Most people can tell you pretty much to the penny how much their mortgage or rent is every month. They can tell you how much they pay each month for their car loan.
But ask them what percentage of their income should be allocated toward housing or transportation and they hesitate.
Many don’t know.
“Most consumers we counsel don’t know how to create a realistic budget,” said Tanisha Warner, corporate spokeswoman for Money Management International, a nonprofit consumer counseling organization.
Last year MMI helped create personalized budgets during counseling sessions for more than 180,000 clients. Warner says 39 percent of the clients they counseled in 2005 attributed “lack of budgeting skills” as their primary reason for experiencing financial hardships.
“Consumers who are familiar with creating a monthly budget usually allocate amounts subtracting from total income in lieu of percentages,” she said.
That’s one frustrating way to budget.
Budgeting using percentages as a guideline helps you increase savings, repay and reduce debt, prevent impulse spending, distinguish between a need and a want, and identify expenses that can be reduced, Warner said.
Here is what MMI recommends: Your rent or mortgage (including insurance and taxes) should be about 27 percent of your income, minus taxes. If yours doesn’t fall at exactly 27 percent, don’t worry. The range typically is 20 percent to 35 percent.
Mortgage lenders use your gross income to determine how much house you can afford, and you can also do that with budget percentages. But to make this simple, let’s deal with your net. So let’s say you bring home $60,000 (round numbers are easier). Using the 27 percent figure, your mortgage should be about $16,200 a year or $1,350 a month.
What about your transportation costs? Do you know how much of your budget should be devoted to those expenses (gas, insurance, maintenance)? It should be about 8 percent, Money Management tells its clients.
Here is a list of budget allocations MMI recommends, including comfortable or affordable ranges:
- Personal debt (credit cards, personal loans), 14 percent, with a range of 10 percent to 20 percent.
- Housing, 27 percent. Range: 20 percent to 35 percent
- Food, 21 percent. Range: 15 percent to 30 percent.
- Transportation (including car loan, insurance and gas), 8 percent. Range: 6 percent to 20 percent.
- Utilities, 6 percent. Range: 4 percent to 7 percent.
- Clothing, 4 percent. Range: 3 percent to 10 percent.
- Miscellaneous (travel, child care, entertainment, gifts), 1 percent. Range: 1 percent to 4 percent.
- Savings, 7 percent. Range: 5 percent to 9 percent.
- Insurance (health, life, disability), 6 percent. Range: 4 percent to 6 percent.
- Personal care, 3 percent. Range: 2 percent to 4 percent.
- Health (prescriptions, eye care, dental), 3 percent. Range: 2 percent to 8 percent.
Keep in mind that these percentages and line items are just guidelines. They help you establish a barometer. The range and categories will depend on many factors, such as whether you’re married, have children or live in a high-cost area.
If 60 percent of your income is spent on housing, transportation and food, you’ve got to make the remaining 40 percent work by refiguring the percentages.
“Everyone is different, and everyone really does have different percentages,” Warner said.
Let’s say you net about $50,000 a year. The MMI guidelines allow for about 4 percent of your budget for clothing, or $2,000 a year.
Now, you can split that up and buy dozens of items or splurge on one complete high-fashion designer outfit. But once you hit that $2,000 mark, stop shopping.
Using a percentage method to budget helps you remember how much you can spend in any one expense category and overall. If you budget this way, you will have financial freedom and peace of mind.
Contact Michelle Singletary at The Washington Post, 1150 15th St. NW, Washington, DC 20071, or singletarym@washpost.com.
