where.
Some people believe that having a percentage-based budget feels less restricting. When you dedicate a specific dollar amount to a category ($500 for food), it feels limiting. If you think about your food budget as 10% of your income, mentally, it seems limitless somehow. There is a mental boost thinking about percentages rather than a specific dollar amount.
All spending categories benefit when there are life changes. If you get a raise at work or a bonus, your take-home pay has increased, which means all categories in your budget benefit. Instead of using that extra income to only pay-off debt or save for a down payment on a house, which is only benefiting one category, a percentage-based budget uses that money to increase all categories (more money for food, required expenses, debt, and saving).
CONS OF PERCENTAGE BUDGETING
The most significant problem using your take-home pay to determine how much you should spend is that it doesn't work well with different income levels, especially low ones.
For example, if you are a single mother who lives in an area where housing costs are high and have a new-ish car you're still paying off, it's almost impossible to keep your spending within the percentage guidelines. There are going to be some instances where your personal life just doesn't conform to these percentage rules.
There are financial experts out there who say that the solution would be to cut down on those required expenses by being more frugal. For example, you can move to a less expensive house and sell your car for something cheaper.
Let me be very clear. I am all for saving as much I can and cutting costs where I see the opportunity. But there is only so much you can do. There is a point where frugality no longer helps.
I have lived paycheck to paycheck. I know what it's like to WANT to save and cut expenses, only to find yourself in a position where there is nothing left to cut.
That's the hard truth about finance and money. There is only so much you can do without drastically reducing your quality of life.
What should you do? Downgrade your home? Sell your new-ish car and get an older one that has good gas mileage and cheaper insurance? In reality, those seem like doable steps, but they are options people rarely want to take, and that's reality.
MY OPINION
It doesn't matter how you budget your money. Every single budget, even the simplest ones, are entirely dependent on the personal lives and experiences of the person creating it. That means budgeting using percentages WILL NOT work for everyone.
The number one thing you have to remember is that following someone else's budget that they lay out for you, without evaluating your own specific situation will never work, at least not for the foreseeable future.
One of the most significant flaws I see with percentage-based budgeting is that it does not deal with the problem of lifestyle inflation, which is a financial killer.
Lifestyle inflation is increasing your spending when your income goes up. This makes it especially challenging to get out of debt, save for retirement or meet bigger financial goals. In fact, percentage-based budgeting has it built right into the model.
If your income increases by $2,000 every month, using a percentage-based budget, what you spend on specific categories is directly tied to your take-home pay. With such an income raise, your budget is now telling you that you can spend $1,500 on housing when you are perfectly happy and doing just fine in your $800 apartment.
To me, it never makes sense to spend more just because you make more. In my opinion, percentage-based budgeting leaves to much room for error. It does not combat reckless spending and doesn't allow you to budget for things that are truly important for your personal life.
ANOTHER SOLUTION
If you are going to use percentage-based budgeting, you have to make sure that the percentages that you are using align with your long-term financial goals. Plain and simple.
If you genuinely want to be specific with your budget and create something that will work, I highly recommend zero-based budgeting.
It will force you to give each dollar you earn a job and is wholly created on the needs and priorities of the creator.
I have been a zero-based budgeter from the beginning, and since starting, my financial picture has changed drastically. It has changed my relationship with money, and I am no longer stressed about how I am spending my money. I know exactly where it's going and why.
The bottom line, if your budget is not forcing you to be more intentional with your money, it's not working. The whole point of a budget is to make you aware of where your money is going so you can make better and wiser spending decisions. If it's not accomplishing this, what's the point?
Do you use percentage-based budgeting? How does it work for you? Let me know about it in the comments below!
Great article! I totally agree with zero-based budgeting. It forces us to justify each item on the budget.
Thank you Sharoon!