3 Actionable Personal Finance Rules to Help You Live Below Your Means

We’ve all heard the phrase “live below your means” before.

It’s pretty easy to understand that we should spend less money than we make, save for emergencies, and not live paycheck to paycheck.

Learning how to live below your means is a pretty simple concept to grasp, but can be difficult to do in practice, especially if you’re used to charging everything you want right now to a credit card and not following a budget.

So how do you actually live on less than you make? There are so many expenses and budget categories floating around out there that it can be hard to know where to start cutting.

I definitely struggled to understand what types of apartments I could afford, how much car I should buy, and how much to save for retirement when I graduated college. Especially since I had $56,000 of student loan debt to pay back!

However, there are a few personal finance rules of thumb that make it a whole lot easier to live below your means.

The key is to start with your largest monthly expenses, since they’ll provide you the biggest opportunities to save the most money.

These 3 personal finance rules of thumb will help you get your large expenses in check and leave more room in your budget for financial goals and things that add value to your life!

Suddenly that $5 coffee doesn’t matter that much when your rent isn’t taking up half your income every month!

Why is it Important to Live Below Your Means?

So what does it really mean to “live below your means?” Simply put, living below your means is spending less money than you make.

“Duh Megan, we know that.”

I feel like pretty much everyone understands this statement, but yet over half of Americans live paycheck to paycheck (which is a clear sign that you’re NOT living below your means).

Even worse, Business Insider published an article in June saying that 60% of millennials making over $100,000 per year are living paycheck to paycheck!

Clearly the message of living below your means isn’t getting through to most of us.

Living below your means isn’t just being able to afford the monthly payment.

Nor is it just saying “I pay off my credit card in full every month so it’s fine.” (It’s not fine if you still overspend, even if you can pay off the balance in full).

Living below your means is creating a significant margin between your income and expenses so that you can save and invest to build wealth.

So what is a “significant” margin? Keep reading to find out!

3 Personal Finance Rules of Thumb to Help You Live Below Your Means

If you google “personal finanace rules of thumb,” a ton of articles will come up with all these vague statements like “pay yourself first” and “avoid credit card debt.”

Yes, those are super important rules to follow. But I wanted to take that a step further and give you actionable, quantified rules to help you actually calculate how much house or car you can afford.

Because what does “pay yourself first” really mean, anyway?

A 3% 401k deduction from your paycheck is technically paying yourself first, but that alone probably won’t be enough to sustain your lifestyle in retirement.

Living below your means allows you to create a significant gap between your income and expenses so that you have confidence and control over your personal finances to empower you to live the life that YOU want!

In order to do that, it’s important to keep your larger expenses within a certain threshold so that you can create that income – expenses gap.

These 3 personal finance rules will help keep those big expenses in check so that you can make room in your budget to create your dream life!

Spend Less than 28% of Your Take-Home Pay on Housing

There are a handful of rules for how much you should spend on housing. Some say 25%, others 30%, and those in high cost of living areas might argue that it should be higher.

Typically, housing is the largest monthly expense most people have, so it’s important to make sure you’re living somewhere that you can actually afford.

Spending 28% of your take-home pay or less on housing is a good rule of thumb to ensure that your budget isn’t squeezed too tight.

I want to take a second and define take-home pay. Your take-home pay is what you get paid every month after taxes and before 401k and insurance deductions.

This means that you might need to add back in your 401k contributions or health insurance premium if they get taken out of your paycheck before you get paid.

“Housing” refers to either your rent or mortgage payment (principal, interest, taxes, and insurance) and doesn’t include utilities or HOA fees.

However, it is a good idea to understand what utilities will cost you and make sure you budget for them!

If you spent too much of your monthly income on housing, that means you won’t have much money left over to pay the electric bill, invest, and do fun things.

Take your monthly take-home salary and multiply it by .28. This is the maximum you should be spending on housing.

If you bring home $4000 a month, the maximum you should spend on rent or a mortgage payment is $1120/month.

I’m always a fan of spending less if at all possible (that means I have more money to fund my retirement accounts, go on vacation, or make larger donations to charity).

Obviously, make sure your housing is safe, clean, and comfortable. But a downtown loft might not be in the budget right now, and that’s okay!

How does your current rent or mortgage stack up to this rule? Is it over or under?

But What About High Cost of Living Areas?

I fully understand that some places have insane rent and real estate markets, and this rule “may not apply” because you’re in a high cost of living area.

While I understand that LA and New York are absolutely insane with housing prices, you can’t always use that as an excuse to bankrupt your budget every month.

Usually, a high-cost of living area will come with a fat salary to accommodate the fat prices.

If yours doesn’t, consider switching jobs, negotating a raise, or getting a roommate (or 4).

You could also compensate for a higher rent cost by taking money from another area in your budget.

The biggest example of this is living somewhere where you don’t need a car.

If you’re in New York and don’t have a car (usually people’s second largest monthly expense), I give you permission to spend more on rent (provided you can still save, pay down debt, and invest for the future).

Of course, do what makes sense for you.

Just make sure that your housing payment gives you enough room in your budget to save and build wealth along with maintaining the lifestyle you want.

And if you find yourself totally unable to afford housing in a HCOL area even with roommates, you could always consider moving.

It’s important to be honest with yourself here. If you can’t afford it, you can’t afford it.

What’s worse? Being completely broke in LA, or maintaining a fun lifestyle somewhere else?

Think about future you and where you’ll be in 5 years if you continue the path that you’re on.

I personally love living in the midwest, and it’s cheap to live here!

Spend Less than 10% of Your Take-Home Pay on Transportation

Transportation is usually the second largest expense most Americans have, so it also makes the list of the top 3 personal finance rules for living below your means!

And it gives me another chance to slam on car payments;)

Similar to the housing rule, choosing to keep your vehicle expenses at or below 10% of your monthly income ensures that you have money in your budget to do other things.

So what is included in “transportation” costs?

If you have a car, this includes the payment (if you have one), insurance, gas, and maintenance.

If you bring home $4000 per month, that means you should aim to spend no more than $400 per month on all of those items combined.

This is probably really easy for you to do if you don’t have a car and use public transportation (I guess it sort of offsets the rent prices in New York!)

But Megan, my car payment is more than $400 a month, your rule doesn’t work!

This is why I hate car payments so much. Car payments rob you of the ability to build wealth and do things that really matter to you.

$400 invested monthly into an S&P 500 index fund becomes $1.3 million after 35 years!

And think about all the cool travels and vacations you could go on if you saved that $400 in a vacation sinking fund instead.

How much faster could you get out of debt if you put that $400 toward your debt snowball?

Okay, I’m done with the car payments spiel. You get the idea.

Getting rid of your car payment by 1) paying it off or 2) selling it and buying a cheaper car makes sticking to the 10% rule so much easier.

Of course, if cars are super duper important to you and you want to spend more on them, consider living in a cheaper apartment or dialing back your lifestyle to offset that cost.

The 20/4/10 Rule

If you absolutely must finance a vehicle, the 20/4/10 rule gives you some boundaries around how much car you can really afford.

Put down at least 20% of the total vehicle price, finance for a maximum of 4 years, and make sure the monthly payment is less than 10% of your take-home pay.

This means that if you bring home $4000 per month, the absolute maximum you should spend on a vehicle is about $18,000 (which is a dang nice used car!)

Cars are depreciating assets, meaning they lose value over time. You don’t want to have too much of your net worth tied up in things that go down in value.

Once you pay off the car in 4 years or less, continue driving it for as long as possible without a payment.

I promise that not having a car payment is way better than upgrading to a car you can’t afford every 3 years to impress your friends.

The new car smell wears off after a few months anyway. And a new car becomes a used car as soon as you drive it off the lot!

Save at Least 15% of Your Gross Income for Retirement

If your retirement plan is to only invest enough money to get your 401k match, you’re in for a rude awakening when it finally comes time to retire.

Perhaps the most important of the 3 personal finance rules listed in this post is saving at least 15% of your gross income for retirement.

Notice how I said GROSS income, not take-home pay.

If you take home $4000 a month, your yearly salary is around $60,000 per year.

15% of $60,000 is $9000. $9000 divided by 12 months means that you’ll want to allocate about $750 per month toward retirement.

It’s super important to start saving for retirement early to start taking advantage of compound interest sooner.

The sooner you start, the more time in the market your investments have to grow, meaning that you’ll be a millionaire much quicker!

If you’re in your twenties, saving 15% of your gross income will allow you to continue your current lifestyle in retirement, assuming a traditional retirement age of 60-65.

If you wait until you’re 30, you’ll need to save around 18%.

If you wait until you’re 40, that percentage jumps to around 30-35%!

Of course, if you want to retire sooner than age 65, you’ll have to save more as well.

Check out this retirement calculator if you’re interested in running your own calculations. I used an 8% rate of return, 80% of pre-retirement income, and a retirement age of 65.

Prioritizing your retirement contributions also forces you to live below your means, because you’ll be automatically investing a percentage of your income. Hence, you cannot spend it.

Retirement is important, ya’ll. It’s not an age, it’s a number.

If YOU don’t plan and prioritize saving for retirement, you’ll never be able to stop working.

Make it easier on yourself by automating those contributions to your 401k and Roth IRA. You’ll get used to not seeing that money and you’ll automatically be living below your means!

Summary

In this post, we talked about 3 actionable personalf finance rules of thumb to help you live below your means.

Those 3 rules are:

• Spend less than 28% of your take-home pay on housing
• Spend less than 10% of your take-home pay on transportation (if you must finance a vehicle, put down at least 20%, finance for a maximum of 4 years, and make sure the monthly payment is less than 10% of your take-home pay)
• Always invest at least 15% of your income for retirement

Living below your means is crucial if you want get out of debt, build wealth, and accomplish financial goals.

These 3 rules will help you keep some of your largest expenses in check so that you can grow the gap between your income and expenses.

Start focusing on the largest expenses first, since those have the potential to save you the most money!

Living below your means takes practice, especially if you’re not used to living that way. Give yourself time to figure it out and make small changes over time.

Get on a zero-based budget and track where your money is actually going.

Make a plan to pay off your car early, research cheaper apartments, or learn how to negotiate a raise at your job.

Small steps add up BIG over time!

How do your housing, transportation, and retirement contributions compare to these rules? Are you planning to make any adjustments?

Let me know in the comments below!

-Megan