What is the purpose of 10-20-70 Rule?

The purpose of the 10-20-70 rule

The 10-20-70 rule is found in an old book called "The Richest Man in Babylon" by George Clason. This book is said to be responsible for making many millionaires and contains a collection of stories set in the time of ancient Babylon. It's loaded with words of wisdom for a wealthy mindset and wealth-minded practices. To follow the 10-20-70 rule, we acknowledge that our income is 100% of what we make. We then divide the income into three parts. You may ask which amount should be used, gross income, what you make before taxes are paid, or net income, what you make after taxes are paid. Now, if you're a business owner, this is the amount you have after business expenses and taxes are paid. I suggest you use the amount of your net income because you want to make sure that obligation of paying your taxes is net. Now, there are people who would argue whether or not the IRS has the authority to collect taxes, but for the purpose of this course, we're taking measures to get out of debt, not expose ourselves to the possibility of greater debt. So make sure you account for paying your taxes. Here's how you'll divide up your income. 10% of your income goes to your savings, 20% of your income goes to your creditors, and 70% of your income goes to your living expenses or your lifestyle.

Putting 10% of your income to savings

 Your savings should be set aside every pay period. If you get paid every day, set aside 10% of your income every day. If you get paid every week, set aside 10% every week. If every two weeks or once a month, set the 10% aside accordingly. For this discussion, where you save your 10% isn't important. The most important thing is that you are saving and you will feel the nobility of this act as you gain the well-deserved self-respect you earn by not spending everything you make.

Alloting 20% of your bracketed income to creditors

- Now for your 20%, you should be paying no more than 20% of your income to your creditors. There are a couple of debts that you should not include in your 20%. The first one is a mortgage. While your mortgage is a debt, if you don't assume a mortgage, you will need to pay rent, which falls under the category of living expenses. So unless your mortgage is excessive, you can consider it as a living expense. This means that your mortgage payments should be paid from the 70%, your income allotted to living expenses. If your mortgage is excessive you may need to consider it selling your home for a less expensive payment. The next step that doesn't necessarily belong to the 20% category is a car payment. While carrying a loan balance on a car is a debt not having a car can be a huge financial disadvantage in our society, unless you live and work in a downtown area of a large city, such as New York City. Transportation is a necessity in our society. If using public transportation is a viable solution for you, you may be able to eliminate the expense of a car altogether. But for most people, a car is a necessity. And in a family, two cars may be a necessity. For this reason, you should consider your car payments to be in the category of the 70% from which expenses are paid. Just realize that you may need to reconsider the kind of car you are driving, and if it falls within the means of your 70%. Student loans are another debt that may not belong in your 20%. If you're a professional working in a specific field where without your specialized education you would not be able to earn the income you are earning, you may have high student loan balances. Several hundred thousand dollars in student loans are not uncommon. If you have no other debt, you may be able to keep this in your 20% category. If you do have other debt, you may need to consider it as part of your 70%.

Choosing 70% of your living wages to go toward living expenses

Now for your 70%, your living expenses should utilize 70% of your income and no more than that, they might even be less. This includes your food, clothing, gas, insurance, entertainment and other expenses. What many people find is that the category allotted to their living expenses is out of balance. Most of the time, the amount spent in this category far exceed 70% of the allotted income, that's a tough realization, but this is where the rubber meets the road. For your convenience, we are giving you the 10-20-71 worksheet, which is really just a cashflow worksheet that you can use to make an assessment of what's happening with your income and how it's being spent. Knowing what's happening is the first step towards knowing what to do. Looking at yeah your living expenses, you may need to make some changes so you can be more successful enacting your plan to get out of debt. Now, unlike other financial gurus, that tell you to give up your coffee and become a millionaire by saving on that expense alone, I'll never tell you that to give up your daily coffee. I could do that. Personally, I don't spend my money the local coffee shop, but the truth is is that has nothing to do with me being financial savvy, you see? I don't spend my money on coffee because I don't like coffee. But I do recognize that your daily coffee might be your bit of heaven on earth, and who am I to take that away from you? If you decide to eliminate your daily trip to the coffee shop, fine, but do it because you choose to do it and you're willing to go without it. Maybe you don't like coffee either, and you'll find some other expense or expenses that you can eliminate from your budget. Now if you and your spouse are working on getting out of debt, please remember to demonstrate the same kind of sensitivity with your spouse that I just expressed with you towards coffee. One of you may be willing to give up coffee and the other unwilling to do so. The person who is willing to give it up, shouldn't condemn the person who isn't willing, and the person who isn't willing to give it up should be quick to find another area where they are willing to make adjustments. Remember that what each of you wants to spend money on may differ, so you will need to find compromises where neither of you feels like you're the one who has to make all this sacrifices or carry the greater burden. Don't take away the other person's bit of heaven, instead, help each other find ways to have a bit of heaven while paying down your debts. Choose to come alongside each other and work together to achieve your goals. It really is the best way. Maybe your daily coffee purchase is something that you need to consider. Maybe it's something else. Look at what changes you can make with your spending that can help you achieve your financial goals.

Alternative ways to break up your income

As you work throughout this process of deciding what expenses you need to reduce or eliminate, try to identify positive alternatives to these expenses so that you feel rewarded and not neglected. For example, if you determine you should eat fewer meals out, find ways to create some of your favorite meals at home. Rather than sitting in front of the TV to eat, set a table, light a candle, play music, have fun recreating the foods and experiences that you enjoy while eating out. Try to imitate what you enjoy. One thing to enjoy about eating out is not having to do the dishes. You don't have to wash them. Unfortunately, I don't have a solution to that. Occasional use of paper plates can be a treat, but you'll find that loading the dishwasher and using a little elbow grease will eliminate the extra expense of disposable dishes. If you do decide to change your coffee routine, think about the old days. People used to use a coffee pot, both at home and at work, to make their coffee. You can add a few of your favorite additives to perk it up a bit if you wish. Consider coffee shop beverages as a less often treat, or even as a reward for certain milestones in your debt payoff. If you are accustomed to going to the theater, you might consider the less expensive option of watching movies at home. You might even want to invite friends over and pop some popcorn, but no, you shouldn't go invest in a big screen for the savings. If you already have one, that's great, but don't go out and get one. If you enjoy spa days and decide that's something you can give up, you can replace it with a good, soothing soak in the home tub. Use Epsom salts, smell goods, candles, music, special towels. Try to recreate some of the things you enjoy about the spa experience at home. Remember your positive self-talk. You shouldn't wear a long face and say you're doing this to save money. Instead, choose to think of these things as homemade entertainment or a new kind of hobby. Give yourself special, meaningful to you rewards, not expensive rewards. After all, the rewards do have to come from your 70%. You can go ahead and download the 10-20-70 worksheet. John will discuss more about filling it out later in this course. This worksheet will help you make an assessment of how your income should be divided up according to the 10-20-70 rule, and how it is actually being divided up.