Put 20 percent down when buying a home. Don’t spend more than 30 percent of your income on housing costs. Keep child care expenses below 10 percent of your annual household income.
These money rules of thumb can be useful guardrails, helping you allocate spending and determine what’s affordable. They can also be incredibly defeating when they feel unattainable.
If money “rules” feel completely detached from your reality, know this: The average American doesn’t come close to hitting many of the popular money rules. And that’s OK.
“If you treat ‘rules of thumb’ as rigid rules, you’re setting yourself up for frustration,” says William O’Donnell, president of Heartland Financial Solutions in Bellevue, Nebraska. “The thing people tend to forget is that guidelines are flexible because everybody’s situation is different.”
THE RULE: Divide your budget into needs (50 percent), wants (30 percent) and savings (20 percent)
THE REALITY: Housing alone can easily eat up half of your take-home pay.The 50/30/20 rule is a popular budgeting framework that divvies up after-tax income into three buckets: needs, wants and savings. But must-pay expenses can bust that budget before you even get started.
In 2020, for example, 23 percent of American renters spent half or more of their income on rent alone, according to the most recent data available from the U.S. Census Bureau. Add in other needs—utilities, groceries, transportation, insurance, child care and debt payments—and there’s little, if anything, left over for wants or savings.
Don’t scrap your budget if the buckets don’t work. Instead, embrace the principle and adjust the framework to fit your current financial situation with an eye toward where you’d like to be long-term. Sure, it may be more of an 85/10/5 budget now, but over time you can move closer to your ideal balance.
THE RULE: Don’t spend more than 7 percent of your household income on child care
THE REALITY: Most families spend 20 percent or more on child care.The U.S. Department of Health and Human Services considers spending more than 7 percent of your annual household income on child care unaffordable.
But a whopping 51 percent of parents spend more than 20 percent, according to a 2022 survey from Care.com, which interviewed more than 3,000 parents paying for child care.
There are few things you can do to dramatically cut child care costs, but discounts and scholarships may be available, depending on your state and child care situation.
THE RULE: You need a 20 percent down payment to buy a house
THE REALITY: First-time homebuyers typically put around 7 percent down, according to data from the National Association of Realtors.The 20 percent down payment “rule” is an outdated one, says Jessica Lautz, vice president of demographics and behavioral insights at the National Association of Realtors.
Yes, lenders once required such a substantial down payment, but they now rely on private mortgage insurance, or PMI, to mitigate their own risk, passing on the cost to borrowers.
Homebuyers who put less than 20 percent down pay, on average, 0.58 percent to 1.86 percent of the original loan amount per year for PMI, according to Genworth Mortgage Insurance, Ginnie Mae and the Urban Institute. That can add hundreds of dollars to your monthly mortgage payment.
Putting in more money upfront lowers the monthly and overall cost of your mortgage, but emptying your savings to buy a home can leave you on shaky financial ground.
Roughly 3 in 10 homeowners (29 percent) no longer felt financially secure after purchasing their current home, according to a 2020 survey conducted by The Harris Poll for NerdWallet. That feeling was most acute among younger homeowners, with 42 percent of millennial and 54 percent of Generation Z homeowners feeling financially insecure after purchasing their home, compared with 31 percent of Generation X and 16 percent of baby boomer homeowners.
A mortgage broker can run the numbers to help you figure out the sweet spot for your down payment, but you also need to ask yourself a few questions, Lautz says.
“Do you need money in savings to remodel once you are in the home, or backup savings for other expenses?” she says. “Would a lower monthly mortgage payment be easier for other monthly expenses such as student debt or child care?”
